1031 Exchange

Many real estate investor are aware of the money saving power of a 1031 exchange, and how it allows one to transfer their captial gains taxes from the sale of a property, into another like-kind property. However, it is not possible to use 1031 exchange proceeds to pay off debt on property you already own, nor can you build improvements on land you already own in a 1031 exchange.Commissioning updates on land that you already hold title to doesn’t qualify as “like-kind”, and can be problematic for uneducated investors.

What you ultimately want is to take the 1031 exchange proceeds, purchase new land and have it built to your specifications, i.e., you get the built structure you want and purchase a replacement-property that is worth the same amount (or greater value).  So how can you do this?

There is an option that is referred to the “Poor Man’s” build to suit, in which the buyer asks the seller to make improvements to the replacement property before the close. For example, a taxpayer sells her property worth 0 thousand dollars, and wants to purchase a replacement property worth 0 thousand dollars or greater.But the replacement property is only worth about k, which isn’t enough to qualify as a “like kind” exchange, and therefore not “transferable” under 1031.

In this scenario, the investor would ask the replacement property seller to increase the sales price to 100 thousand dollars, and before closing, the seller will have to construct 90 thousand dollars worth of improvements to the property. Ultimately this investor spends the same amount (0k) to buy a property of the same value.

Finding a seller (of the property) that is willing to charge more, then make improvements to it before closing - may not be all that easy to find.  One other approach to this is to have the QI (or qualified intermediary) purchase the replacement property for ,000 - then take the title into an LLC that is owned exclusively for the purpose of a 1031 exchange, and use the remaining money from the exchange to make improvements to the replacement property.

So likewise, your QI can fund the improvements during their construction, holding the property for you and paying for everything with the proceeds from the exchange. The investor can complete the exchange by receiving the replacement property from the Qualified Intermediary when the improvements are completed.

Keep the following points to in mind about the 1031 Build to Suit exchange. 1st, the 180 day period that is allotted to you to complete your exchange, won’t give you adequate time for a complex build to suit.  However, it should be enough time to rehabilitate or remodel an existing structure.

Secondarily, to be considered an actual “like kind” exchange, any of the improvements to the replacement property must constitute “real-estate”, i.e., real estate for real estate. Just dumping the building supplies on the location of your property won’t be enough, to constitute “real estate” those materials must be made a permanent part of the structure or affixed into the land.

Keeping your savings in mind, be careful to stay away from any potential problems, to get the money saving tax benefits of a build to suit exchange.