1031 Exchange Or Not?
I’m selling a property I bought in Salt Lake City. It was the first property I bought there and I made a few mistakes on it. Not only didn’t it have front landscaping, it had rubble in the front yard and subsequently had 3 foot weeds growing there.
Also had a run of bad luck with tenants. They kept moving out!
Finally I got bored and one of the cousins of my ex-tenants got his friend to put an offer on the house. I think the house is worth $260,000 less $9k for landscaping or $251k. He put an offer for $242.5k which is more than I’d fetch if I would have listed it with a broker so I took it. Considering I bought it for $210k, that a nice 32.5k profit less around 3-4k in vancancies, or roughly around 28k. Plus I get my 10% downpayment back.
Its a good time to be getting a check for around 50k!!! I have several oil deals I want to invest it in.
Now my problem is whether I want to do a 1031 exchange on this property. If I do, I don’t pay tax on the proceeds, but I also tie up my 21k downpayment for a long time.
In a 1031 exchange you DO NOT get to pull your downpayment out of the deal. Plus I may not be able to invest in the oil deals – it has to go into real estate deals, which most of the oil deals will not [although oil deal sometimes can qualify as real estate deals and be eligible for 1031 exchanges. The downside is they're more expensive to get into and that eliminates any advantage of not paying taxes].
Since I have several properties at this point, I have roughly 45k in depreciation losses. Since my maximum passive loss is capped at 25k, I have 20 to offset against passive profits or the 28k I’ll be making off this deal! That way I get my 21k back and I pay taxes on the remaing 8k, or roughly $1,200! I can live with that. Plus I’m still carrying over 15-20k of losses from the stock market crash of 2000! So I probably won’t end up paying any tax on the profit.
And the sweet thing is the investor actually took over the lease-option agreement of the previous tenant and is paying rent until the loan closes! Of course I charged him a $2k assignment fee which helps mitigate my vacancies.
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May 26th, 2006 at 5:48 am
sounds like a no to me. 1031 in this scenario just doesn’t seem worth it. once you commit to doing an exchange, you kinda “force” yourself to look for another deal, sometimes settling for a less than ideal one. if it ain’t saving that much $$, i wouldn’t do it.
good stuff man!
May 28th, 2006 at 6:48 pm
Great post.
Couple of questions:
What are the timelines on the 1031?
Can you claim cap gains against passive losses? It sounds like you want to use excess passive losses (above the 25k) to offset cap gains on the house – do I understand this correctly? I didn’t think this was allowed.
Seems like the best thing to do anyway is to use your outstanding cap losses to offset gains and carryforward the passive losses rather than mess with the 1031.
May 29th, 2006 at 1:43 am
in a 1031 you have 45 days to indentify a property and 180 days to close on it.
i’m offseting the the capital gains with capital losses and i’ll pay tax on the difference.
I don’t see the problem with using passive losses from stock to offset capital gains from sale of property.
plus i have invested 10k this year in oil wells so thats a 9k write-off.[unlike other passive losses, there is no 25k limit to oil drilling related passive losses]. of course if i start getting a return on the oil, then it’ll just add to my income!
February 17th, 2008 at 10:13 am
I understand your struggle with a 1031 exchange. Let me suggest another tax deferral strategy. It accomplishes the same thing but with the limitations of a 1031.
There is such a thing as a private foundation. The laws have been on the books since the late 1960s. There are over 20,000 of them in California and you don’t need to be Bill Gates to have one. It would take a lot of space to talk about what can be done.
Let me share one simple example from the attorney I know that specializes in setting these up. Their *foundation* purchased a condo in 2002, sold it in 2004 for a $65K gain and the foundation only owed $368 in transfer tax! There is so much more that can be done. I believe they charge $15K to set one up and can do it fairly quickly.
And if you follow golf, you have heard Tiger Woods donating his winning checks to his foundation. Maybe this gives you an idea as to why.
Email me privately if you want attorney contact information and I will be happy to send it. I receive nothing from the referral.
All the best!
February 17th, 2008 at 10:15 am
Ugh! Sorry for the follow-up post. I just noticied a BIG typo in my very first sentence AFTER posting. Grrrrrr!!
It should read “I understand your struggle with a 1031 exchange. Let me suggest another tax deferral strategy. It accomplishes the same thing but *without* the limitations of a 1031.”
Again, my apologies!