All Forum Posts by: Sean Ross

@Seo Hui Han,

You certainly can 1031 exchange from your current commercial into a multifamily; no technical issues there.

To speak generally, multifamily properties tend to have more stable cash flow but lower income potentials than commercial. Commercial also tend to have longer leases and the tenants usually take care of more day-to-day stuff. 

Would you be managing the multifamily yourself? If you don't cash flowing will be harder.  If you do, you just want to make sure you're up for the management complexity (tenant communication, multiple leases, maintenance, etc)

If you want to unload your commercial property, remember that you can 1031 into all kinds of different assets, depending on what matters to you most. You mention cash flow several times, so I wonder if that's the most important variable for you...? There might be cash flowing options for you that are less hassle than multifamily. 

Other notes:

- you certainly can, but don't have to, keep the same equity ratio when you 1031.  It's much harder to deleverage in a 1031, but you're in a good enough equity position that doesn't seem like it's a top concern here. 

- if you're buying and selling in California, just know that the California Franchise Tax Board scrutinizes 1031 exchanges more than any other agency in the US, even more than the IRS.  You want to work with a QI that has a lot of experience with the CFTB.  Happy to go through a free consultation with you on this front. 

This is spot on correct.  Especially in today's interest rate environments.  Qualified Intermediaries make a significant portion of their revenue on the interest held on their funds. In the long post-2008 stretch when interest rates were very low, almost no QIs paid interest because there simply wasn't much.  The past few years are different. 

No major QI firm, not even my own, advertises about paying interest on deposits (the IPX website, for example, has no info on this). But almost all of us do pay interest. It's also very often negotiable, especially if you exchange at volume or with larger properties. 

However, I want to stress that fees and interest on deposits are very bad leading variables when picking a qualified intermediary.  The difference between a $1000 exchange and a $1500 exchange is insignificant when compared to the tax hit if your exchange is done improperly.  Same goes for earning $0 on interest vs earning $1300 in interest during your exchange.  

Bad, lazy, or uninformed QIs make mistakes that can get investors on the wrong side of the IRS.  These mistakes cost tens of thousands of dollars and are extremely stressful.  Corrupt QIs have been known to run away with client money before, or to invest their clients funds in inappropriate ways. 

Ask for interest; it's a good idea.  But ask for interest after you've found a QI that takes their job extremely seriously, offers legitimate client service, and has a verifiable track record. 

@Robert Weissfeld, 

Yes, you can sell, cash out half, and 1031 exchange the other half.  The half of the duplex that you are living in will qualify for Section 121 exclusion if you've lived in it for at least 24 months out of the prior five years.  This exclusion allows you to ignore up to $250K of capital gain (or $500K if married filing jointly) on the half that you live in.  Huge benefit. 

You can't directly 1031 into another primary residence.  As Dave points out, only real estate held for business or investment use qualifies for 1031.  

You can move into the new property after holding for investment initially.  The safe rule of thumb here is to treat your new property as an investment for at least 24 months before moving in, AND making sure to rent out the new property for at least 14 days per year while it's an investment. 

You can buy the new investment, then move in, and then sell, and then get some tax benefits.  Let's suppose you find a property via 1031, then rent it out for a few years before moving in.  All good - no issues there.  This happens all of the time.  The suppose you live in it for another couple of years and sell again -- do you get the Section 121 exclusion?  Yes, but not entirely. 

This gets a little wonky, but the IRS is going to look at that future sale and allocate the built up capital gain pro rata  between the amount of time it was a primary residence vs the amount of time it was a rental.  Here's a scenario: you rent the property for two years, then move into it for three years.  If you sell that property at a $200K gain, for example, then only the gain allocable to the three years is eligible for exemption under Section 121, and the gain allocable to all of the rental years even going back to your original duplex will not be exempted under Section 121.  In this scenario, you're likely only able to use the exemption for less than half of the $200K gain. 

One more thing:  you will never be able to exempt the depreciation recapture in the future by selling as a primary residence.  That recapture will be taxed at 25% regardless of how long you lived in the new property.  

All this to say that you should work with detail-oriented experts if you really want to go down this route, because it's easy to get a little sloppy and end up with a much bigger tax bill than you expected. 

@Ryan Fox, it's a consensus here.  A 1031 exchange would likely only cost you a fee, plus impose rules on how to use your sale proceeds and when, without providing a tax benefit. 

As @Michael Plaks points out, the way that you speak about the "gain" from sale means that you're likely confusing capital gain with net equity after expenses.  I can't be sure, but it's an easy mistake to make at first glance. 

Work with someone to calculate your actual gain from sale.  If your actual capital gain (net sales price minus your adjusted cost basis) is going to be larger than $131K, then we can have a conversation about a possible 1031.  I think that's probably unlikely given what we know. 

@Dominique Coffin,

This is much more common in our current interest rate environment. 

