Everything You Need to Know to Defer Taxes

Written by Patty Flowers. Patty Flowers is AVP for Investment Property Exchange Services (IPX1031®) and a Certified Exchange Specialist®. See her website

As we roll into the summer, it’s refreshing to see continuing economic improvement mirroring the growth of income property sales and 1031 Exchanges. However, the excitement of an increased property sale value can be quickly diminished with unexpected taxes. Many real estate investors are surprised to learn that taxes on their profits are substantially higher this year. When investment real estate is sold in 2013, some taxpayers could pay up to 20% capital gains tax, a 3.8% healthcare tax, depreciation recapture tax and varying state imposed taxes. Added together, these taxes can total anywhere between 30-40%, making 1031 Exchanges an invaluable wealth preservation tool.

Tax deferral is the hot topic in the real estate community and a 1031 Exchange still allows taxpayers to defer all of these taxes by simply rolling their profits into another property or properties. While the concept of a 1031 Exchange is straightforward, some investors and advisors may not have participated in a transaction for many years and may need to be updated on how to properly execute a 1031 Exchange.

Know your options and make informed decisions for your next 1031 Exchange transaction. Register today for IPX’s two complimentary webinars!

A 1031 Exchange Introduction and Refresher Webinar

This webinar will be held on June 12th and will provide a comprehensive foundation of 1031 Exchange information. Learn the basic rules and regulations and how to apply these to your transaction for maximum benefits.

Click here to register for the June 12th webinar

Advanced 1031 Exchange Issues Webinar

This webinar will be held on June 19th and will discuss the most recent changes in tax deferred exchanges and will cover topics such as reverse exchanges, build-to-suit exchanges, using seller financing in a 1031 transaction, and related party issues.

Click here to register for the June 19th webinar

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Will You Pay Taxes at 2012 or 2013 rates?

Written by Patty Flowers. Patty Flowers is AVP for Investment Property Exchange Services (IPX1031®) and a Certified Exchange Specialist®. See her website.

If a delayed 1031 exchange began in the latter portion of 2012, the exchange period may run into 2013. If the exchange fails or if the taxpayer receives cash boot in 2013, the 1031 regulations treat the exchange as an installment sale allowing the taxpayer to consider that the exchange proceeds were received (and are taxable) in 2013.

However, given the fact that taxes will be increasing for many taxpayers in 2013 (Healthcare Tax of 3.8% plus a potential increase in the long term capital gain rate) a taxpayer may want to recognize the gain in 2012 (when the relinquished property sold) rather than in 2013 (when the exchange proceeds are received). There is a way to do this! In accordance with IRC section 453(d), a taxpayer may “elect out” of the installment method; thereby recognizing the gain in 2012 instead of 2013.

To elect out, the sale should be reported on Form 8949, Form 4797 (or both) and not on Form 6252. The election must be made by the due date, including extensions, for filing the 2012 tax return. For more information about the procedure and forms to use see IRS Publication 537 and consult with your tax advisor.

We, at IPX1031®, pride ourselves on not only being the industry leader in service and security, but we also strive to help our clients and their advisors keep current on issues of interest. We aim to be your valued information resource. For more information about us or our complimentary monthly webinars about 1031 exchanges, visit our website at www.ipx1031.com.

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For Investment or for Sale?

Written by Patty Flowers. Patty Flowers is AVP for Investment Property Exchange Services (IPX1031®) and a Certified Exchange Specialist®. See her website.

Most owners of real estate will tell you that if they bought a property for $75,000 and sold it a month later for $100,000, that it was a great investment. If they avoided paying the capital gain tax on their sale by utilizing an IRC §1031 exchange, well they are not just a great investor, but a genius to boot. Unfortunately, that is exactly what the IRS may determine: that the capital gain tax the investor tried to defer is just that, “boot.” The investor will pay ordinary income tax on all of the gain because the asset does not qualify for a §1031 exchange.

What should the investor do so that the sale of his property qualifies for §1031 treatment? The intent by the taxpayer to hold property “primarily for sale” prevents the property from qualifying for tax-deferral treatment. While in general, most properties owned by developers, builders and people looking to fix up and resell will probably be considered to be held “primarily for sale,” the IRS looks to the intent of the taxpayer at the time of the disposition of the property. To qualify for exchange treatment, the taxpayer must have intended to hold the property for investment or for productive use in the taxpayer’s trade or business. Factors that the IRS looks at to determine the presence or absence of a qualified intent include:

1. The frequency and number of real estate transactions entered into by the taxpayer.
The more property sales by the taxpayer, the more likely the IRS will find that the taxpayer is a “dealer,” that the property is “held for sale” and does not qualify for exchange treatment. An example is the investor who buys foreclosed/distressed properties, fixes them up and then immediately attempts to “flip” for a quick profit.

2. The development activity of the taxpayer.
This includes the taxpayer’s activities, such as subdividing the property, adding streets, roads, sewers, utility services, rezoning and renovating the property. The IRS looks at the extent that the gain on the sale of the property was attributable to the taxpayer’s own efforts relative to the property as opposed to a gain due to external factors. Subdividing a property will not necessarily prevent a taxpayer from receiving exchange treatment on the disposition of the property.

