Guide to 1031 Exchange into a Reit Investment

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A 1031 exchange into a REIT can be a great way to diversify your investment portfolio and potentially reduce your tax liability. You can exchange a property for a Real Estate Investment Trust (REIT) share, allowing you to maintain ownership in real estate while also enjoying the benefits of a publicly traded company.

To qualify for a 1031 exchange, you must meet the IRS's requirements, which include using a qualified intermediary to hold the proceeds of the sale and reinvesting the funds within a certain timeframe. This is typically 180 days, but can be up to 270 days in some cases.

The key advantage of a 1031 exchange into a REIT is that it allows you to defer taxes on the sale of your property, which can be a significant tax savings. By reinvesting the proceeds into a REIT, you can also gain exposure to a diversified portfolio of properties without having to directly manage them.

What is a 1031 Exchange?

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A 1031 exchange is a tax-deferred exchange of like-kind properties, allowing you to sell a property and reinvest the proceeds into a new one without paying capital gains taxes.

It's a complex process, but a key benefit is that it can help you avoid paying up to 20% in capital gains taxes, depending on your income tax bracket.

To qualify, the properties must be of a similar type, such as a rental property for a rental property.

Requirements and Rules

To qualify for a 1031 exchange, you must meet the requirements set forth in IRS Code §1031, which states that no gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held for productive use in a trade or business or for investment.

You have 45 days from the date of the sale of the original property to identify potential replacement properties, and the purchase of the replacement property and completion of the exchange must occur within 180 days of the original sale.

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You can exchange a property into a REIT, but you must first complete a 1031 exchange into a Delaware Statutory Trust (DST) and then complete a 721 UPREIT Exchange from the DST into a REIT, though careful consideration and planning are critical to the success of this process.

To qualify for a 1031 exchange, the holding period following the exchange is at least 24 months, and for each of the two 12-month periods, the vacation home must be rented to another person at a fair rental for 14 days or more, and the homeowner must limit their use of the vacation home to not more than 14 days or 10% of the number of days during the 12-month period that the vacation home is rented at a fair rental value.

  • The holding period following the exchange is at least 24 months.
  • For each of the two 12-month periods, the vacation home must be rented to another person at a fair rental for 14 days or more.
  • The homeowner must limit their use of the vacation home to not more than 14 days or 10% of the number of days during the 12-month period that the vacation home is rented at a fair rental value.

Review of Requirements

A 1031 exchange requires careful planning and adherence to specific rules. The IRS Code §1031 sets forth the requirements for a like-kind exchange, which involves trading one property for another of similar value.

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To qualify for a 1031 exchange, the replacement property must be held for productive use in a trade or business or for investment. The investor has 45 days to identify potential replacement properties, and a total of 180 days to acquire the replacement property.

The holding period following the exchange is at least 24 months. This means the investor must use the replacement property for at least 24 months to qualify for the exchange.

The IRS has specific rules for the use of vacation homes in a 1031 exchange. To qualify, the vacation home must be rented to another person at a fair rental value for 14 days or more in each of the two 12-month periods following the exchange. Additionally, the homeowner must limit their use of the vacation home to not more than 14 days or 10% of the number of days during the 12-month period that the vacation home is rented at a fair rental value.

Here are the key time limits and deadlines for a 1031 exchange:

The 721 exchange allows real estate property investors to contribute their properties to REITs in exchange for REIT shares or Operating Partnership units. This exchange must be done carefully, as it is subject to specific rules and requirements.

Investors must observe the IRS exchange rules to avoid the exchange failing or taxes being imposed. These rules include the holding period, use of the replacement property, and identification of potential replacement properties.

Sell the Property

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Selling the property is the first active step in the 1031 Exchange process. It involves marketing the property, accepting an offer, and then closing the sale.

The proceeds from the sale are then transferred to the QI, which is a crucial step in the process.

To initiate the sale, you'll need to market the property effectively to attract potential buyers. This can be done through various channels such as online listings, open houses, and working with a real estate agent.

The sale must be closed in a timely manner to avoid any potential issues with the 1031 Exchange process.

