Would the Wealthy Really Be Impacted by a Change in the 1031 Tax Code?
DJ Van Keuren
Family Office RE Executive I Co-Managing Member Evergreen | Founder Family Office Real Estate Institute | President Harvard Real Estate Alumni Organization | Advisor Keiretsu Family Office
On June 2nd of this year, an article from Bloomberg discussed how a tax break that helped trump build his fortune would be a tax break that Biden wanted to change. The 1031 exchange. One of the main changes discussed was to reduce this benefit to those making?$400,000 a year or less. Why??to target the rich and eliminate the wealthy from using this "tax loophole." However, according to the Family Office Real Estate Investing Study, the 1031 exchange isn't used as commonly by the family office as those who believe it is. According to the study n 2018, 82% of family offices did not use the 1031 exchange, while 12% didn't even know what a 1031 exchange was. In 2019 this number was similar with 88% of the family offices not using the 1031 exchange and 4% of the family offices not knowing what a 1031 exchange was, and in 2020 the last year study 84% of families did not use the 1031 exchange while 2.7% did not know what 1031 exchange is. So, although family offices are starting to understand better the 1031 exchanges and the benefits it provides, it is still not being utilized to the extent that Congress believes the wealthy are using this tax strategy. So then the question comes down to - so who is using his 1031 exchanges. According to the Internal Revenue Service data, more than 1/3 of the tax savings from the 1031 exchangers go to large institutional investors such as real estate investment trusts. That would mean the remainder would be from your average real estate investor, making up a good portion of the remaining number of 1031 exchanges.
So what about the overall impact on the economy if Congress eliminated the 1031 exchange?
According to a study supported by accounting firm Ernst and Young, eliminating the 1031 exchange would negatively impact the economy by 13.1 billion annually. It would likely result in less federal tax revenue. It's evident that the benefits of a 1031 exchange outweigh not having it in place; however, again, Congress seems to be far from really understanding what is going on (at the property level). Suppose they looked into the 1031 exchange and the impact it would have on the wealthy. In that case, I think they would come to the same conclusion we have after reading the Family Office Real Estate institute study results, which is that more wealthy families need to make use of this tax strategy because very few are right now.
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President, Preferred Real Estate Funds LLC
3 年I would have thought wealthy families would be more tuned in to the 1031 exchanges but if you buy property and hold for the long term ultimately passing it to your heirs who get stepped up basis( at least for now) it isn’t of much use. The Exchange requirement of identifying the new property within 45 days is very challenging. In addition it is my experience that many property owners who use this strategy overpay( often by a lot). With long term capital gains rates being where they are currently it often makes more sense to pay the tax instead of overpaying for an asset that doesn’t fit well into the portfolio or long term objectives. Using this strategy makes more sense if a property has been owned a long time and has appreciated substantially. Also if you can delay closing the initial sale or use a reverse exchange you can mitigate the time pressure. Bottom line is circumstances and long term objectives should be key determinants in deciding whether to employ this strategy. Would eliminating it raise more revenue? Not likely. It would result in both fewer transactions and slightly lower prices but I seriously doubt if it would send a shock wave through the Real Estate industry.
Managing Partner - Safe Capital - Investors enjoy Preferred Equity position in U.S real estate - for safer real estate investments
3 年i agree with mark. what sophisticated real estate investors and family offices do is hold and not sell, pay off debt as time goes by - and take a new debt down the road. tax free $$. only motivation to sell is when you can not depreciate the asset in a way that will offset your income.
Tax Partner at NKSFB | Family Office | Private Client | Sports & Entertainment
3 年Family offices are often active real estate investors that generate significant passive activity losses. When they sell, they free up their passive losses up to the gain realized, so no need to jump thru the 1031 hoops.
Managing Member at Lexington Capital Management LLC
3 年I have a hard time believing this study is correct. I have been involved in Real Estate all of my professional career and there is not one family office that I know who is not aware of section 1031. In fact, they all have utilized Section 1031 if not once, multiple times. My wife and two boys have two companies Progress Capital and Progress Realty Partners that are heavily invloved in commercial real estate and family offices and section 1031 and other tax mitigation strategies are being discussed quite frequently. Just my thoughts.