Hi, just how hard is it to do a 1031 exchange? Mine would be complicated. I own a 2 family and live in 2/5 of it. My understanding is that I

Asked by bicyclesarah, Somerville, MA Thu Jul 19, 2012

need a specific kind of attny and only have ?6 mos to use the profits to buy something new. I will have no problem selling, but want to buy another 2 family in Cambridge and am concerned these are quite hard to find/obtain. I own my house outright and after 20 yrs it's tripled in value, so I will get killed in cap gains otherwise. Thanks!

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Dennis Joseph’s answer
Dennis Joseph, Agent, Cambridge, MA
Fri Jul 20, 2012
Hi again Sarah,
Larry offered some excellent advise in recommending that you sit down with your financial advisor. "Run the numbers" with a tax accountant or tax attorney knowledgeable in these matters. That is a first essential step.

However, and with all due respect to Larry, I think his experience of “98%” of people gaining nothing is far from the reality in the Boston area. My experience with attorneys is also very different. I have not seen attorneys raking in excessive fees and complicating things for their clients. Apparently, things are much different in Durham than in Boston.

In fact, in every exchange I have been involved in or aware of, the facilitators were highly competent. Rather than complicating things, they clarified the process and demonstrated that, for an experienced, knowledgeable professional it is, in fact, quite straightforward. Furthermore, in the majority of cases, the facilitators charged no fees but rather received their payment—with agreement from the client, of course—by collecting interest on the funds which they held in escrow for six months or less.
Nothing more.

It is obvious from your original question that you are aware of the $250,000 tax exclusion available ($500,000 if married filing jointly) and that it only applies to the 2/5 of your house which you maintained as your primary residence. If I understood you correctly, your question was "Can a 1031 tax exchange save me money on the 3/5 of property that was used for investment?" Also, "How complex is it?"

First of all, I do not agree that you are just “kicking your liability down the road and hoping that sometime in the future your liability will be less.” It is almost a certainty that upon retirement your income will be lower than it is currently and that your tax liability will be lower, possibly much lower.

But I think Larry misses the point in a more important way. 1031 exchanges are not just a method of saving taxes but a wealth-building vehicle. Instead of paying taxes on your proceeds you are reinvesting money which you would otherwise not have had at all! And you are putting that money into a more valuable investment and generating income from it!

And who says you have to sell and pay (reduced) taxes at a later time? If you wish to dispose of your investment property you could again exchange it for a different, more valuable one. Or you could hold it the rest of your life and bequeath it to an heir, never paying any tax at all! In that case, the property is no longer subject to capital gains tax but rather to estate tax which is greatly more favorable to your heirs.

So I would not be nearly so quick to tell you that there aren’t “any real advantages” and to imply that you should just pay the 15% Federal long-term capital gains tax plus 5.3% to the Commonwealth. What is more, these amounts are current only to the end of this year. You may be aware that the 15% Federal rate is scheduled to increase to 20% beginning next January.

You may wish to explore the option of a tax-deferred exchange or you may not. You may decide never to sell your house! But my experience with Cambridge and Somerville clients doing tax-deferred exchanges is far different from what you may have concluded from some of the other responders. The key is to work with experienced and knowledgeable professionals who are dedicated to working in your best interest. There are many in our area. The process can be streamlined, safe and highly profitable. I have experienced it.

Regarding your comment about the condition of the house, that needn’t necessarily be a concern either. As I mentioned previously, inventory has been particularly low for at least 18 months. You have certainly experienced this if you have been keeping an eye on the market for a multi-family home to purchase. Our market remains active with buyers of all types of property, buyers willing to pay well for good properties, properly marketed and presented.
1 vote
My NC Homes…, Agent, Chapel Hill, NC
Fri Jul 20, 2012
BEST ANSWER
1031 Exchanges are used for investment property not primary property. As a primary residence if you're married you could earn up to $500,000 in profit and there are no tax ramifications.

