If you're a real estate investor, you want to keep as much money as possible. That's not easy to do when you're dealing with capital gains taxes. Capital gains taxes can take a big chunk out of your investment income. That's where 1031 exchanges come into the picture. 1031 exchanges let you invest in real estate, without adding to your capital gains taxes. But, you do need to take the right steps. Mistakes with the 1031 exchange process can come back to cause big problems for you down the road. To help you avoid those mistakes, here are some steps you need to follow with 1031 exchanges.
Follow the Property Use Rules
When it comes to using the 1031 exchange to your advantage, make sure you follow the property rules. First, pay close attention to the value of the property you want to exchange. The replacement property needs to have a market value that's at least equal to the property you're replacing. Also, make sure that the property gets used for business or investment purposes only. That means you can't use the property for your own personal use. Following these rules will help you avoid problems.
Adhere to the Proper Timelines
If you're going to take part in a 1031 exchange, be sure to follow the timelines. You might not realize this, but there are strict timelines that need to be followed. The first timeline deals with the window for finding the replacement property. The next timeline deals with the window for buying the property. Failing to meet those timelines could put your transaction at risk.
Avoid Replacement Boot Taxes
If you want to protect your investment, pay attention to property value. If the value of the replacement property is less than your current property, you could end up owing a boot tax. Boot taxes are due when your replacement property gets valued too low. When that happens, you owe a tax on the difference in value.
Understand Current Estate Laws
If you've never participated in a 1031 exchange, now's the time to research current estate laws. This is important if you plan to include your investment property in your estate plan. Your beneficiaries may owe taxes on the investment property they inherit from you. To avoid that, talk to an attorney about your estate plans. They can help you protect your family from inheritance taxes related to your 1031 exchange properties.
Contact a local tax service to learn more about 1031 exchange rules.
