Common 1031 Exchange Errors to Avoid

Section 1031 of the IRS Code offers investors a great way to defer capital gains taxes on the sale of investment or business property. However, this helpful piece of tax legislation also brings with it many pitfalls waiting to trap the unwary investor.

Misapplying IRS Timing Requirements

One of the biggest areas for error involves the key deadlines of a #1031 exchange. The first is naming the replacement property within 45 days. The second being closing on the replacement property within 180 days.

Many first-time exchangers believe they can simply wait until the 44th day to identify their replacement property (or properties) and then work out the details and close within the remaining 4+ months. However, if a seller doesn’t have key terms identified with the seller of the potential replacement properties, this strategy puts all the power with the seller. Why? Because the seller knows the buyer wants to preserve his or her 1031 exchange and will more willingly negotiate unfavorable terms in order to maintain the exchange.

It is far preferable to the exchanger to have preliminary agreements on all key aspects of the transaction in place before the 45-day deadline rolls around. This keeps the power balanced between buyer and seller.

Choosing The Wrong Property

As the 45-day deadline rapidly approaches, an investor hoping to do an exchange can find him or herself frantically trying to find a suitable replacement property. This can lead to bad decisions in an effort to save the exchange. The search for potential replacement properties that are in line with the investor’s desired region, price, return on investment, management level, etc. should begin before the relinquished property is sold. Waiting until after often results in settling for a property that doesn’t meet an investor’s needs or skill level.

Picking The Wrong Advisor

Finding the right replacement property can be a challenge, even for a seasoned investor. Before the relinquished property is sold, an investor hoping to do an exchange should seek out the services of an experienced, national exchange expert who can assist with locating suitable replacement properties throughout the country. This should cost the exchanger nothing, as any broker fees will be paid by the seller of the replacement property. Likewise, an experienced 1031 exchange broker will be able to present a portfolio of potential replacement properties that an individual exchanger, making the search more streamlined and efficient.

To learn more about 1031 exchanges or our qualified intermediary and replacement property locator services, please visit our website.