We understand that you may have many questions about the exchange process. This is why we have put together a collection of frequently asked questions for you to consider. Should you at any time have questions or require clarification, please contact our offices at (888) 212-1031. As always, your friendly and knowledgeable Vesta professional is just a phone call away!

• About the IRC §1031 • How does a §1031 exchange benefit me? • Do I qualify for a §1031 exchange? • Why do I need a Qualified Intermediary? • Types of Exchanges • Timing Rules • Identifying your replacement property • The exchange process

About IRC § 1031

Why is it called a Section 1031?
Section 1031 is the number assigned to the Internal Revenue Code (IRC) section that deals with tax-deferred exchanges. Tax-Deferred Exchanges were first introduced in 1921 allowing owners of investment property to defer the payment of capital gains associated with the sale of these properties. This procedure is outlined under the Internal Revenue Code Section 1031, and involves a series of rules and regulations that must be met in order to take full advantage of this great tax benefit. As a Qualified Intermediary, Vesta has a complete understanding of everything that is involved in utilizing this section of the code and will walk you effortlessly through this process.

How did this law come about?
When income taxes were first imposed in 1918, gain or loss recognition was required on all disposition of property. Provision for non-recognition of gain or loss on the exchange property was introduced in 1921. Since inception, there have been five major amendments made to the §1031 Exchange. In each of these amendments, the law has been expanding, giving sellers of investment property more options and opportunities.

What is the difference between a sale and an exchange?
A sale is an exchange of real property for cash. Because cash does not meet the requirements for “like-kind” property, it is subject to capital gains tax. A Tax-Deferred Exchange is a transaction involving the transfer of an investment or income property and receipt of a “like-kind” property, which will also be used as investment or income. Therefore, an exchange where real property is traded for property is considered a “nontaxable” sale.


How does a 1031 Exchange benefit me?

What are the advantages of a 1031 Exchange?

• Tax Savings: A 1031 exchange allows you to exchange your property for another and defer the payment of federal capital gains taxes. This allows you to preserve your hard-earned equity and in effect, reinvest the tax you owe as an interest-free, no-term loan from the government. • Income: You can increase cash flow. An example of this would be exchanging out of bare land and into an income producing property. • Leverage: The investor who intends to own real property would naturally want to use all of their equity from the sale of investment property to acquire replacement investment property. The 1031 exchange helps you build wealth more rapidly by allowing you to use all of your equity rather than losing a portion through taxes. • Diversification: A 1031 exchange opens doors for diversification. One can achieve geographical diversity by exchanging into investment properties in different regions of the country. Another alternative for diversification is acquiring a different property type such as exchanging some of your single family residential units to a retail strip center. • Management Relief: Investors like you often accumulate several single family residences over the years. As a result, you may find yourself in a management-intensive and time consuming situation. The 1031 exchange allows you to exchange these smaller properties for one larger property with on or off-site management. • Co-Ownerships: Through an exchange, you could divest yourself of problem co-ownerships by exchanging joint interests for sole interests in separate properties.

Will I always benefit from a 1031 exchange?
While many investors benefit from a 1031 exchange, you need an individual investment plan fitted for your situation. Consult your tax advisor to calculate the benefit of doing an exchange. In the case that you want to recognize gain, you should not do a 1031 exchange.

Isn't "tax-deferred" the same thing as "tax-free"?
No. A 1031 Exchange defers the payment of capital gains tax on your relinquished property. The tax basis from this property is carried over to the replacement property. When you finally sell the replacement property, without doing an exchange, you will pay the tax at that time. The good news is that you can repeat this deferral process over and over again, from property to property over a lifetime.

Is there a way to completely avoid capital gains tax in a 1031 exchange?
Only if you hold the property until death. Under the current law, the "stepped-up" basis that your loved ones would inherit on your property eliminates the taxes on a gain.

What is a “basis”?
Basis is the initial value of the original property, increased by capital expenditures, and decreased by allowable depreciation or cost recovery. It is used to calculate the amount of capital gain you will realize.



Do I Qualify?

Who Qualifies for the 1031 Exchange?
If you are an owner of investment property you may be able to take advantage of this law and save on state and federal capital gains taxes associated with the sale of your investment property.

What types of Property Qualifies for the 1031 Exchange?
Section 1031 provides that gain or loss is not recognized when property held for productive use in investment, business or trade, is exchanged for "like-kind" property to be held for the same purpose. Any property held for this purpose, and is not your primary residence is eligible for exchange.

If you have a question about a specific property, your Vesta advisor will be able go into further detail if you provide more information.

What is a “Like-kind” property?
The definition of what is "like-kind" for real property is broad. Any real estate held for investment purposes is eligible for exchange. These properties include commercial real estate, rental property, bare land, apartment buildings, etc.

What is NOT exchangeable?
Stock in trade (inventory), stocks and bonds, REIT stocks, other securities, interest in a partnership, certificates of trust.

