IRC 1031 – Tax Deferred Exchange
It allows you to dispose of investment properties and acquire “like-kind” properties while deferring federal capital gains taxes.
Most states with a capital gain tax offer a similar tax advantage, too.
Bottom line: a tax-deferred exchange allows you to reinvest sales proceeds that would otherwise be paid to the government in the form of taxes.
The replacement property must be identified within 45 days of the transfer of the first relinquished property according to 3-property rule, 200 percent rule, or 95 percent rule.
Exchange period ends at earlier of 180 days or tax return due date.
1) Purchase equal or greater in value.
2) Reinvest all of the equity in replacement property.
3) Obtain equal or greater debt on the replacement property.
Reverse Exchange: when the closing of the replacement property happens before the closing of the relinquished property.
The IRS gave guidance on Revenue Procedure 2005-14 on how to report exchanges of property used as a principal residence and for business/investment use in the last five years.
A property owner can convert a principal residence to a rental property and later sell it and benefit from both IRC 121 (principal residence tax exclusion rules) and IRC 1031 (investment property tax deferred exchange rules).
Property owners must comply with all the rules in both sections to qualify.