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Thanks to IRC § 1031, a properly structured 1031 exchange allows an
investor to sell a property, to reinvest the proceeds in a new property and
to defer all capital gain taxes. IRC § 1031 (a)(1) states:
"No gain or loss shall be recognized on the exchange of property held for productive
use in a trade or business or for investment, if such property is exchanged solely for
property of like-kind which is to be held either for productive use in a trade or business
or for investment."
To understand the powerful protection a 1031 exchange offers, consider the following example:
- An investor has a $200,000 capital gain and incurs a tax liability of approximately $70,000 in combined taxes (depreciation recapture, federal and state capital gain taxes) when the property is sold. Only $130,000 remains to reinvest in another property.
- Assuming a 25% down payment and a 75% loan-to-value ratio, the seller would only be able to purchase a $520,000 new property.
- If the same investor chose to exchange, however, he or she would be able to reinvest the entire $200,000 of equity in the purchase of $800,000 in real estate, assuming the same down payment and loan-to-value ratios.
As the above example demonstrates, exchanges protect investors from capital gain taxes as
well as facilitating significant portfolio growth and increased return on investment. In order
to access the full potential of these benefits, it is crucial to have a comprehensive knowledge
of the exchange process and the IRC. For instance, an accurate understanding of the key term
like-kind - often mistakenly thought to mean the same exact types of property - can reveal possibilities
that might have been dismissed or overlooked. Click the following link for more 1031 exchange related
information, 1031 Exchange – Asset Preservation.
View more information in the pdf documents below:
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