Utah 1031 Exchange

Navigating the Utah 1031 Exchange process can be intimidating. Here are the steps necessary to defer capital gains taxes on real estate.

Understanding the 1031 exchange process is confusing, even for experienced investors. Capital gains taxes are high, so you should do plenty of research before starting the exchange process. Lucky for you, as a real estate investor and full-time discount real estate broker, I have the answers to the most common 1031 exchange questions. 

You will learn about the transactional steps involved in a 1031 exchange, the different types of 1031 exchanges, what kinds of properties qualify, mandatory deadlines, what a boot is, and more.

After reading this article, you will be prepared to navigate the exchange process, safely defer your gains into the future, and not pay taxes today.

How Does A 1031 Exchange Work In Utah?

If you're thinking about a 1031 exchange, knowing the steps to complete the process is essential. So here's an essential step-by-step guide to completing a 1031 exchange in Utah.

Step 1. Identify a Certified Public Accountant (CPA) familiar with the 1031 exchange process.

Step 2. List the property you want to exchange with a discount real estate agent.

Selling with a Realtor is not a requirement for the property to qualify for a 1031 Exchange.

However, a discount agent will maximize your exposure to potential buyers by listing the home on the Utah multiple listing service (MLS) while lowering the commission your pay to an agent.

After all, this is an investment property, and savvy sellers don't pay six percent (6%) commissions.

Once you receive a purchase offer for fair market value on your property, you or your agent must include a cooperation clause notifying the buyer that you intend to complete a 1031 exchange and that they agree to cooperate with you to make that happen.

Your title company, specifically your escrow officer, will deliver a copy of the fully executed contract to the Qualified Intermediary to order the exchange documents.

A Qualified Intermediary holds the funds from the sale in escrow until the exchange is finalized. You can't be taxed on money you never received and can not complete a 1031 exchange without a Qualified Intermediary. No money, no income to tax.

**You can't be taxed on money you never received.  No money, no income to tax.**

Step 3. Your 1031 exchange Qualified Intermediary (QI) will be the principal in selling your investment property and purchasing your replacement property. The deed is still prepared for recording from you to the buyer.

**You do not need to identify the replacement property at this stage.**

Step 4. The closing statement should reflect the Qualified Intermediary as the seller of the property, and the proceeds should be transferred to your qualified intermediary's account.

Now it's time to find a new property to buy. The exchange clock starts ticking, so get out there and find a replacement property.

You have 45 days from the sale of the original property to identify the replacement property and 180 days to purchase the replacement property.

Step 5. Once you locate a new property, you'll send written identification of the address or legal description of the replacement property to your Qualified Intermediary.

Remember that the replacement property must be of equal or greater value than the relinquished property (original property sold). The good news is you're not limited to a single property.

1031 Exchange Rules

Three Property Rule

You can identify up to three properties regardless of their replacement value.

200% Rule

You can select unlimited replacement properties if the total value doesn't exceed two hundred percent of the original property's value.

95% Rule

Identify an unlimited number of replacement properties, regardless of total valuation, as long as you acquire 95% of the aggregate value of the properties identified as potential replacements.

Step 6. Enter into an agreement to purchase the replacement property, including the cooperation clause, and sign an amendment naming the Qualified Intermediary as the buyer. Time is of the essence. 

**You need to close on the replacement property within 180 days of selling your investment property.**

Step 7. When the exchange conditions are met, the Qualified Intermediary (QI) will forward the exchange funds and proceeds to the escrow. The closing statement should show the QI as the buyer. Don't worry. The QI won't be on the deed. The deeding will be from the seller to you.

Congratulations, you've completed a 1031 exchange and purchased a new property (or two), but there's one more step to complete before you finish.

You'll need to report the exchange to the IRS on Form 8824.

Step 8. Finally, when preparing your taxes, ensure your accountant files Form 8824 and any state-required documents.

IRS Form 8824 details the sale of the property, the new property (like-kind exchange), reporting of capital gains or losses, and if any family members or entities you have an interest in were involved in the like-kind exchange.

Types Of Tax Deferred Exchanges

The type of exchange a seller chooses depends on their investment objectives.

Delayed Exchange

This is the most common type of 1031 exchange. The investor sells or relinquishes their current property and purchases a replacement property within the allowable timeframe.

• Forty-five days to identify the replacement property.
• One hundred eighty-five days to purchase the replacement property.

