Indefinite capital gains deferral with a 1031 exchange!
A 1031 tax exchange is a technique commonly used by investors in real estate and other property in order to defer tax liability on a property’s sale. This is accomplished by relinquishing rights to a property one plans on selling to a qualified intermediary, who holds the sale proceeds and uses them to buy a replacement property that complies with the regulations delineated in Section 1031 .
Although the present interest in the exchange could lead one to believe that Section 1031 is a recent development, this is not true. As a matter of fact, the history of the 1031 exchange extends all the way back to 1921, though at its conception, it was significantly different from the 1031 exchange we know and love. Section 1031 truly came into its own in the seventies, which saw many significant modifications in the way that exchanges were regulated. These modifications resulted in a farther-reaching conception of the exchange process and also created greater interest from real estate investors.
The indefinite capital gains deferral an exchange provides to the taxpayer might, at first, appear to represent a kind of gift given by the US government, however it is, in reality, more like an interest-free loan, because there is an expectation that the investor will repay the funds acquired by way of the tax deferral by accepting capital gains liability on the eventual sale of a replacement property. In addition, this ”interest free loan” is one that may be kept by the investor for an indefinite period of time; an investor may make any number of exchanges before ultimately electing to make an outright sale, on which capital gains taxes must be paid.
Section 1031 constitutes a mutually beneficial arrangement between investors and the United States government, profiting the U.S. economy as a whole in addition to the individual taxpayer. In viewing the transfer of money in an exchange as representing an extension of a preexisting investment rather than as a discrete transaction liable to be taxed, taxpayers gain the opportunity to transfer their funds into the best investments possible. This, in turn, boosts the country’s economy by bolstering the growth of new jobs.
Like anything else, the 1031 exchange has its skeptics. Some advocates of change in Section 1031 will pose the argument that the tax-free income provided to the investor in a 1031 lends them an unfair advantage. Another common concern is that the strict deadlines imposed on steps in the 1031 process could promote a frenetic rate of buying, resulting in an increase in asking prices for replacement properties. The aforementioned complaints, however, are only loosely based in reality, and the odds that Section 1031 will see any noteworthy change in the coming years are slim. In general, most will concede that Section 1031 is greatly helpful to all parties involved, allowing investors greater profits on the sale of property while additionally encouraging job growth and therefore the greater good of the country as a whole. Little doubt exists that the 1031 exchange will be a part of the investment business for years to come.
