Compound Your ROI With The 1031 Exchange

Are you a real estate investor looking to increase your return on investment (ROI)? A 1031 exchange may be the answer. 

1031 exchange, a like-kind exchange, is a tax deferment strategy that allows investors to swap out an investment property for another and defer capital gains or losses. Instead of paying taxes on the sale of your property, you can reinvest the proceeds into another property and continue to compound your ROI.

At our Royal Investing Summit, Dan McCabe, Co-founder and President of Exchange Resource Group, shares his 40 years of experience in handling 1031 exchanges and how they work as an investment strategy. 

In this blog post, we'll discuss what a 1031 exchange is, how it works, and what rules you need to follow to take advantage of this powerful tax deferment strategy. 

How Do You Defer Capital Gains Tax With A 1031 Exchange?

When selling an investment property, a 1031 exchange allows you to defer capital gains tax by reinvesting the proceeds into a similar type of property:

  • Exchange your investment property for another "like-kind" property.
  • The exchange must be completed within 180 days of the sale of the original property.
  • You must identify potential replacement properties within 45 days of the sale.
  • You must close on the replacement property within 180 days of the sale.
  • Any profits from the sale are deferred until you sell or dispose of your new investment property.

What Are The Rules And Regulations For a 1031 Exchange?

A 1031 exchange, a like-kind exchange, is a tax deferment strategy that allows investors to swap one investment property for another and defer capital gains taxes. 

Here are the rules and regulations of a 1031 exchange:

  • The replacement property must be of equal or greater value than the sold property.
  • The exchanged properties must be of "like-kind," meaning they must be similar in nature or character.
  • The purchase price of the Replacement Property must equal or exceed the selling price of the Relinquished Property.
  • You must identify a replacement property for the assets sold within 45 days.
  • You must conclude the exchange within 180 days.
  • You may take some money out to use any way you like, but you will be liable for paying the capital gains tax on that amount.

Imaginative Ways To Use A 1031 Exchange

There are more imaginative ways to use a 1031 exchange than a traditional one.

Reverse 1031 exchanges, Reverse Improvement Exchanges, and Reverse Construction Exchanges are all viable options that can help you maximize your gains while minimizing your taxes.

Reverse 1031 Exchange

A Reverse 1031 Exchange is a tax deferment strategy that allows real estate investors to trade one investment property for another without incurring capital gains. 

Here are important points to consider when looking into a Reverse 1031 Exchange:

  • The replacement property must be purchased before the relinquished property is sold.
  • The investor can only take actual possession of the replacement property after the relinquished property is sold.
  • The exchange must involve like-kind properties, which must be held for investment or business use.
  • A qualified intermediary facilitates the exchange.
  • There are strict timelines for the exchange to qualify for tax deferment.

Reverse Improvement Exchange

A reverse improvement exchange is an advanced exchange that allows taxpayers to acquire their intended replacement property before selling their current property.

It combines a reverse 1031 exchange and an improvement 1031 exchange. 

Here are some key points about this type of exchange:

  • A reverse exchange occurs when the taxpayer wants to acquire the replacement property before closing on the relinquished property.
  • The exchange facilitator holds or "parks" title to the new property on behalf of the taxpayer.
  • This combined strategy allows improvements to the acquired replacement property.
  • Reverse exchanges enable taxpayers to lock up the replacement property before transferring their relinquished property to a buyer.
  • Documents must be sent to all appropriate parties for the process to be successful.

Reverse Construction Exchange

A reverse construction exchange is a combined strategy that allows an investor to acquire their replacement property first and improve it before selling the relinquished property. 

It involves the following steps:

  • An Exchange Accommodation Titleholder (EAT) holds title to the replacement property on behalf of the exchanger.
  • The exchanger then finds a buyer for the relinquished property and closes on the sale.
  • The proceeds from this sale are used to pay off any existing debt and fund improvements on the replacement property.
  • The EAT transfers the title of the improved replacement property to the exchanger.

Key Takeaways

A 1031 exchange is an excellent tool for real estate investors to defer capital gains tax and free up more capital for investment in the replacement property. It's essential to remember that exchanges must be appropriately structured and adhere to all IRS rules, but when done correctly, they can provide significant tax savings.

For those looking to learn more about 1031 exchanges, Royal Investing Group Mentoring offers resources and guidance on how to take advantage of this powerful tool. Join us and start taking control of your financial future!

Last Updated: 
April 5, 2023

Scott Royal Smith is an asset protection attorney and long-time real estate investor. He's on a mission to help fellow investors free their time, protect their assets, and create lasting wealth.

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