1031 Exchange

What is a 1031 exchange?

A 1031 exchange is a powerful tax deferral strategy that was originally started in 1921 3 years after the first income tax code was enacted by Congress. Since then, it has gone through several iterations. The current 1031 tax code allows like-kind real estate asset exchange to defer capital gain taxes. This can only be performed with real estate capital gains (this can be used on your primary residence which we cover in this article).

Why is it important to know how to use a 1031 exchange properly?

  • One of the major benefits of doing the 1031 exchange is the ability to defer the tax on capital gains and to avoid depreciation recapture. However, if you sell and take the proceeds out instead of opting for the 1031 exchange you will pay the capital gains tax.
  • If you can continue to 1031 exchange until you die, your “basis” in the property will reset to the current value of the investment when you die as the investment is handed down to your heirs. This is called a “cost basis step up”. This is also why the 1031 exchange is often called a “legacy wealth play” as this allows you to never pay capital gains (or depreciation recapture) and to leave more to your family when you pass away.
  • Another reason to consider a 1031 exchange is to keep your capital working hard with minimal downtime. It can be very frustrating for an investment to liquidate, and then you are having to search for a replacement investment and earning no income. All these reasons together, help you build passive cash flow now and generational wealth later. Helping investors do both these things is why SITG was created. We will always put our investors first.

How is the 1031 exchange executed?

When SITG, or you as an individual investor, has decided to sell a property, we will poll the limited partners in the entity that holds the asset to see if they want to participate in the 1031 exchange. We do this early in the sales process since the next property (called a replacement property) must be identified within 45 days of closing. Then we must close on the new property within 180 days from closing to qualify. To remain compliant with the tax code, we must use a qualified intermediary to handle all funds between the sale of the initial asset and the purchase of the replacement asset. Unlike many of our competitors we will take care of the fees charged by the qualified intermediary and work with you directly to make sure the process is smooth.

If you choose to participate in the “exchange” your initial capital and capital gains from the sale must roll over in the exchange. Depending on the next asset being purchased, if you participate in the 1031 exchange, it may also be possible to add to your initial investment.

Make sure to consult with your tax professional to understand your complete tax situation.

Completing a 1031 exchange can be very tricky as there is a certain timeline and many moving parts that must be followed for it to work properly, according to the IRS guidelines. Hence, the reason why you will find that many operators choose not to do a 1031 exchange at all at the end of their deals since it takes more time, energy, and effort to complete the transaction. We believe in helping our clients with the full picture including tax mitigation. This is an important tool we can use to help you achieve your long term goals.

Click the image to enlarge

Frequently Asked Questions

Can I decide which asset I’ll exchange into?
No, this is determined by the general partners, and we share which asset we’ve identified for exchange as soon as possible.
Do you have a qualified intermediary in place to handle the funds to complete the 1031 or do I need to find one myself for my funds?
You do not need to do anything. Our intermediary will handle the entire 1031 exchange for the group.
Can I change how my investment is held?
For example, if I invested in the original deal as an LLC, am I able to change how I’m invested in the new deal to a trust, or individual? No. Your holding vehicle must remain the same
How will I know how much of my investment will be transferred to the new asset?
When/how will I find this information out? In our initial email to investors, we will notify you of the equity multiple of your capital that will transfer to the new asset.
If I want to participate in the exchange, am I able to add to my investment?
Yes, if the deal isn’t oversubscribed.
I want to add to my investment in the new property. Do I need to fill out a PPM for this additional money?
Yes, you will fill out a PPM for only the new, additional amount invested. Do not include the 1031 money in the PPM.
Is it possible to not do 1031 exchange, if I want to pay taxes but still invest in the deal identified for the exchange?
Yes, if the deal isn’t full or oversubscribed, you can elect not to do the 1031 and still invest in the deal.
What if a replacement property is not identified within 45 days, what happens next?
In the unlikely event a replacement property is not identified, proceeds from the sale of the original asset will be sent to investors. Please work with your tax professional on how this might impact you.
Can I decide which class I want to be in on the new asset we’re exchanging into?
Yes, you can. This is part of the questionnaire we send out to all investors in an asset as we prepare for a sale.
In the Offering Memorandum for the replacement property, it says this is a 506 (c); at this time, I am not accredited, am I still able to participate in the 1031 exchange?
Yes, you do not need to be accredited since you will be coming in with a 1031 exchange as a TIC with the group. This is not a security, therefore, SEC rules do not apply here.
Are there any additional steps I/we need to take because the investment is through a SDIRA?
Not at this time.
If I choose not to participate in the 1031 exchange, do you know what amount will be subject to depreciation recapture?
No, as this is something that your CPA would be tracking on your behalf. This all depends on how much depreciation benefit you took advantage of during the hold period.
Do you know what amount will be subject to capital gains?
No, as this is something that your CPA should be tracking for you. The capital gains and depreciation recapture is not something that we are able to track on your behalf.

Explore our open private real estate investments.

Explore Offerings