Eileen Drutman is an expert on Investments and the 1031 Exchange

In 1990 the Section 1.1031 of the Internal Revenue Code was passed. This is the code we often hear of as a 1031 exchange. Prior to 1990 when we sold real estate property or personal property, we would pay taxes on the profit we have made on the investment. Thus in the past if we sell our office for $50,000 dollars more than we bought it for, we would pay taxes on that gain. However, after the passing of the 1031 Exchange provision that is no longer the case.

What types of Property Qualify?

A 1031 Exchange allows sellers of some real and personal property the opportunity to avoid paying capital gains taxes (which are 15% plus state taxes) by "exchanging" their sold property for newly purchased property. However, certain restrictions apply.

The most important restriction is that only business and/or investment property applies. So, an exchange under a purely residential home does not qualify, whereas exchanging a property that your business has used for its office, or even one used simply for investment diversification does qualify.

But simply selling your office isn’t enough to qualify you for a 1031 exchange. Rather, the code also requires that you simultaneously buy a property of "like-kind." This does not mean that if you are selling a 2000 sq. ft. office you must buy a 2000 sq. ft office. This term is interpreted very loosely to mean any real estate held for productive use in a business or for investment, whether improved or unimproved can be exchanged for any other property to be used for productive business or investment purposes. So, if you sell and unimproved lot of land and purchase an improved one or visa versa, this still qualifies, just as selling industrial property and buying rental resort property does. The point here is that while "like-kind" is an important restriction, it has been interpreted so broadly as to give individuals a lot of free reign.

The Exchange

When most owners envision a 1031 exchange they envision a provision whereby they must buy and sell the two properties on the same week or even the same day. But that is not the case. A tax-deferred 1031 exchange allows up to 180 calendar days between the sale of the first property and the purchase of the second. But no matter the time between sale and purchase, a 1031 exchange is required by the Internal Revenue code to have a "qualified intermediary" to manage the exchange.

A Qualified Intermediary

The requirement of a qualified intermediary is intended primarily to prevent individuals engaged in the exchange from using the time in between the sale and purchase of property to their financial gain. Although the seller has up to 45 days to set up the intermediary, the exchange is designed so that the seller should not profit from the use of the money before the purchase of the new property is made. An intermediary serves the judicial purpose of ensuring this. It is important to remember that the qualified intermediary charges a fee for this. While these services can vary in cost depending on the additional advisory services provided by the Intermediary, individuals interested in a 1031 exchange should expect to pay somewhere in the vicinity of $500 to $700 for the first exchange and $200 to $400 for each additional property.

In the North County of San Diego a known expert in the field of real estate investment and the 1031 Exchange is Eileen Drutman of Keller Williams a Carlsbad Realtor, who serves all of North County.