Qualified Intermediary and Transaction Process

A Qualified Intermediary, also known as an exchange facilitator, is an essential part of any 1031 exchange, responsible for holding the proceeds of the sale of the relinquished property and for purchasing the replacement property.

In a 1031 Exchange, an investor can sell a property and reinvest the proceeds in a new property and defer all capital gain taxes. This is made possible by IRS Section 1031, which states that "No gain or loss shall be recognized on the exchange of real property held for productive use in a trade or business or for investment."

The transaction is treated as an exchange rather than a simple sale, allowing investors to avoid capital gain taxes and reinvest their proceeds in a new property.

How It Works

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A 1031 Exchange allows an investor to sell a property and reinvest the proceeds in a new property and defer all capital gain taxes.

This is made possible by IRS Section 1031, which states that "No gain or loss shall be recognized on the exchange of real property held for productive use in a trade or business or for investment."

A 721 Exchange, also known as a tax-deferred transaction into a REIT, is a similar concept that allows a property owner to move into a REIT with taxes deferred.

In a 721 Exchange, the REIT acquires the property using an equal value of operating units in the UPREIT operating partnership, which can then be converted to direct shares in the REIT.

The REIT might be willing to acquire the property if it meets the criteria of the type of property that the REIT owns in its investment portfolio.

The property investor must have a significant piece of property that meets the REIT's criteria for this structure to work.

Qualified Intermediary

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A Qualified Intermediary (QI) is an essential part of any 1031 exchange.

They are responsible for holding the proceeds of the sale of the relinquished property.

Their primary role is to act as a neutral third party, ensuring that the exchange is structured correctly.

A QI is also known as an exchange facilitator, which accurately describes their function in the process.

Their services are essential to ensure a smooth and compliant 1031 exchange.

Tax Implications and Benefits

A 1031 exchange into a REIT can provide significant tax benefits, particularly in terms of capital gains tax deferral. The primary benefit of a 1031 exchange is the deferral of capital gains tax, which means you can reinvest the full amount of the proceeds from the sale of the original property rather than having to pay up to 20% in federal capital gains tax.

You can reinvest the full amount of the proceeds, but you'll need to find a replacement property that meets certain criteria. Fortunately, a 721 exchange allows you to make tax-free exchanges without having to find replacement properties.

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A 721 exchange is a type of tax-deferred exchange that allows exchanging rental or investment property for real estate investment trust (REIT) interests. This type of exchange can be particularly beneficial for investors who want to diversify their portfolios and reduce their tax liability.

Here are some key benefits of a 721 exchange:

* No two-year property holding stipulationNo replacement property requiredTax-free exchange

Investors can contribute their real estate property to REITs in exchange for shares or units in Operating Partnerships (OPs). OPs are independent intermediaries that aggregate real estate property and exchange funds.

The benefits of a 721 exchange include deferring taxes, wealth growth, portfolio diversification, and estate planning. Even after real estate has been sold, it's not too late to use the proceeds as exchange funds contributed directly into a REIT or §721 interim Operating Partnership.

With a 721 exchange, investors control the timing and quantity of any REIT shares they decide to sell, thus determining whether taxes will be imposed.

Choosing a Facilitator and Ensuring Compliance

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To ensure a smooth 1031 exchange into a REIT, it's essential to choose a qualified facilitator. A facilitator should not be an agent, such as an escrow company, attorney, or real estate agent.

You can obtain the names of facilitators from the internet, attorneys, CPAs, or real estate agents. However, be sure to ask questions about the procedures they employ and the assistance they can provide if problems arise.

Price should not be the sole qualifier when selecting a facilitator. A professional, competent, and experienced 1031 exchange company will ensure that the procedure is completed legally and in compliance with all IRS rules.

Invest in a

Investing in a REIT can be a smart move, especially if you're using it as a replacement property in a 1031 exchange. This allows you to potentially defer recognizing any capital gain from the sale of the first property.

By purchasing an interest in a REIT, you're essentially spreading your investment across a diverse portfolio of real estate properties. This diversification can significantly mitigate the risk associated with investing in a single property.

A REIT investment can also complete the exchange process, allowing you to move forward with your investment strategy.