3. The nature and extent of efforts by the taxpayer to sell the property.
Sales efforts of the taxpayer, such as advertising, use of sales personnel, a sales office to sell individual lots in a subdivision, or listing with and delegating sales activities to a broker, will be reviewed to determine the proportion of the Exchanger’s income that is derived from the sale of the property, and the extent of the taxpayer’s involvement, time, effort and control over the sales activities regarding the property.

The time factor alone, how long the property was held by the taxpayer prior to sale, is not what determines intent. Rather it is a facts and circumstances test involving a number of factors.

Taxpayers are always advised to consult with their tax and legal advisors regarding the exchange status of a property prior to selling their property.

We, at IPX1031®, pride ourselves on not only being the industry leader in service and security, but we also strive to help our clients and their advisors keep current on tax issues pertaining to §1031 exchanges and applications for them. We aim to be your complete information resource. For more information about us or our complimentary monthly webinars about 1031 exchanges, visit our website at http://www.ipx1031.com.

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Tax Deferral in the Face of The 2010 Health Care Bill & the Expiration of the Bush Tax Cuts

Written by Patty Flowers. Patty Flowers is AVP for Investment Property Exchange Services (IPX1031®) and a Certified Exchange Specialist®. See her website.

Although George W. Bush has been out of office for four years, the implications of his tax cuts are still in
place….but perhaps not for long. In 2001, Congress passed The Economic Growth and Tax Relief
Reconciliation Act of 2001 (a.k.a. “The Bush Tax Cuts”) which effectively lowered the Federal capital gains tax to
15% on long term investments. This means that an investor can expect to pay 15% of the gain to the Federal
government if they decide to sell and “cash out” of their investment property instead of completing an IRC §1031
exchange.

For example, if an investor bought a commercial building in 1995 for $1 Million and sells it in 2012 for $2 Million,
they can expect to pay approximately $150,000 (15%) in Federal capital gains tax. (Note: For simplicity, this
example does not address depreciation recapture taxes, state taxes or improvements to the property.)

As it stands right now, “The Bush Tax Cuts” are set to expire at the end of this year. With 2013 fast upon us, it is
possible that “The Bush Tax Cuts” will fade into the annals of history, thus causing the long term capital gains
tax on investments to rise from 15% to 20%. Although this 5% increase seems minimal, the investor with the
$1million gain would expect to pay an additional $50,000 in capital gains tax if they sold and “cashed out”, rather
than exchanged into like-kind property.

Additionally, beginning January 1, 2013 certain taxpayers will be subject to a 3.8% tax on investment income as
provided in the 2010 Health Care Bill. The tax will be imposed on passive investment income including, but not
limited to, capital gains, rental income, interest and dividend income for individuals whose annual income
exceeds $200,000 or married couples who file jointly and whose annual income exceeds $250,000. This new
tax on investment income results if the taxpayer is a passive investor in relation to the investment creating the
income. There are many nuances to this tax, but its applicability and impact should be contemplated in any
decision to sell.

Using the example above, a single person with a $2 Million Adjusted Gross Income (AGI) with $1 million of
recognized gain from the sale of a passive real estate investment would pay 3.8% on the lesser of AGI above
$200 thousand or the recognized gain. In this example, the amount of gain ($1 million) is less than $2 million of
AGI minus $200,000 ($1.8 million). Applying the 3.8% tax to the $1 million of recognized gain generates
$38,000 of additional tax.

Assuming the expiration of the Bush Tax Cuts and the facts of our example above, the investor choosing to
complete a §1031 exchange rather than an outright sale would defer all gain recognition and therefore defer at
least $238,000 in federal taxes. Note that since none of the gain is recognized in a §1031 exchange, both capital
gains and the 3.8% healthcare tax are deferred.

Be certain to consult with your tax and legal advisors before entering into any plan relating to taxes and estate
planning. For more information about §1031 exchanges, please contact me.

We, at IPX1031®, pride ourselves on not only being the industry leader in service and security, but we also strive
to help our clients and their advisors keep current on tax issues pertaining to §1031 exchanges and
applications for them. We aim to be your complete information resource. For more information about us or our
complimentary monthly webinars about 1031 exchanges, visit our website at http://www.ipx1031.com.

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Five Reasons to Exchange

Written by Patty Flowers. Patty Flowers is AVP for Investment Property Exchange Services (IPX1031®) and a Certified Exchange Specialist®. See her website.

A story about Appreciation, Depreciation, Cash Flow, Diversification and Tax Deferral

If an investor bought an apartment building for $100,000 in 1975 and it is now valued at $1.8M dollars, the
property has appreciated significantly and is now worth eighteen times what it was in 1975. Clearly, this was a
great investment. But, like all investments, one should analyze whether it is now better to hold or to divest the
asset.