If my property is in one state, can I trade it for property in another state?
Yes. 1031 exchanges are applicable anywhere in the United States (and the U.S. Virgin Islands). If you are exchanging in more than one state, please call a Vesta advisor at (888) 212-1031 as there may be state-specific rules which could affect your exchange.

Can I buy a 1031 replacement property and later move into it?
While each situation is specific and different, your intent and motivation at the time of the exchange is the most important factor. If, at the time of purchase, you intended to use the property as your primary residence, even at a later date, it will not be appropriate as a replacement property. However, if you acquire it as an investment, and as a result of a change in circumstance you find it necessary to occupy it, it may or may not have negative tax consequences. Please consult your tax advisor or call Vesta at (888)212-1031 for more details.

Can I lease my property out to a family member?
This is a situation where you would need to carefully document your lease and establish a fair market price of rent. Doing this and consulting your tax advisor will protect you from negative tax consequences.

What is “Boot”?
Any assets received from an exchange that is not "like-kind." The most common types are "Cash Boot" and "Mortgage Boot." All Boots are taxable.

How long must I hold acquired property to qualify?
While the IRS does not have a specific time limit, property held longer than 2 years is generally acceptable to the IRS. The most important factor is your intention for the property at the time of purchase.

If two of us own one piece of property and I want to go forward in a 1031 exchange, but my co-owner wants to take his money, is that allowable?
It depends. If you own the property as "tenants-in-common," then yes; however, your co-owner is subject to the tax on any profit. Partnerships and other legal entities (e.g., LLC's, Corporations) are subject to different rules. Please contact our offices at (888) 212-1031 to speak with a 1031 exchange professional who can give an answer to your specific situation.

We are in a partnership and want to sell our property. Can we go our separate ways in an exchange?
No, you must exit an exchange in the same manner you enter it. To qualify, you must first formally dissolve the partnership and deed out the interests as tenants-in-common before you do an exchange. Then you can sell/exchange your interests separately.

Can I buy a partial interest in a bigger property?
Yes. The IRS recently provided rules for acquiring a tenancy-in-common interest with other investors. For more information, please contact our offices at (888) 212-1031 and ask about a tenancy-in-common.



Why do I need a Qualified Intermediary?

What is a Qualified Intermediary?
A Qualified Intermediary or QI is a third party that helps to facilitate the exchange. Qualified Intermediaries may also be referred to as "facilitator," or "accommodator."

Do I always need an accommodator to do a 1031 exchange?
Yes, if it is a delayed, construction, reverse, or a personal property exchange. In practice, it is still best and safest to use an accommodator even in a concurrent exchange; it is one of the safe harbors permitted by the IRS.

What is constructive receipt?
A term that refers to the Exchangor having unrestricted control of the equity from property sold. Constructive Receipt will invalidate an exchange.

Can my escrow company act as my qualified intermediary?
Only if your escrow company has a separate Qualified Intermediary company. IRS rules for an exchange require the escrow office and the accommodator be independent from each other or the exchange fails. To safeguard you from this potential problem, your trusted advisor at Vesta works with the escrow company of your choosing.

Do I need to hire an attorney to perform an exchange?
Vesta Strategies can provide all the necessary exchange documents. Our documents have been reviewed and approved by some of the most talented and respected attorneys in the field. However, it is always advisable to have legal counsel review any contracts signed.



Types of exchanges

What is the most common type of exchange?
The most commonly used exchange is the Delayed Exchange, also known as the Starker exchange. The process of a Delayed Exchange begins upon the close-of-escrow of the relinquished property. From that close, you will have a maximum of 45 days to identify up to three potential properties that you wish to exchange for. After the 45-day period, the code extends to you an additional 135 days to complete the purchase of one or all three of those properties identified. Vesta provides you with all the documentation and guidance to help make this process hassle free.

To find out more about the time periods, click here!

What if I already have a replacement property in mind and don’t want to wait?
You may want to consider a Simultaneous Exchange. In this scenario, the two properties will be exchanged concurrently. Your Vesta advisor will help you avoid the possibility of having your exchange disallowed due to having unrestricted control (constructive receipt) of the proceeds from the property sold. Therefore, when you work with Vesta, we will act on your behalf as the controller of these proceeds as you complete the legal process. However, you will still maintain full discretion of how the proceeds are handled. You can rest assured that we can prudently and effectively manage your funds with the help of our strategic banking partners and a faultless accounting system.

I’ve heard about “Build-To-Suit” exchanges. What are they and when would they apply to me?
Often, investors like you will want to make improvements to the replacement property and have the cost of the improvements included in the exchange value of the replacement property. The improvements may consist of repairs or remodeling of an existing building, or the construction of a new building on raw land. This is called a Build-To-Suit exchange.

Is there anything I should know before going into a “Build-To-Suit?”
Yes. It is important to know that all improvements should be completed and the exchange estate dispersed within a 180-day time period. As a result, these types of exchanges have to allow for certain uncalculated risks to arise, advance planning is critical in conducting a Build-To-Suit Exchange. Our trusted advisors are not only experienced in handling these this type of exchange but will also make sure your plans for this exchange are carried out in the most efficient manner.

Can I buy my replacement property before I sell my current property?
Yes. This type of procedure is called a reverse exchange. A reverse exchange offers you the unique advantage of finding a replacement property before you sell the investment property you currently own.

Unlike a typical 1031 exchange, you may need to buy your new property before you have sold the old one. Unfortunately, IRS regulations don’t allow you to own title to the old and new properties at the same time. The good news is a reverse exchange allows you to exchange property in reverse order – and still enjoy the tax benefits. Vesta will help you by acquiring title to that new property, allowing enough time for the old one to close. We will essentially hold on to that property until you are ready to make the exchange.

What are the advantages?
There are several reasons you may want to purchase your replacement property before you have sold your old property.
• You face the possibility of losing an earnest money deposit, or favorable financing rates
• You need to construct improvements or buildings on the land you are purchasing.

In these circumstances, a normal 1031 exchange may not be possible. However, a reverse exchange may allow you to preserve equity, leverage and buying power of tax deferral.

What is the IRS’ position on reverse exchanges?
The legal procedure for a reverse exchange was expanded upon and new revenue procedures were added in October of 2000. This Revenue Procedure 2000-37 clarified the IRS’ position and established guidelines for the structuring of a reverse exchange.

These Safe Harbor reverse exchanges require specified documentation and must be completed within 180 days. For personal guidance on a reverse exchange please call our offices at (888) 212-1031. Please follow this link "Reverse Exchanges – A Brief Overview" for more details.



Timing Rules

I know that I need to identify my potential replacement properties in writing, but is there a deadline I need to meet?
Yes. As an exchangor, you have 45 calendar days from the close of escrow on the relinquished property to identify up to three investment properties. Certain restrictions apply should you want to identify more than three properties. Please first contact Vesta for details.

Can you clarify between the 45 and 180 day time periods?
Once the 45-day time period has lapsed, the exchangor has an additional 135 days to close on any and all replacement properties. The combined 45 days to identify and additional 135 days to close constitute a total of 180 days to complete an exchange transaction.

Please take note that if you close escrow on the sale of your investment property after October 15th, you will need to file a tax extension to use the full 180 day benefit.

I've already opened an escrow but haven’t closed yet. Is it still OK to do an exchange?
Yes, because you have not closed on your escrow, you still qualify for a 1031 exchange. Please keep in mind that once you close on escrow, you are no longer eligible for a 1031 exchange.



Identifying Your Replacement Property(s)

How and when do I identify my replacement properties?
Identifying your property(s) is a 2-step process.

First you need to find up to 3 replacement properties to exchange into.

Here are three rules that will safely guide you to a successful identification: • "3-Property Rule": up to 3 potential properties, no matter what their value (the most popular choice by far), or • "200% Rule": any number of properties, but the total value cannot exceed twice the value of the relinquished property, or • "95% Rule": any number of properties, but you must close on 95% of the aggregate value of those identified properties (very rarely used).

Second just fill out the form we provide and return it to us within 45 days from the day of closing escrow.



The Exchange Process

Can I purchase more than one piece of property?
Yes, but you must choose from the three properties you have identified in your 45 day period. Please contact a Vesta representative for more information.

Can I sell 2 properties to buy 1?
Yes, but the strict 180 day time period begins at the time of closing of the sale of the first property.

Is it possible to add capital into the exchange and purchase a replacement property with greater equity then my relinquished property?
Absolutely. This is a very common procedure called “Trading Up” where investors like you take advantage of the 1031 exchange to consolidate their wealth.

Can I take some of the cash and exchange the remainder?
Yes. However, please keep in mind that any cash received can be subject to capital gains tax. If done properly, this won’t affect partial deferment.

Can I carry back a note on my property?
Yes. There are several different ways to handle a note in an exchange. Please consult your tax or legal counsel and explore your options before carrying back a note.

If I start an exchange and escrow, but my property fails to sell, what is my cost?
With Vesta Strategies you will never have to pay a fee for setting up an exchange if you don’t close escrow. In today’s market, most escrow companies and closing attorneys do not charge a cancellation fee for properties that fail to sell. Never-the-less you should check with your own proposed closing attorney or escrow company to determine what their policies may be.

How do I take back a 2nd trust deed or note on the property that I relinquish in an exchange, and avoid paying taxes?
This is one of those situations where you need to be guided carefully by an experienced professional. At Vesta we have many years of experience handling these types of transactions. There are basically two ways of handling this situation. Depending on your particular circumstances, one way may be better then the other. Please call our offices at (888) 212-1031 to get personal and specific guidance.