Choosing a Facilitator

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You should contact an exchange facilitation company in preparation for your exchange, and you can obtain the names of facilitators from the internet, attorneys, CPAs, escrow companies, or real estate agents.

Facilitators should not be acting as "agents" as well as facilitators, so avoid using escrow companies, attorneys, real estate agents, etc. as facilitators.

Ask questions about the procedures employed and the assistance they can provide if problems arise, and while price is important, it should not be the qualifier.

A professional, competent, and experienced 1031 exchange company will ensure that the procedure is completed legally, in compliance with all IRS rules.

Replacement Property and Costs

Replacement properties must be identified within 45 days of selling the original property, and the QI will hold the funds until the exchange is ready. This allows for a smooth transition into the new property.

In order to qualify for a 1031 exchange, the replacement property must meet certain requirements. The holding period following the exchange is at least 24 months, and the property must be rented for at least 14 days or more at a fair rental value during each of the two 12-month periods.

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Here are the key requirements for a replacement property:

  • The holding period following the exchange is at least 24 months
  • The property must be rented for at least 14 days or more at a fair rental value during each of the two 12-month periods
  • The homeowner must limit their use of the property to not more than 14 days or 10% of the number of days during the 12-month period that the property is rented at a fair rental value

The cost of an exchange can vary depending on the circumstance and type of exchange. A True Swap of properties can be as little as $500, while a Delayed Exchange of two properties starts at about $1,000. More complex transactions, such as Reverse or Improvement Exchanges, start at $6,500.

Replacement Property

You've got your eyes on a new property, but do you know the rules around identifying it? As an Exchangor, you're required to provide an "unambiguous description" of the potential replacement property on or before the 45th day after closing on the relinquished property. This can be a simple property address or a legal description.

The good news is that you have some flexibility when it comes to identifying multiple properties. You can either identify up to three properties of any value with the intent of purchasing at least one, or you can identify more properties with an aggregate value that doesn't exceed 200% of the market value of the relinquished property.

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Here are the specific guidelines:

  1. Identify up to three properties of any value with the intent of purchasing at least one.
  2. Identify more than three properties with an aggregate value that does not exceed 200% of the market value of the relinquished property.
  3. Identify more than three properties with an aggregate value exceeding 200% of the relinquished property, knowing that 95% of the market value of all properties identified must be acquired.

Once you've identified your replacement property, you'll need to hold onto it for at least 24 months to qualify for the 1031 exchange. This means you'll need to be patient and wait for the required time period to pass before you can sell or use the property.

Cost

The cost of a 1031 Exchange can vary depending on the type of exchange. A True Swap can be as low as $500, while a Delayed Exchange starts at $1,000.

In general, the cost of an exchange is relatively low, especially compared to the potential tax benefits. For example, a True Swap of properties can be a cost-effective option for exchanging properties.

A True Swap of properties can be as low as $500, making it a relatively affordable option. This is a significant advantage over other types of exchanges, which can be much more expensive.

Here's a breakdown of the costs associated with different types of exchanges:

It's worth noting that the cost of an exchange is not the only factor to consider. The IRS also stipulates that certain costs can be paid out of exchange funds, while others cannot.

Frequently Asked Questions

Can I sell my house to a REIT?

Yes, you can sell your house to a REIT, either by receiving cash or a combination of cash and a note, or by trading your property for REIT shares. This can be a viable option for property owners looking to liquidate their assets.

Can a 1031 exchange be put into a trust?

Yes, a 1031 exchange can be held in a trust, such as a revocable living trust, to facilitate estate planning and tax benefits. This setup can simplify the exchange process and provide additional advantages for property owners.

Can you 1031 into Fundrise?

No, Fundrise investments are not eligible for a 1031 exchange due to the exclusion of stocks and shares from Section 1031 treatment

Vanessa Schmidt

Lead Writer

Vanessa Schmidt is a seasoned writer with a passion for crafting informative and engaging content. With a keen eye for detail and a knack for research, she has established herself as a trusted voice in the world of personal finance. Her expertise has led to the creation of articles on a wide range of topics, including Wells Fargo credit card information, where she provides readers with valuable insights and practical advice.

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