1031 Exchange One Property for Two

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A 1031 exchange is a contract in which one investment property is exchanged for another, allowing capital gains tax to be held off. The name was derived from Section 1031 of the Internal Revenue Service (IRS). It’s made specifically for commercial property investments. Those who often use it are realtors, renowned companies, and investors.

Standard 1031 exchanges come in various forms. The two-party simultaneous exchange is the most primitive of all 1031 exchanges. It involves two taxpayers exchanging like-kind properties with one another. If the contracts are appropriately set and the agreement is closed as an exchange rather than two transactions, taxpayers undertaking a direct two-party simultaneous transaction won’t need to engage a qualified intermediary.

However, some people choose to close these agreements through a real estate broker and adhere to the regulations for non-simultaneous exchanges. 

Can You Do a 1031 Exchange From One Property to Multiple Properties?

Section 1031 of the Internal Revenue Code allows for the exchange of several properties into one or more replacements. The first point to evaluate is if there’s an advantage attached to having simply one exchange. You can also examine whether it’s best to split the sales and purchases into distinct bargains. 

After all, more flexibility will be provided by two or more distinct exchanges than by a single exchange. That’s the case since exchangers’ identification and exchange durations will be renewed. However, buying a single replacement property through several acquisitions may have practical restrictions. 

Establishing two or more exchange transactions requires caution. The different property purchase agreements, exchange agreements, closing costs must all reflect on the different exchanges. 

If a single replacement property is chosen for two distinct exchanges, the different identification reports for both exchanges should simply describe the fractional interest of the replacement property to be obtained for each transaction.

What Is the Process of 1031 Exchange From One Property to Multiple Properties?

When considering this form of exchange, most people think of selling one old property and buying a replacement. The conventional way we think about exchanges is to sell a single relinquished property for a higher amount and then buy a replacement property for a lesser amount. Thus, we can take advantage of different types of market opportunities if we move beyond the “one-to-one” concept. 

Likewise, when you purchase multiple properties, it works in the same manner. Foreclosures and short-sale assets offer some of the best opportunities. For example, you might have a $300,000 relinquished property or retail investment that’s rented but many buyers are ready to make an offer. In that scenario, you might decide to sell it and buy five or six replacement properties to take advantage of the situation and buy some of these foreclosed or short-sale assets. 

Since most investors are seeking to buy the old property, it’s a more difficult notion to grasp. They don’t usually consider selling and distributing the proceeds among lower-cost assets. This strategy has several advantages, including the ability to diversify into multiple replacement properties and the adoption of a value-added strategy.

It’s very vital to note the identification rules. The number and value of properties identified for purchase in a swap are defined by these rules. These regulations, in essence, limit your ability to create broad and unrestricted identifications. Without regard to their worth, you can always select up to three multiple replacement properties. 

If you identify more than three, the total value of all properties found in the exchange can’t exceed 200 percent of the entire worth of the relinquished properties. It’s essential to discuss with your tax advisor and outline your approach before considering swapping.

When considering a multiple property exchange, this preparation phase is critical to ensure success. Ultimately, exchanging more than two properties can be incorporated into your investing strategy and can provide extra opportunities and benefits if done appropriately.

How Many Properties Can Be Involved in a 1031 Exchange?

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According to the three property rule, up to three properties can be identified in this exchange. During this process, getting the right number of properties and providing that information to the right persons while meeting deadlines can help to ensure a successful outcome. However, if you have more than three properties to swap, you can do it using the 200 percent and 95 percent rules. 

In terms of the 200 percent rule, if the aggregate value of the properties doesn’t exceed 200 percent of the relinquished property’s value, this rule authorizes someone to identify up to three properties. The 95 percent rule, on the other hand, states that the exchanger can identify any number of properties without regard to the price of the relinquished property, as long as you purchase and close on 95 percent of the value identified. 

Can You Split a 1031 Exchange?

Splitting this exchange is a viable option. There are numerous reasons to conduct a partial 1031 exchange, but they all fall into one of two groups according to the financial criteria of the exchanges. 

First, if you need some income from your sales, a partial exchange can be ideal in such instances. For example, if you sell one of your assets for $3000 and need $500 to pay for something urgent, you can decide to buy a new real estate for $2500 and only earn a $5000 profit that you can use. 

Second, if you want to reduce your leverage, a partial exchange may be appropriate. Let’s imagine you’re selling a $3000 home with a $3000 mortgage debt. If you want to own your next real estate piece free and clear, you could complete a partial 1031 exchange by purchasing another one for $3000 in cash and paying tax on the $3000 boot. That’s how it works.

The Rules of a 1031 Exchange With Multiple Properties

It’s important to understand and follow the IRS rules to complete a successful transaction. These regulations aren’t difficult to follow, yet failing to do so could jeopardize your effort as an investor. So, if you intend to purchase many real estates, you should be aware of the following rules; 

  • When the first of several sales in the same exchange closes, the 45-day identification period and 180-day exchange period begins. 
  • If more than three properties are relinquished in a single exchange, you can decide to list just three properties of indefinite value, or list more than three properties whose combined values do not exceed 200 percent of the properties being sold.
  • All transactions must be completed within the 180-day time frame if the goal is to convert multiple properties into one or more replacements. Thereafter, the investor should consider whether having one exchange or numerous exchanges is more profitable.

Conclusion

Wealthy people are always looking for ways to make their money work harder. 1031 property exchange is a great way to do this, according to Dwaine L. Clarke, founder of Passive Investors Club. 

While the rule governing these exchanges with many properties can be confusing, we’ve broken it down into easy-to-understand steps on how you can take advantage of these tax laws and exchange your income rental properties without incurring any penalties or taxes. 

Suppose you want help figuring out if this strategy will work for you or not, contact NNN Deal Finder today! We specialize in helping clients set up complicated transactions like these so don’t hesitate to reach out whenever you need clarity on these matters.

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