Delayed (Straight) Exchange
The most commonly used exchange is the Delayed Exchange which is also known as the Starker Exchange. The process of a Delayed Exchange begins upon close of escrow of the relinquished property. From that close date, you have a maximum of 45 days to identify up to three potential properties that you wish to exchange for (replacement property(ies)). After the 45 day identification period, the code extends an additional 135 days for completion of the purchase of one or more of the three properties identified.
A Reverse Exchange provides unique advantages for Exchangers who find a replacement property before they sell the investment property they currently own. What if you want to buy your new property before you sell your existing property? If you buy the new property in your name, and subsequently sell the old property, the transaction will not qualify as a 1031 Exchange. This situation calls for a reverse exchange. In a typical reverse exchange, the QI buys and holds (parks) the new property for you until you have closed the sale of your existing property. You provide the QI with the funds necessary to purchase the new property. You are also responsible for all closing costs on the purchase. You don’t, however, take title to the new property.
The QI acting in the capacity of an Exchange Accommodation Titleholder (“EAT”) takes and holds title to the replacement property while you market the relinquished property. Your loan to EAT is documented by a promissory note from EAT to you secured by a mortgage or deed of trust to the property. When your existing (relinquished) property sells, the exchange proceeds go to your QI. You then use your exchange proceeds to buy the new property from EAT, who then transfers title to you. This completes your 1031 reverse Exchange.
An Improvement Exchange allows you to buy a fixer-upper with part of the exchange proceeds and use the rest of the proceeds to make improvements. Like reverse exchanges, the EAT will take title to the property while the improvements are being accomplished. The EAT cannot transfer the property to you until all of the improvements are completed. You must identify sufficient improvements to use up all of the exchange proceeds and complete the work within the 180-day exchange period.
In a Construction Exchange, you buy bare land with exchange money and build a new building on the land. The EAT must buy the land for you and begin construction, but unlike an improvement exchange, you can close your exchange before the building is completed. You must still complete your exchange before the 180 day exchange period expires. It’s important to note that you cannot take title to the land in your own name or the exchange will be invalid. These types of exchanges have to allow for certain uncalculated risks to arise. Therefore, advanced planning is critical in conducting a construction exchange.
Personal Property Exchange
A 1031 tax deferred exchange allows investors to defer capital gain on the purchase and sale of like kind personal property, such as aircraft, automobiles, livestock, and business equipment. With respect to Personal Property Exchanges the like kind requirements are more stringent than with real property exchanges. Generally, to qualify as “like-kind” the relinquished and replacement depreciable personal property must be of the same General Asset Class or Product Class. There are 13 General Asset Classes.
Although there are no asset classes for non-depreciable tangible property and intangible personal property, such as copyrights, trademarks and franchise agreements, such property may be eligible for tax deferred treatment when exchanged for like kind property, i.e., property of the same nature and character. Unfortunately, goodwill of a business is not considered like kind to goodwill of another business, even when the businesses are the same.