Many REI beginners ask themselves, “What are the rules of a 1031 exchange?” Had I been clear on the answer to this question, it would have changed how I paved my real estate career early on.
Look, a 1031 exchange is just like anything else. There are benefits and downsides. However, you can take advantage of both of these if you have a full understanding of them.
In this article, I’ll go over what the rules are of a 1031 exchange and how to use them to kickstart your real estate investing career.
1031 Exchange Overview
Before we get into the rules of a 1031 exchange, I’ll quickly go over what it is, what it isn’t, and a couple of points that are often overlooked.
In a very general sense, a 1031 exchange is when one property is exchanged for another with certain caveats attached.
The name for this exchange comes from the IRS code that allows it. This real estate code has existed since 1921.
When you decide to take advantage of a 1031 exchange, you are able to write down the depreciation on the current property so you can get into another investment and pay taxes later.
You aren’t avoiding taxes! But you should note that sometimes it’s better to pay the taxes than to exchange into a bad deal.
This sounds great, but you need to know the strict 1031 exchange rules before you start using it effectively. Otherwise, you risk your investments.
Inflexible 1031 Exchange Rules
It is important that you are confident you can execute these requirements for the 1031 exchange — or you will lose it.
This is the bare minimum you will need to make a 1031 work:
- It has to fit the parameters of what they call a “like property.” However, this is not as bad as it sounds. A knowledgable account can help you identify them based on what you currently have.
- You have to carry the same amount of debt over from the last deal. Here is where it gets more difficult. It can be limiting when looking at qualifying properties or ones you would even want.
- You have 45 days to identify not one, but three options to use your 1031 exchange for. The challenge speaks for itself.
- Including the 45-day identification period, you have only 180 days to close.
By telling you these 1031 exchange rules, I am not trying to discourage you. A 1031 can be great, and all of the parameters can be done and to your benefit.
The key to winning in real estate is knowing your market and all of your options.
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