Real Estate Investing 101 – Understanding the 10 Minute Tax Conundrum

Investing in real estate is not for the faint of heart

It is one thing to be prudent about investing in the stock market, but it is quite another thing to lose your shirt in real estate. Real estate is the most lucrative investment today and one that yield a high profit margin. However, there are certain dos and don’ts when dealing with real estate. Following these steps will help you find that sweet spot in real estate investment.

The 1031 exchange is a technique of deferring capital gains tax on the sale of commercial or residential real property. This has been a secret of innumerable real estate investors and financial wizards for the last many years. The 1031 exchange was first introduced by President Harry S. Truman during his term as the US President. The aim was to stimulate the growth of the American economy. Although this was successful in the short term, investors found the policy to be ineffective in the long run as it did not bring about a reversal of appreciation in the value of the country’s real estate.

your capital gain in the first transaction will be subject to the tax

Commercial real estate investors have to follow certain rules to avail of this tax deferment or depreciation benefit. First, like-kind exchanges must be made at the same time. For example, if you buy a home in the city of Seattle and sell it in the city of Redmond, you will have to make like-kind exchanges in the second case. Secondly, in case you do not make a like-kind exchange.

Meets the requirements of section 10 31(a) for sale to a non-taxpayer, then it may qualify for the alternative procedure known as the reverse exchange. To qualify for the reverse exchange, the property you buy must be suitable for resale. It is only in this way that the taxpayer gains a profit from the exchange. The alternative procedure requires you to carry out research before carrying out the process of exchange.

Research in this case refers to the search for a qualified intermediary

You can get a list of qualified intermediaries from the IRS. Alternatively, you can contact a real estate lawyer who specializes in such transactions. In case you find no qualified intermediary, you will have to arrange a meeting with the concerned person to enter into an exchange agreement. You can also meet the concerned person in person to carry out the research.

Another option open to you is the right of purchase and sale under section 1032. However, this right of purchase and sale is available only to taxpayers who acquire their assets within the year. A taxpayer may choose to exclude his interest in a like-kind exchange from tax if he can show that he acquired his asset in the year before the option was available to him. However, if you were not able to obtain the option and you are unable to sell or buy your asset within the year, you will have to make capital gains from the sale or purchase of your asset.

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