As a Baby Boomer considering your financial future, you’ve likely built a significant real estate property portfolio. Sick of paying hefty capital gains taxes on your investment properties? This baby boomers guide to 1031 real estate exchanges shows you how to leverages 1031 exchanges to trim your tax bill and supercharge your retirement savings.
For 23 years, I’ve guided real estate investors through every 1031 exchange step. From finding a qualified intermediary to identifying and closing on the right replacement property, I’ve seen it all. My focus? Triple Net Lease, Fractional Ownership, and Institutional Quality properties, all managed by full-time professionals; however, I can help with any real estate asset class.
Table of Contents:
- What is a 1031 Exchange?
- Why 1031 Exchanges Matter for Baby Boomers
- Navigating the 1031 Exchange Process
- DST Advantages: A Closer Look
- Planning for a Successful 1031
- Conclusion
What is a 1031 Exchange?
A 1031 exchange, named after Section 1031 of the Internal Revenue Code, lets you defer capital gains taxes when selling an investment property (sorry, not your primary residence). This involves using the proceeds to buy a “like-kind” investment property. Within the bounds of this tax code provision, A properly structured plan can literally mean thousands of dollars back in your pocket. Use a property broker to ensure your real estate property qualifies for a like-kind exchange.
What’s at stake for baby boomers in 1031 exchanges?
If you’re a Baby Boomer, odds are you’re clueless about the benefits of 1031 exchanges – but this breakdown is about to change that. 1031 exchanges aren’t just about deferring capital gains. Here’s the silver lining: they can cut your depreciation recapture and net investment income tax bills. Financial stability is within reach when you use this process to tackle your money matters.
Think of your 1031 exchange as keeping your investment snowball rolling, gathering more wealth and momentum. This happens before taxes finally settle upon the property sell.
Defer, Defer, and Perhaps Never Pay
Baby Boomers are often closer to retirement, making the “defer, defer, die” strategy attractive. If you hold the property until death, your beneficiaries receive a stepped-up basis, eliminating the capital gains tax altogether.
A stepped-up basis adjust the value of inherited property to its fair market value on the date of the decedent’s death, essentially wiping away the gains. It’s like receiving a “Get Out of Jail Free” card for accumulated gains.
Keep in mind that if your beneficiary chooses to immediately sell the property for cash equity, they would not pay taxes on any of the previous owner’s capital gain, but they would pay taxes if they decide to hold the property longer and sell it for more later.
Exiting the Landlord Role
Want out of active property management of your rental property? Delaware Statutory Trusts (DSTs) and a management agreement make it possible. DSTs make 1031 exchanges smoother. The management of the rental property is taken over by real estate professionals, following all fair housing laws.
DSTs are structured as fractional ownership in real property, freeing up the day-to-day while receiving distributions similar to rental income but without the tasks. A strategic plan would include setting aside time to stay informed and learn the rules regarding using DSTs to avoid paying large taxes.
Navigating the 1031 Exchange Process
This Baby Boomers Guide to 1031 Exchanges covers the process. Timing is critical in a 1031 exchange. You have 45 days after selling the relinquished property to choose a new (replacement) property investment.
The closing on that replacement property must happen within 180 days. IRS rules allow you to complete the sale and acquisition with a reverse exchange to extend deadlines if your circumstances require more time.
I recommend contacting a Federation of Exchange Accommodators specialist for assistance with your property exchange. This information aligns directly with the resources shared in the Like-Kind Exchange section from the National Association of REALTORS®.
Identification Strategies
You have three identification strategies for choosing a replacement property in your 1031 exchange:
- Standard: Identify up to three potential replacement properties.
- 200% Rule: Identify any number of properties, as long as their combined fair market value doesn’t exceed 200% of the relinquished property’s value.
- 95% Rule: Identify any number of replacement properties, but you must acquire at least 95% of what’s been identified or the exchange is disqualified. Property investment under the 95% rule is quite risky.
DST Advantages: A Closer Look
This Baby Boomers Guide to 1031 Exchanges revisits DST advantages:
- Institutional Quality Real Estate: Invest in commercial real estate alongside big players, gaining access to properties not normally available.
- Low Minimums & Diversification: Diversify investments with smaller buy-in prices. Many DSTs invest in multiple commercial properties with various real estate investors.
- Broad Asset Classes: Diversifying your investments has never been more accessible: through DSTs, you can tap into a diverse range of commercial properties, spanning healthcare to office buildings, and create a stronger portfolio as a result.
- Passive Ownership: No more active property management or tenant issues. You can truly enjoy passive ownership while deferring capital gains taxes.
- Non-Recourse Debt: With DSTs, you only owe what the investment falls short of, protecting your assets. Many estate investors are unaware of this type of tax break.
Planning for a Successful 1031
Begin the 1031 exchange process before selling your initial property because once the sale proceeds hit your bank account, you trigger taxes.
Consult with experts like CPAs and financial advisors who can help you estimate your potential tax bill using specialized tax software and up to date tax rates. This estimation goes beyond basic capital gain calculations and factors in depreciation recapture, typically at 25%, along with other special rules depending on the property type. Consulting a qualified intermediary is also a recommended step before getting started to defer capital gains on your investment property.
Conclusion
This Baby Boomers Guide to 1031 Exchanges covered how 1031s can benefit Baby Boomers facing substantial capital gains taxes, fluctuating rental income, or those seeking less stress. What if you could turbocharge your investments, turning yesterday’s returns into tomorrow’s prosperity? A 1031 exchange makes it possible, giving you a viable route to passive income and maximum earning potential.