Featuring real estate articles and information to help real estate buyers and sellers. The Nest features writings from Georges Benoliel and other real estate professionals. Georges is the Co-Founder of NestApple and has been working as an active real estate investor for over a decade.
This post will teach you how to execute a 1031 exchange in NY. A 1031 exchange, also known as a “Like-Kind” exchange or a “Starker Exchange,” is a formidable tax-deferment strategy that savvy real estate investors use in real estate dealings.
Therefore, if you are considering what a 1031 exchange in NYC is, and thinking about executing one, look no further and continue reading!
What is a 1031 tax-deferred Exchange? Real estate investing can feel overwhelming.
A 1031 Exchange is not a way to reduce real estate taxes but to postpone paying them. Investors can be surprised to hear the taxes owed when selling. With regular investments like stocks and bonds, you pay capital gains, the difference between your purchase and final sale prices. Unfortunately, there’s much more to consider regarding investment properties.
When investors sell, depreciation recapture is also taxed at higher rates! Not only will you owe capital gains and depreciation recapture, but you could also owe even more for attached items with a faster depreciation schedule.
First, let’s break down the name:
However, there are different types of exchanges, so let’s explore another relevant type before tackling the most common – the “delayed exchange” – one.
This exchange comes in handy when you want to improve an acquired property with the capital gains of your previous property without paying taxes on that money. There are a few rules with this exchange.
When most people talk about 1031 exchange rules, they talk about a “delayed” exchange. But, like most things, you must follow the rules and regulations to execute 1031 in NYC properly.
The property you are putting the capital gains into must be of a “like-kind.” The Internal Revenue Code describes a “like-kind property” as one “of the exact nature, character, or class.
Quality or grade does not matter. Most real estate will be like-kind to another real estate. For example, real property improved with a residential rental house is like-kind to vacant land”.
The IRS’s bottom line is pretty lenient regarding what like-kind property is as long as it is a property. An important note: All properties must, in the exchange, be U.S. property, not from a foreign country.
If the hope is to pay no tax on your capital gains, the IRS demands the (net) market price plus any equity to be the baseline for your next property. For example, let’s say you are selling a $1 million home with a mortgage of $250,000.
The “like-kind” property must be at least $1 million, and you must carry over the $250,000 mortgage. Any brokerage fees and real estate taxes also factor into this number.
This rule is self-explanatory, but the one most people get tripped upon. The most common is you cannot swap primary residences.
Let’s say you own a rental property in Arizona. You can swap that for a vacation house in California (of equal or greater value).
The relinquished property title names need to be the same on the acquired replacement property.
Let’s say you want to execute a 1031 exchange in NYC that is of lesser value. “Boot” refers to the difference between relinquished and replaced property. And that difference is taxable.
For example, let’s say you want to sell that $1 million property, but the replaced property is only worth $750,000, and the $250,000 is taxable.
The investor has 45 days, calendar, not business, to identify up to three like-kind properties.
You can identify four or more properties if they do not add up to 200% of the relinquished property value.
This regulation states that you must complete the purchase in under 180 days or the due date of the tax return for that tax year (with extensions) in which the property was sold, whichever is earlier.
Let’s say a fictional investor, “Shayna,” is looking to sell her investment property. Ten years ago, she bought a property in Kansas City, MO, for $400,000. Shayna initially allocated $360,000 to the building’s value and $40,000 to the land.
The first ten years Shayna’s owned the property have been great! It has cash-flowed $200 a month and is appreciated a lot. The market value is now aproximately $600,000. Even better, Shayna has taken $133,333 in depreciation, which has reduced her income in the eyes of the IRS.
The only bad part is when Shayna goes to sell the property, her accountant says her tax bill is $73,333.25. Shocked, Shayna wonders how this could be when the property only appraises by $200,000. She figured that since it’s a long-term capital gain, the tax rate is (.2*200,000)=$40,000.
Shayna enjoyed a depreciation-fueled tax break for the past ten years. Now, the IRS wants that money back upon sale. Here’s how the IRS figures this out:
In addition to regular capital gains (Sale Price – Original Price), the IRS says that any depreciation you take makes your “cost basis” lower. Instead of the original cost basis of $400,000, the IRS “cost basis” is $266,667 (Original Price – Depreciation Taken).
To add insult to injury, depreciation recapture is taxed at your regular income tax rate, up to 25%.
So when Shayna sells her property, she should be accounting for the capital gain of $200,000, taxed at 20%. Then, she needs to add depreciation of $133,333, taxed at 25%, to this total.
If you are currently investing in a property you want to sell, this would be perfect for you.
Selling a property and putting that money directly back into another investment property without paying taxes saves you money and allows you to invest in a property that may otherwise be beyond your budget.
Executing a 1031 exchange could help you invest in a bigger and better property.
These 1031 exchange rules could be even more advantageous in the long run. The more you sell and then put your tax-free money back into property investment, the more properties you can invest in.
Fortunately, there’s a way to defer paying taxes upon sale, and that’s through the 1031 exchange. You can buy a “replacement property” and not pay a single dime to the IRS by arranging with a qualified intermediary.
After identifying the properties, you must close on one of these replacements within 180 days of the sale. Once you’ve done this, you’ll submit form 8824 on that year’s taxes. There are quite a few steps that we’ve glossed over, but any reputable 1031 exchange company will help you through all of them.
HOW TO DO A 1031 EXCHANGE NOW?
If you believe you are ready to sell an investment property and ideally have identified replacement property – hire a professional to explain the 1031 Exchange Tax Benefits: NestApple is here for you, and you will save: