Reverse 1031 Exchange
The idea of a 1031 exchange is one that a lot of people have a problem wrapping their heads around. We believe that for our clients to make the best possible decisions, they need to have all the available information in front of them. That’s why DeferTax aims to educate our clientele about the details of the 1031 exchange before they decide that it’s the way to go.
The 1031 exchange is an IRS-approved technique for the exchange of business assets or property without an immediate tax liability to the owner. In most cases, our clients use 1031 exchanges with real estate, but it isn’t limited to just property. Several depreciable and non-depreciable assets also qualify for 1031 exchange.
The 1031 exchange is a useful tool for both business and property owners since it shields their transfer from transaction costs that would hit a traditional property or business asset sale. The IRS requires a third party to be present to facilitate the transfer. This third party is known as the accommodator, facilitator, or qualified intermediary (QI) for the transfer. DeferTax is one such QI, helping our clients manage their property and business transfers so much more efficiently.
The reverse 1031 exchange is the opposite of a previously mentioned exchange strategy known as the delayed 1031 exchange. It works on the premise that the transferring individual (the exchanger) gives up the asset or property (the “relinquished” item) before receiving one of the same type (the “replacement” item) in return.
Before the delayed exchange gets underway, the exchanger has the responsibility of marketing his or her property as they see fit. When the exchanger finds a buyer, he or she must then execute a sales and purchase agreement signed by both parties. The obligation to sell the property passes to the intermediary (in this case, DeferTax), who will then transfer the relinquished property to the buyer. The proceeds from the sale go into an account and will then be used to purchase the replacement property.
The exchanger has a time limit of forty-five (45) days from the date that the relinquished property was transferred to decide on a replacement property. The exchanger will then negotiate the details of the transfer and execute a sales and purchase agreement with the seller. Once the details are worked out, the exchanger passes his or her obligation to buy to the facilitator (in this case, DeferTax) who will then use the money from the sale of the relinquished property to purchase the replacement property.
DeferTax has a mandate to transfer the replacement property to the exchanger within one hundred and eighty (180) days of the transfer of the relinquished property.
GUIDELINES FOR EXCHANGORS FOR A REVERSE 1031 EXCHANGE
Phase I: The Acquisition
- Contact DeferTax
- DeferTax will peruse the transfer and advise you on whether the terms are beneficial to you.
- Set up an account with DeferTax: give us your contact information and additional property information that you’re aware of to add to your specialized account details. This step provides us particulars we will need further into the process.
- Establish funding for the purchase: These funds may be either personal funds, funding from the exchange itself, or a lender. If a lender is involved, they should be aware that the transfer will be part of a 1031 deal.
- Negotiate terms for the sale
- Draw up the sale and purchase agreement. Ensure that a clause exists that stipulates the sale is part of a 1031 exchange and that the seller agrees to cooperate with the facilitator to complete the transfer. This clause is known as the 1031 Exchange Cooperation Clause.
- Contact the closing agent: Ensure they are fully aware that the transfer will be part of a 1031 exchange.
- Give DeferTax a Call
- DeferTax will draft documents that will finalize the deal, and send them to the appropriate individuals for signature.
- DeferTax takes details such as the sale price, the seller and closing agent’s information, property information, and the closing date and draws up the transfer documents, which DeferTax then sends to each signatory.
- Provide Complete Funding
- The exchanger is responsible for getting all funding required for the acquisition of the replacement property.
- If the EAT is holding the title to the replacement property, all loans must be in the EAT’s name.
- Provide partial payment to the EAT for down payment and interest. The funding is treated as a loan between the exchanger and the EAT.
- A trust deed secures a promissory note between the exchanger and EAT.
- Both the exchanger and the seller sign documents that DeferTax provides.
- Depending on the funding, the EAT may take possession of either the relinquished or the replacement property. DeferTax will work alongside you to determine which one of the properties will be parked.
At this stage, phase I of the exchange is completed. In a nutshell, it means that you have finished acquiring a property.
Phase II: Relinquishment
- Examine the Identification Packet
- DeferTax will create and forward an identification packet to review once we receive the final settlement statement from the closing agent.
- The package will contain the following details: the value of the proceeds received from the transfer, the transfer date of the relinquished property, the 45-day deadline for determining a replacement property, and the 180-day deadline for the completion of the replacement property’s transfer.
- You will need to sign the included identification form as the exchanger.
- Identify which property is being sold
- This decision MUST be made within the 45-day window after the closing of the acquisition.
- Please note that the IRS DOES NOT ISSUE EXTENSIONS for this 45-day window, except in cases of a Presidentially Declared Disaster.
- Speak to the Closing Agent
- Let the closing agent know about the sale information and details regarding the sale.
- Let the closing agent be aware of the fact that the sale is subject to a 1031 exchange. Also, inform them that DeferTax will be performing the role of facilitator in this exchange.
- The Closing Stage occurs
- Both the exchanger and the buyer sign documents that DeferTax has drafted to finalize the sale of the property.
- The relinquished property changes hands to the buyer through a direct deed transfer.
- The closing agent transfers whatever proceeds came from the sale of the property to a band account designated by DeferTax.