The apartment building is currently owned free and clear of debt. It has been owned for more than 27.5 years so
it is fully depreciated and no longer eligible for annual depreciation deductions on the investor’s tax return.
Reviewing the cash-flow, after property taxes, maintenance, and insurance, it produces net rental income of
about $3,000 per month.

$36,000 per year on an investment property worth $1.8M amounts to 2% annual income on the investment.
However, the original $100,000 investment has grown by 1800% and there is now $1.8 million dollars’ worth of
equity tied up in one asset. Since interest rates are at historic lows, what better time than now, when property
values are lower than they were a few years ago, to unlock some of that equity and exchange, tax deferred, into
one or more properties with greater income and long-term appreciation potential?

Through an I.R.C. §1031 exchange, this real estate investor can sell his investment property and accomplish a
number of tax and investment goals. A 1031 tax deferred exchange permits the investor to defer federal and
state capital gains and depreciation recapture taxes. The investor can buy property with improved cash-flow, and
if encumbered, with an interest deduction to be claimed. If the replacement property is greater in value than the
relinquished apartment building, then depreciation deductions will also be available for the increased basis (the
difference between the purchase cost of the new property, less the gain deferred on the exchange of the old
property). Additionally, because multiple properties can be acquired through a single exchange, the investor can
diversify the real estate portfolio, thereby hedging the investment risk inherent in a single property.

Appreciation, depreciation, cash-flow, diversification and tax deferral are important drivers for doing a §1031
exchange. Investors should examine their real estate holdings and do the 5 point analysis suggested in this
article. If repositioning a real estate portfolio is in order, the valuable tax benefits of a 1031 exchange should be
considered.

Investment Property Exchange Services, Inc. (IPX1031®) is a Qualified Intermediary providing a full range of tax
deferred exchange services across the country including forward, reverse and build-to-suit transactions. We
look forward to helping you and/or your clients maximize qualifying investments through a §1031 exchange
strategy.

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Is it Time to Reposition Your Assets?

Written by Patty Flowers. Patty Flowers is AVP for Investment Property Exchange Services (IPX1031®) and a Certified Exchange Specialist®. See her website.

Yes, even in this economy, IRC Section §1031 Exchanges are happening! Recently investors have taken
a step back to review their portfolios and revise their strategies for maximizing their return on investments.
As for real estate, appreciation is not the golden ticket it once was as a reason to hold property, and as
such owners are analyzing their properties, looking for ways to restructure portfolios and improve cash
flow.

Looking at the bigger picture, utilizing a 1031 Tax Deferred Exchange now to reposition assets may afford
the investor greater cash flow and appreciation over time. Exchanging at the time of sale allows the
taxpayer to keep more of their money working for them, rolling it into new property which may be a better
purchase now with the added incentive the value will grow over time, affording greater gains in future
years.

Sales prices are not as high as they once were, however there’s likely some gain unless the property was
purchased at the market’s height. Few advisors feel investors should “just pay the tax – it’s the lowest it
will be”…because it’s not just the 15%… Even if a sale this year triggers little to no gain on the property,
there is still the payment due of depreciation recapture tax – cost recovery to the IRS.

Along with the Federal Capital Gains Tax, Federal Depreciation Recapture Tax (25%) and applicable
State Capital Gains Tax (5-10%) is realized upon disposition. Additionally, many states institute a nonresidence withholding tax; and let’s not forget the Alternative Minimum Tax (AMT) – the receipt of gain
from a sale could push the taxpayer into a situation where their AMT exemption is eliminated. By
conducting a 1031 Exchange, all these taxes can be deferred!

In addition to real estate, sales with a personal property component may be subject to substantial
recapture tax, upwards of 35%. Those selling multiple asset properties such as hotels, restaurants or gas
stations often structure several exchanges to accommodate the real and personal property components.
Beneficial since they are generally owned under different entities, and the deferred gain and basis
calculations may be different.

Has your client done a Cost Segregation of the property? Beneficial at the time, but subsequent sale of
that property may trigger larger amount to recapture…all can be deferred with a §1031 Exchange!

Stand-alone business or personal property assets able to be exchanged may include equipment, charter
boats, fishing vessels, planes, trucks, construction or agriculture equipment, artwork and collections, as
well as intangible property, such as franchise licenses, sales routes, broadcast spectrums or copyrights.

Other creative tax strategies include Reverse Exchanges, which may be the answer if the investor finds
new replacement property first and must close before the other property sells; or if the property being sold
fails to close on time and the new property purchase cannot be postponed.

Build-to-Suit (aka Construction/Improvement) Exchanges allows investors the opportunity to either
renovate an existing improved property or construct new improvements on raw land as part of their
replacement property.

Think there is no need to exchange? Think again… IRC §1031 Exchanges are vital to
professionals looking to expand their client base and grow their business – a working knowledge is
essential to create opportunities for advisors and their clients. As well, IRC §1031 Exchanges are vital to
investors looking for options to reposition assets, generate more cash flow, protect their estate and of
course, not pay taxes!

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