How to Avoid Paying Taxes using Section 1031 and 121.

Real estate owners can use two different IRS code sections to avoid all, or almost all, of the tax on the sale of their real estate.

Code Section 121 applies to your personal residence. It provides for an exemption of $500,000 of gain for a married taxpayer on the sale of a primary residence (or $250,000 of gain for a single person). To qualify for Section 121, the taxpayer(s) needs to both own and use the property as a primary residence for at least 2 of the last 5 years.

On the other hand, Code Section 1031 applies to any real estate held for investment purposes, like rental houses, commercial property or bare land. It allows the taxpayer to defer, or postpone, the payment of the capital gains tax by rolling the gain from the sale of an old investment property forward into the purchase of a new investment property. And yes, you can use 1031 in selling and buying second homes or vacation homes!

Used together, these two code sections are very powerful. Be sure to consult a 1031 expert or C.P.A. if you are considering a tax-deferred exchange transaction.

What Exactly is "a 1031 Exchange"?

When you sell property, you pay tax. But Section 1031 of the Internal Revenue Code (IRC) lets you defer the tax.

A 1031 Exchange (aka: Starker exchange, tax-free exchange, like-kind exchange, delayed exchange, etc.) is a specific transaction that joins the sale of an Old Property and the purchase of a New Property for the purpose of deferring taxes.

1031 is an actual IRS code, NOT a "loop-hole". Loopholes are technicalities around the law. 1031 IS THE LAW, and is, therefore, safe and legitimate for anyone who meets the requirements.

Qualified properties can be vacant land, rentals, commercial buildings and homes other than your primary residence. 1031 is a great tool when a property has increased in value or has been depreciated for tax purposes. It increases your flexibility, leverage and buying power and lets you change, diversify or consolidate your investments.

Six Things You Need to Know about 1031 Exchanges.

1. If both your old and new properties qualify as investment or business use, you can exchange nearly any type of real estate.
2. You have 45 days from the closing of your old property sale to list the properties you may want to buy. There are no exceptions to the deadline.
3. From the sale closing date of your old property, you have 180 days to close on the new purchase. There are no exceptions.
4. The IRS says you must use a Qualified Intermediary. The QI cannot be your relative, employee, broker, accountant or attorney.
5. You must purchase and take title to your new property exactly as you held title to your old property.
6. You must buy a property equal or higher in value than the one you sold and reinvest all the cash proceeds from your old property sale.