5 Popular 1031 Exchange Uses

While tax savings is the number one goal of a 1031 exchange, the options for its uses can play a key part in an investment or business strategy. The rules for 1031 exchanges allow capital gains taxes that are due immediately in a traditional sale to be deferred. Primary residences are not qualified exchange properties, and therefore, the popular uses for these exchanges often revolve around business and investment uses. Here are 5 popular 1031 exchange options.

Use #1-More Money to Invest in Replacement Property

The property that’s exchanged is the relinquished property, and the new property acquired is the replacement property. Among all the 1031 exchange options, the simplest use is to have more money to invest in the replacement property. The taxes from the sale of the relinquished property are deferred, and as a result, you can have more cash to pay for the replacement property. The sale of the relinquished property and the purchase of the replacement property do not have to occur simultaneously to qualify for a 1031 exchange. There’s a 180-day deadline, which gives you enough time to receive cash and purchase the replacement property, without deducting any of the cash for taxes.

Use # 2-Business Expansion

Some business owners can benefit from a 1031 exchange. The options are to sell the relinquished property and use the cash minus capital gains taxes for business use or to transfer the proceeds into the replacement property. The exchange allows the business owner to expand the business, possibly increase cash flow as a result, and defer taxes that would otherwise be due. For example, the owner of a small retail shop in a rural area may exchange the building for a larger retail shop in a metro area and defer taxes. The owner may be able to boost sales and increase his customer base as a result.

Use #3-Reallocation of Investment Portfolio

You can reallocate some of your investments, namely real estate investments, and defer taxes by using a 1031 exchange. Traditional sales would leave you owing capital gains taxes on each investment property sold. At some point, the aggregate amount of taxes owed could be burdensome, and it may prevent you from reallocation in the first place.

Use #4-Improvements to New Property

One of the popular 1031 exchange options is to use the proceeds from the relinquished property to make improvements to the replacement property. These are called construction exchanges. The one stipulation in these exchanges is that improvements made to the relinquished property do not qualify.    

Use #5-Business Acquisition

If you want to acquire a business, then consider a 1031 exchange. You don’t have to exchange one business for another for it to be considered like kind property. For example, you could exchange land held for investment for a business building and equipment. As long as the business is not a hobby business, it’s a qualified exchange.

Popular 1031 exchange options are important to your tax planning strategy if you own investment property or a business. The rules and deadlines are complex, and you should consult with a tax attorney.

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