Simultaneous Exchange

When you close on the investment property you're selling and the replacement property you're buying simultaneously.

Reverse Exchange

This exchange type allows purchasing the replacement property before the current property is relinquished.

Investors must identify which property they own will be sold as the relinquished property within 45 days of purchasing the replacement property.

Build-to-Suit Exchange

Also known as the construction or improvement exchange.

This allows proceeds from the relinquished property to be used to build new, add capital improvements to a property of lesser value than the original property, or make necessary repairs to the replacement property.

All improvements must be made before closing on the replacement property to avoid capital gains tax.

1031 Exchange FAQ

What Are The Benefits Of A 1031 Exchange?

The main benefit of selling one property and purchasing another property through a 1031 exchange is to defer capital gains taxes. It is essential to know that 1031 tax deferred exchanges do not eliminate taxes. Taxes will become due once your investment properties are eventually sold.

What Are The Disadvantages Of A 1031 Exchange?

You cannot access your profits since you've deferred your capital gains from the sale by purchasing a different investment property.

Can You 1031 A Primary Residence?

NO.

A 1031 exchange is for investment properties only.

Can I Convert A 1031 Property Into My Primary Residence?

It's all about your intentions.

The IRS does not allow people to use capital gains from investment properties to buy an owner-occupied home.

However, you can convert a replacement property into your primary residence after being used as a rental for at least two years from the exchange date.

What Is The 2-Year Rule For 1031 Exchange?

According to Internal Revenue Code §1031(f), if two related parties (family members, spouse, corporations, or partnerships) who own separate properties exchange or "swap" them with each other, they can defer capital gains tax, provided that both parties hold onto their replacement properties for a minimum of two years after the exchange.

**This is known as the Two-Year Holding Period.**

Do I Need To Reinvest All The Profits From The Sale?

A standard 1031 exchange requires the investor to use all the proceeds from selling the relinquished property.

However, the investor can do a partial exchange and only reinvest a portion of the gains but must be prepared to pay capital gains taxes on any proceeds not reinvested in the new property.

What Is A Boot In 1031 Exchange?

When acquiring a property through a 1031 exchange, the term boot refers to any additional value received beyond the value of the relinquished property.

Boot Examples

• Cash profits from an exchange.
• Debt relief when the property is exchanged.
• Real property (real estate) is exchanged for personal property (cars, appliances, etc..).
• When proceeds from the exchange are used to cover non-transaction costs.
• If the exchanged property is not like-kind.

For example, if the proceeds from the sold property are $300,000, and you only reinvest $200,000 in the new property, then the $100,000 difference is called a boot.

You will be responsible for paying capital gains tax on the $100,000 boot.

What Does Like-Kind Mean?

Like-kind doesn't mean the properties being exchanged need to be the same.

For example, you are not required to exchange identical properties, such as a four-plex apartment building for another four-plex or a mobile home park for another mobile home park.

"Like-kind" means you're exchanging one investment property for another investment property. For example, swapping a parking garage for a strip mall is possible.

Basic 1031 Exchange Terms To Know

You should be familiar with these basic terms when doing a 1031 exchange.

Capital Gains Tax

Federal and state governments impose a tax on investments such as real estate, stocks, bonds, collectibles, and tangible depreciable personal property.

Cooperation Clause

A provision included in the Real Estate Purchase Contract (REPC) for both the relinquished and replacement properties discloses the transaction as a part of a 1031 exchange.

It requires all parties to cooperate in completing the exchange.

Personal Property

Movable property that is not permanently fixed to one location. Examples of personal property common in real estate transactions are refrigerators, water softeners, and storage sheds.

Qualified Intermediary

An unrelated party participates in the exchange to facilitate the seller's relinquished property and the acquisition of the replacement property.

**Qualified intermediaries are a requirement to complete a 1031 exchange.**

Real Property

Refers to the land and its improvements.

Relinquished Property

Refers to the investment the property owner intends to sell or exchange for another like-kind property.

Related Party

An individual or business entity with a special connection to the seller in the exchange. Transactions between a related party and an exchanger may be prohibited in a 1031 exchange.

This post was all about offering the most user-friendly 1031 exchange guide. Now you should know the basic steps of deferring your taxes, why working with an experienced discount agent matters, what a Qualified Intermediary is, and why you need one.