There are a lot of possible issues with seller financing while doing a 1031.  It's possible!  But you want to be careful.  A direct attempt at seller financing will result in taxes being recognized for the value of the carryback note (making the exchange less efficient). The carryback note is not considered a valid asset to receive in an exchange. For example, if you sell a $750K property with $500K in seller financing...well, the $500K will be excluded from the exchange and capital gains taxes will be recognized as payments are made.  Even worse, all of the depreciation recapture taxes allocable to the $500K will be recognized and due in the year of sale. 

(There are even some who believe that the seller providing a loan to the buyer will disqualify the exchange entirely, but that's not been our experience.)

The most straightforward solution is to have the seller provide a cash loan to the buyer outside of closing.  This way the buyer can come to closing with all of the necessary funds to allow for a normal 1031.

  If the seller is not liquid enough to provide a loan, they could attempt to find another financing option for the buyer.  If this doesn't work, then the seller can have the carryback note made payable to their 1031 Qualified Intermediary.  The Intermediary can then sell the note to any party, including the seller or a seller's family/friends.  Any proceeds from the sale of the note can be added to the 1031 exchange account to allow for more tax deferral. 

The issues get a little deeper, but the key takeaway is that careful planning is very, very important.  A lot of my company's clients are trying to do this in 2024, with mixed results. 

Happy to answer any questions you have. 

 Thanks for posting Josie.  

How is your property in CA performing for you? Are you set on selling it?

You certainly can 1031 exchange from CA to Hawaii, although the California Franchise Tax Board will make it a little more annoying by forcing you file a new form (Form 3840) each year after you sell...failure to file the form will result in taxes owed. 

And in any 1031 exchange, you only get full tax deferral if what you buy is worth at least as much as what you sell.  If you sell for $772 (let's call it $740 after closing costs), then you'd want to buy a replacement worth at least $740ish in Hawaii.  Alternatively,  you can buy multiple smaller properties in a 1031 that combined add up to your initial sale value.  

My company, 1031X, is a nationwide 1031 provider. We've been in the business for 31 years and have the highest client satisfaction ratings. I am always happy to give you a 100% free consult IF you decide to do a 1031.  

@Nathan Frost,

Thanks for posting.  If you are selling two properties that have appreciated (or have taken significant depreciation), then a 1031 exchange is almost certainly a good route since you're looking to reinvest. 

As @Erica Calella mentioned, planning in advance of the 1031 is very important, particularly if you're not terribly familiar with the rules and flow of an exchange. 

A few rules to keep in mind as you get started:

 - To get full tax deferral, you have to replace the full value of what you sell.  If you sell two properties at, say, $700K and $300K respectively, then you can either combine those into a single exchange and buy at least $1M of replacement properties OR you can split them and have one exchange trade for at least $700K and another for at least $300K. 

 - To get full tax deferral, you have to move all of your equity over into the new properties as down payment. 

 - You only have 45 days from your sale date to come up with a list of properties that you might want to buy next.  This rule is ironclad and can be tough to navigate. If you're combining your two property sales into a single exchange structure, then the first sale date in May will start your 45-day clock for both properties. 

 - You have to work with a Qualified Intermediary; the IRS won't let you complete a 1031 on your own.  My company, 1031X, has been in the business for 31 years nationwide, and we have the highest client satisfaction rating in the US.  Our consultations are 100% free if you want to brainstorm about the best method to attack your exchange. 

 @Annette Homewood, if you're looking at an NNN/TIC, you're going to be an owner of some % of the fee interest in the property, which means that you're also a borrower and that you have a vote on all major investment decisions for the property. Almost all large industrial or commercial TIC structures involve a management company run by or hired by the sponsor, so you're not making day-to-day decisions.

The DST is different in that it's a separate fee owner of 100% of the property and is the sole borrower. You're making no decisions at all. Some investors like this, others don't.

If you are really concerned about liability and management exposure, DSTs exist in a bit of a separate world technically (though not always practically). 

What variables do you feel like are most important to you?  Cash flow? Limiting liability? Diversification? Limiting fees? Investment minimums?

@Ed Ma, I'll send you a PM.  First step is to see what options you have to land on.  Once you have something to compare against, it'll be much easier for you to determine if 1031 exchange is worthwhile. 

@Michael Whiting,

To proceed with a 1031 on your portfolio of rentals, you need to partner with a Qualified Intermediary to act as your 1031 accommodator (the IRS requires this).  My company, 1031X, is 31 years old and is a top-rated national 1031 firm.  I'm happy to walk you through a free consultation. 

Since you're selling 8 SFRs, this could break up into multiple distinct exchanges (most likely), but you have the option of combining multiple sales into single exchange purchases.  You have to line up the timing and valuation properly. 

Are you already listing these SFRs or have any of them under contract? Or are you simply in the preliminary stages right now?