The 1031 Exchange Process
While each situation is different, these are some basic steps that would be followed in a forward 1031 exchange to help you understand how a 1031 exchange works:
- Speak to your CPA
Everyone has a different financial situation, which is why we highly advise that you speak to your CPA first to find out if a 1031 exchange will work for you.
- Consult with us to decide which type of exchange will work best for you.
After consulting with your CPA, it's time to give us a call. We will discuss why you want to do an exchange, the 6 rules of a 1031 exchange, and which type of exchange would be best suited for your situation.
Below explains the process of a forward, or straight, 1031 exchange. For information on other types of exchanges, such as reverse, construction and improvement exchanges, please find more information under the “Types of Exchanges” area of our website.
- The process begins prior to closing.
It is important to note this, because once you have closed on your old property, you cannot go back and begin the exchange. Prior to closing, the qualified intermediary needs to prepare all necessary legal documents to be signed prior to the sale of the old property. These documents tell all parties that this property is part of a 1031 exchange. Once the documents are prepared, we as QI’s will give instructions to the closing agent on how to prepare for the exchange at closing.
- After closing, funds from the sale of property are wired to the qualified intermediary.
In between the sale of the old property and the buy of the new one during a 1031 exchange, the exchanger cannot have access to the cash from their sale during the exchange period. This is a big red flag to the IRS because they may think you are using the cash for other purposes. By having the qualified intermediary (QI) like 1031 Exchange Connection hold the cash instead, it is kept at “arm’s length” away from the exchanger leaving no doubt it is not being used by the exchanger. This means it's important for you to find a QI that you can trust to hold your funds since they will be holding your money in trust for you. Here at 1031 Exchange Connection, that trust is one of our top priorities. That’s why we place your money in a segregated, or “non-comingled” account, and we are bonded and insured to keep your money safe during the entire 1031 exchange period.
- The exchanger has 45 days to identify new property.
Starting from the day of closing on the relinquished property, the exchanger enters into the 45-day identification period. This simply means that they have 45 days to identify, or prepare a list that includes up to three (3) properties they would like to purchase as their replacement property. While they don't have to buy all three properties, it is required that the purchase made is at least one property on their 45 day list. The amount of that purchase should be greater or equal to the amount of the sale of the relinquished property to defer all capital gains tax from the sale.
- The exchanger has a total of 180 days to close on their new property.
From the date of closing on the relinquished property¸ the exchanger has 180-days to close, or get into title, on their new property. Remember, this property has to be one from their 45-day list. It is also important to note that the person taking title to the new property must be the same person who held title to the old property. It should essentially be a mirror image. For example, if John Smith was on title of the old title, John Smith must also take title to the new property.
- Finishing up the exchange.
At the time of your closing, the QI is to receive a copy of the contract to purchase the replacement property, and will provide any other necessary documents to be signed to close out the exchange. Prior to settlement, the QI is able to wire funds back to the exchanger so the purchase of the new property can be made.
- Reporting the exchange.
In the year that the relinquished property was exchanged, the exchanger needs to report the sale on IRS Tax Form 8824 “Like Kind Exchange”, and attach this form as part of their tax return.