Real Estate Swaps and Tax Mitigation

by | Mar 29, 2018 | Articles

Trading Spaces: Using Real Estate Swaps as a Tax Mitigation Technique

I often deal with real estate investors, looking to get out from under some of their properties or begin their exit planning, working toward retirement.  Inevitably during the discussion, the subject of income tax comes up, and the Client’s eyes grow wide as they look at their dwindling basis in the property, and the huge capital gains tax they will owe.

Depreciation is a wonderful thing for landlords, until its time to sell your investments.  The looming tax bill often pushes landlords and investors to hold off on selling or just pass their investments on to children or spouses.  There are some strategies that we can employ to help you divest your assets while avoiding the large tax bill next year.

Trade your Properties using a 1031 “Like-Kind” Exchange

Employing this method, a property owner can trade one asset for another of like-kind.  This allows the parties to defer any due taxes until an actual sale takes place at a later date.  At the time the final property is sold taxes will be due on the total gain accrued on the basis of the original property.

Real EstateMany clients have heard of this concept, but think that like-kind means that they must trade for an identical property. However, doing so will most likely not accomplish any of their goals.  This, however, is a misconception of what a like-kind exchange can and should be.  The IRS definition of a like kind asset is very broad.  A simple definition is any property which used in a trade or business.  There are some exceptions, for example, property outside the United States cannot be considered like-kind with property inside the U.S.  Also, real property and personal property can never be considered like-kind. Therefore, you cannot trade your real estate for gold ingots, or Apple stock.

If you are looking to divest properties, but are open to alternatives to a traditional sale, a 1031 exchange. This will allow you to move to a different property, making it easier to manage, or attract higher quality, tenants.  You can move from residential to commercial tenants, which often require significantly less work and have less turnover.  If you are planning a move to a retirement location you can swap your properties for local, easily manageable, units.

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