I've been buying and selling real estate for over 30 years and honestly have never done a 1031 exchange though as a broker I've helped others. To be honest I've never seen any real advantage as all you're essentially doing is kicking the tax liability down the road and hoping that sometime in the future your' liability will be less.

On the other had I've seen lots of tax attorneys make lots of money and complicate things for the very clients their supposed to be looking out for handling 1031 exchanges.

I would not be in a hurry to do this if I were you. I would sit down with your own financial adviser , and accountant and discuss the pros and cons very carefully and if they and you think that this makes sense then ask them to suggest an attorney who specializes in 1031 exchanges for further consultation.

I have rarely come across anyone who in my opinion really benefited from doing these, 98% of the people I've seen do these simply complicated their lives and wasted a lot of time, money and energy for a net gain of nothing.
0 votes
John Dean, Agent, Somerville, MA
Mon Nov 5, 2012
Sarah,

1031 Exchange process is not difficult with the right team in place. I just completed a 1031 exchange in the spring on a multifamily transaction in Somerville. Everything was as smooth as silk and the transaction closed in under 3 weeks.

The difficult part would be finding a multifamily home in Cambridge. This year the market has been extremely slim in Cambridge and especially with multifamily properties. Right now there are only 12 properties on the market and 4 of those properties are in the sales process. This has been an extremely competitive property type as developers seem to be snatching up many of these homes to condo and turn for profit.

I would be happy to review your property and offer you my opinion on it's market value. This may help you plan the next steps in the process.

My best recommendation is to meet with an aggressive Realtor that can help you find properties quickly and you may want to look on the Somerville/ Cambridge line to expand your opportunities.
0 votes
Heath Coker, Agent, Falmouth, MA
Sat Jul 21, 2012
You need both a "Qualified 1031 Exchange" specialist in the legal department, in the selling department, and in the buying department. (You may be buying and selling in different towns/stats.) I would spend a lot of time on the net reading more about 1031 exchanges and the check list of steps and procedures that are necessary. Even search terms like "bad 1031 exchange" "my 1031 lawyer didn't" so you find some horror stories as well as the procedures and successes.

This is a preferred way for some investors to do business and others don't use them at all. As with all investments, it works for some and not all.

(Please note: when you choose an answer as a Best Answer, or at least give a thumbs up, it helps those who answer questions here.)
0 votes
bicyclesarah, Home Buyer, Somerville, MA
Fri Jul 20, 2012
Thanks everyone. Larry especially- that makes complete sense. Actually, the best thing is not to sell at all in any case. Just took awhile to accept that since the old behemoth needs a lot of work.
I would add that I did go to an Eplace seminar and it was good, but much more basic stuff than this kind of thing.
Best, Sarah
0 votes
Hi again Sarah,
Larry offered some excellent advise in recommending that you sit down with your financial advisor. "Run the numbers" with a tax accountant or tax attorney knowledgeable in these matters. That is a first essential step.

However, and with all due respect to Larry, I think his experience of “98%” of people gaining nothing is far from the reality in the Boston area. My experience with attorneys is also very different. I have not seen attorneys raking in excessive fees and complicating things for their clients. Apparently, things are much different in Durham than in Boston.

In fact, in every exchange I have been involved in or aware of, the facilitators were highly competent. Rather than complicating things, they clarified the process and demonstrated that, for an experienced, knowledgeable professional it is, in fact, quite straightforward.
Flag Fri Jul 20, 2012
Eric Erickson, Mortgage Broker Or Lender, Andover, MA
Fri Jul 20, 2012
Call HB Buckner Senior Exchange Specialist at Legal 1031 Exchange Services, Inc. at
603.801.9056

HB and I worked together for last 20 years. He is an expert in these exchanges.


