1031 Exchange - Understanding How the Exchange Process Works - Part II of IV

In my last blog, we went over the benefits of a 1031 Exchange. So let’s go a little deeper into the different types of 1031 Exchanges available to investors. 

First things first, what are the basic requirements to qualify for a valid 1031 Exchange? 

Almost any property qualifies for a 1031 Exchange unless the property is your principal residence, it must be an investment property such as rental or commercial properties or vacant land. Investments must also be of "like-kind" investments, for example, you can’t exchange a business into a commercial building or a rental property into a principal residence (click here for the IRS explanation on like-kind exchanges).

Here is the timeline for a Delayed Exchange.

Basically, there are four types of exchanges for real estate properties and they depend on your situation.

Simultaneous Exchange – Selling your current property and purchasing a replacement property at the same time is a simultaneous exchange. It’s ideal, but can be difficult to accomplish when there are many moving parts, such as the transactions, different lenders, properties in different states, etc.

Delayed Exchange - This is the most popular type of exchange. Investors sell their investment property first and have up to 180 days after the sale to purchase a replacement property, all while a 1031 facilitator holds the proceeds for the replacement property. Up to three properties must be identified in writing within 45 days after the close of the relinquished property.

Reverse Exchange - In this situation, an investor purchases the replacement property prior to selling the investment property. This type of exchange is ideal for investors who must close on the replacement property prior to finding a buyer for their relinquished property. However, please note that the investor is not able to take title to the replacement property until the relinquished property sells and closes successfully.

Though this type of exchange may be perfect for investors with a particular situation, because of the complexity, the cost for this type of exchange may be greater than the popular Delayed Exchange. The 45-day and 180-day timelines are still in effect, just in reverse. How many and which relinquished properties are for sale need to be identified within 45 days after the purchase of the replacement property and the sale must close on those relinquished properties (or property) within 180 days for the exchange to be valid.

Improvement Exchange - Also known as a Construction Exchange or Build-to-Suit Exchange, this type of exchange occurs when the investor uses the exchange proceeds to improve the replacement property. As in the Delayed Exchange and Reverse Exchange, the investor has 45 days to identify the replacement property and up to 180 days to close on the transaction with finished improvements. Any unfinished part of the improvement plans will not qualify as part of the exchange. 

The last two exchanges are by far the most difficult and costly; however, they may be the only option when trying to complete an exchange that seems impossible to close. 

Once again, the most important timelines to remember are the 45 days to identify the replacement property (Delayed Exchange) or to relinquish property (Reverse Exchange), and 180 days to complete the exchange.

Next month, in part three of our four-part series on 1031 Exchanges, I'll go over different aspects of the exchanges.

Please let me know if you have any questions about doing a 1031 Exchange. I hope that my experience and knowledge in real estate helps you through any type of real estate transaction smoothly and stress-free. I’m here to help others make real estate happen.

Warmest Mahalo,
Kengo Ueno (R)

Kengo Ueno (R)

 
eCertified, ABR

Direct: (808) 739-4148
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email: kengo.ueno@pruhawaii.com

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