1031 Deferred Exchange Advantage
Minimize Capital Gains Taxes by Planning for a Like-Kind Exchange
Avoiding capital gains taxes legally can save an investor or business owner a significant amount during tax-time. The 1031 deferred tax exchange offers a way to cut taxes
Any person that has ever sold an investment property, business property or big-ticket items, or other valuable property or items can attest to the burden capital gains tax can place on the seller. However, through careful planning capital gains tax can be reduced or avoided entirely in many cases. This is done through a 1031 deferred tax exchange.
What is Capital Gains Tax?
Capital gains tax is a tax that can be placed on many types of items you may sell and make a profit from. Some of the most commonly sold items that fall under this tax include investment properties and properties held for the use in business. This tax can fall in increments between 5% and 28% of the profit made from the property.
The rate at which a person is taxed will be determined in part by the person’s income. However, many people do not take into account the fact that the profit made from the sale of an asset will generally add to their total income and push them into a higher tax bracket which can cause the profit from the sale of the asset to be taxed at multiple rates. The type of asset sold can also have an affect on the tax rate charged.
What is a 1031 Exchange?
A 1031 exchange can help a person to avoid some or all capital gains taxes on the property sold. However, a 1031 exchange will only work for a person seeking to purchase a similar type of property. For example, a landlord selling one apartment to purchase another one could benefit from a 1031 exchange.
In order to benefit from this type of tax benefit a person must adhere to a few rules given by the IRS. These rules include:
- the replacement property must be identified within 45 days of closing, and it must be acquired within 180 days of the closing. A qualified intermediary must be used to aid the transaction;
- the property or item that is sold must be of like-kind to the property or item purchased;
- the item or property in question must be used for the business or as an investment;
- losses cannot be deducted;
- while a loss cannot be recognized when the transaction occurs, it should be carried forward and cause a higher basis for the property received in certain cases;
- in certain cases, when the item in question is property, the basis of the new purchase must be the same as the basis of the property sold, minus any compensation received by the taxpayer, plus any gain recognized on the transaction – if a loss occurs that will be subtracted as well in these cases;
- livestock of different sexes cannot qualify for this type of exchange although livestock of the same sex does.
A 1031 exchange can make the tax burden much lighter in many cases when capital gains taxes are involved. If a person is considering utilizing the advantages this program offers, he or she should consult a tax expert prior to the acquisition of the new property or item and/or the sale of the previously owned property or item. This will allow the tax professional ample time to facilitate the exchange so that this opportunity is not missed by the taxpayer.
Related Articles:
Prepare your Small Business Taxes: What to keep this Year to Make Next Year’s Taxes Easier
Sources:
From the IRS Website: Like-Kind Exchanges - Real Estate Tax Tips