Best of luck,

Eric Erickson
0 votes
Susan Murie, Agent, Cambridge, MA
Fri Jul 20, 2012
Hi Sarah,

At ePlace, on Mass Ave across from Cambridge City Hall, we offer free workshops in real estate investing. We just had one this week but they are offered on a regular basis. Check our website for upcoming workshops which are rich in content and with no pressure or obligation.

http://eplacehomes.com/workshops/



Susan Murie
Realtor, ePlace, Cambridge
susan@eplacehomes.com
0 votes
bicyclesarah, Home Buyer, Somerville, MA
Thu Jul 19, 2012
Wow, thanks for the quick replies. Very helpful.
0 votes
Michael Emery, , Minneapolis, MN
Thu Jul 19, 2012
Many years ago we had a representative from Starker Services come out and explain the complexities of doing a 1031 exchange. I would suggest you use the services of a 1031 exchange company to ensure you don't end up with a tax liability due to error. See the link for Starker Services.
Web Reference:  http://www.starker.com/
0 votes
Dennis Joseph, Agent, Cambridge, MA
Thu Jul 19, 2012
Hi Sarah (?),

Thanks for asking such a great question!

Just as with many things in life which have some complexity, if you have someone beside you who has been down the same path before, things become much simpler.

I suggest that one of the more difficult parts in reaching your objective is finding professionals you can trust to handle the details, such as a 'facilitator'.

When you sell your two-family, the 3/5 of the proceeds regarded as your investment profit will be disqualified for use in a 1031 exchange if you 'touch' the money. You can not receive a check in your name at the closing from the 3/5 investment portion of the proceeds and you can not let the money get deposited into an account you control. Money which is to be used for a 1031 Exchange (also called a 'Starker' exchange) must go directly to a facilitator.

You may know this but a facilitator can be an attorney who specializes in 1031 exchanges or, more often, a company specializing in tax-deferred exchanges. Prior to the closing of the sale of your house you must hire a facilitator who will be authorized to receive the investment profit from your house at the closing of your two-family and who later will pay that money towards the purchase of your next property.

A good facilitator is priceless because he or she assists people with the 1031 exchange process all the time. A good facilitator knows how to handle every detail and will make certain you are aware of your responsibilities and time constraints every step of the way.

You are correct about the possible difficulty of finding an appropriate replacement property. Inventory is low and competition for the best properties is stiff. But there are strategies for managing this uncertainty.

In fact, one of the two major exchange types is a 'reverse exchange', in which you buy a replacement property prior to selling your house. However, based on your question, I suspect this may not be the best option for you.

In the more typical 'Forward Exchange', from the time you close the sale of your property you have 45 -calendar- days to -identify- a replacement property. You must then close on the replacement property within 180 *calendar* days of the closing of your current house. These are strict deadlines which can not normally be altered but there are ways of gaining some flexibility for yourself. For example, if you ave having difficulty finding a replacement property you might be able to persuade the buyer of your house to delay the closing of your sale, thus delaying the beginning of your 45- and 180-day time frames.

This may be easier than you think, depending especially on the current condition of your house and your buyer's plans for the house. For more than fifteen years I have specialized in helping multi-family owners deal with every aspect of marketing, selling and transferring their property in a beneficially timely manner, according to the circumstances. Special circumstances are much more common than you may expect. I suspect you would be surprised at some arrangements I have negotiated for my clients. Everyone circumstance is unique.

Starker Exchanges are much less common these days than they were even five or ten years ago. I have participated in a number of exchanges and at your request can recommend the best facilitators in the business as well as assist you in selecting one best suited for your situation.

If you are beginning to form a strategy for the sale of your house—which it seems you are—I suggest that what would help you the most is to sit down with a qualified, experienced real estate professional experienced in multi-family sales who is also knowledgeable and has had experience in the areas of real estate taxes and 1031 exchanges. (Not surprisingly, I have a great recommendation for you!! 8-)

Talking through the process and through various scenarios specific to your situation will help clear things up for you and show you that, however complex the process may now seem, it is eminently manageable.

I hope this information helps and has answered your main questions. Of course I would be pleased to meet with you privately to continue the discussion and assist you in developing a strategy best suited for your situation. No obligation, of course—this is what I do!

-Dennis
RE/MAX Destiny, Cambridge
617-576-3802
Dennis@DennisJ.com
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