A Guide to 1031 Exchanges in Minneapolis

Ordinarily, if you sell a property in Minneapolis, you will have to pay some form of Capital Gains Tax. This can range anywhere between 15 and 20 percent of the property’s value. But this isn’t the case for a 1031 Exchange – an important real estate term to be aware of.

Under Section 1031 of the Internal Revenue Code, investors can exchange their property for another without paying any capital gains tax. However, for this to happen, you must strictly follow all rules under the code.

In this blog, you’ll learn everything you need about 1031 Exchanges in Minneapolis.

How do 1031 Exchanges Work?

1031 Exchanges are also known as “like-kind” exchanges. Section 1031 of the IRC allows investors to swap their properties without having to pay any taxes as long as the process is procedural.

There are various types of exchanges that the code allows for, but the most common is a Delayed Exchange. Someone making an exchange will need to relinquish their property before acquiring another. There are certain timelines that must be strictly obeyed for the exchange to be successful.

What Properties Qualify For A 1031 Exchange?

Not all properties qualify for a 1031 Exchange – they must be like-kind. In real estate, like-kind simply means that the properties being exchanged must be similar in character, class, and nature regardless of their grade, quality, or amenities.

The following are exchanges that would qualify under Section 1031 of the U.S. tax code.

• Raw land for a single-family home.
• An apartment building for a hotel.
• A shopping complex for raw land.
• A retail store for an apartment building.
• An industrial building for a medical complex.

How Can An Investor Swap A Property Under Delayed Exchange?

As already mentioned, Delayed Exchanges are the most common. The following are the things you’d need to do in order to ensure the process is a success:

Use a Qualified Intermediary (QI)

A QI is a glue that puts the buyer and seller together, to ensure a successful transaction as per the requirements of the IRS.

Who can act as a qualified intermediary?

A QI can be but is not limited to, your attorney, broker, or accountant. Generally speaking, their role is to:

• Hold proceeds resulting from the sale of the relinquished property.
• Complete all the necessary documentation within the stipulated timelines.
• Ensure the process abides by the code.

Identify A Replacement Property Within 45 Days

As already mentioned, there are certain timelines that investors in a like-kind exchange must keep to. One of these timelines is the 45-day identification period. This means you have 45 days to identify a replacement property after the sale of the relinquished property.

This time period isn’t negotiable and includes both holidays and weekends. If you exceed this timeline in any way, the entire exchange will fail. As a result, you will need to pay capital gains taxes on the sale.

Close on the New Property Within 180 Days

Once you’ve selected the replacement property, you’ll have 180 days to complete the exchange. The time limit starts the moment the relinquished property was transferred to the buyer.

Avoid “Boot”

Failing to reinvest all proceeds from the sale of the relinquished property in the acquisition of replacement property will result in a “boot.”

Suppose, for instance, you sell the relinquished property for, $250,000. But instead of re-investing all the money in acquiring a replacement property, you only use $200,000. In this case, the difference ($50,000) would become boot. The boot is taxable according to the IRS.

The boot can occur in many ways during the process. Including:

• Cash proceeds: failing to transfer all proceeds of the sale of your old property to your qualified intermediary.
• Exchanging properties that don’t meet the like-kind requirement.
• Debt relief on the relinquished property from the assumption of a mortgage, trust deed, or contract.

To avoid boot, the following are some things that you’ll want to do.

• Don’t over-finance mortgage on the replacement property.
• Either include personal properties such as appliances in the final purchase price or handle them completely separately.
• Transfer all the proceeds of the relinquished property to the qualified intermediary for the acquisition of replacement property.
• Trade up in real estate value.

What are the other types of 1031 Exchanges?

Besides Delayed Exchanges, the Internal Revenue Code also allows other types of 1031 Exchanges. They are as follows.

• Reverse Exchange. In a Reverse Exchange, an investor is required to acquire the replacement property prior to transferring the relinquished property. The investor will need to acquire a new property first and then sell their old property within 180 days.
• Simultaneous Exchange. This is the most basic type of a 1031 Exchange. The closing point of the relinquished property and the replacement property must occur on the same day without any interval between closings being allowed.
• Improvement Exchange. This is also referred to as a construction or build-to-suit exchange. It allows an investor to construct the “perfect” replacement property or complete renovations in order to acquire precisely what’s desired.

Bottom Line

As a savvy real estate investor in Minneapolis, you may be able to use this investing strategy to quickly grow real estate wealth. If you need help or further clarification on what steps to take, MN Property Nerds can help.

At MN Property Nerds, we have experts that understand the Minneapolis real estate market to a fault. Get in touch with us today to learn how we can help you grow your investment portfolio. We’ve been operating in the Twin Cities since 2007!