1031 Exchanges: What’s at Stake
With time running out in 2015, it is unlikely that federal lawmakers will move forward with comprehensive tax reform this year. However, time still remains for some specific tax code modifications. One provision of particular interest, especially to commercial REALTORS®, is the protection of 1031 “like-kind” exchanges.
What is a 1031 exchange?
Section 1031 of the Internal Revenue Code allows an investor to sell a property, reinvest the proceeds in a new like-kind property and defer all capital gain taxes. The investor must meet numerous requirements and complete the purchase of the replacement property within 180 days of the sale of the first property.
The benefits of a 1031 exchange to an investor are far more than just the ability to defer taxes. These exchanges allow the preservation of 100 percent of equity and the chance to maximize return on investment. Other advantages include the opportunity to diversify an investment portfolio into other property types, as well as to leverage a high equity position in one property into a larger property with financing.
Why are 1031 exchanges so important to REALTORS®?
Research by the National Association of REALTORS® found that 63 percent of NAR members participated in a 1031 exchange in the past four years.
“Like-kind exchanges play a key role in the economy by facilitating billions of dollars in real estate transactions that otherwise would not take place,” said Lou Baldwin, owner and president of Baldwin Properties in WinstonSalem. “There are a lot of situations where an investor’s tax consequences for selling create an obstacle to their being willing or able to sell.”
Like-kind exchanges are essential for a thriving investment and commercial real estate market. If repealed, fewer redevelopment projects will go forward, resulting in fewer new jobs. The like-kind exchange provision provides liquidity to an illiquid asset. Repealing it would harm economic growth.
“The 1031 allows the seller to exchange into a more suitable property for them, while allowing the property they sold to be positioned for improvements under new ownership,” said Baldwin. “This situation is typically a win for the community, in that key properties are rehabilitated and the tax base is expanded.”
REALTORS® are not alone in fighting to retain the Section 1031 provision. Our allies include the National Association of Real Estate Investment Trusts, NAIOP, International Council of Shopping Centers, National Association of Home Builders, Real Estate Roundtable, National Apartment Association and The Nature Conservancy.
What should you do?
Leaders of the Senate Finance Committee and House Ways and Means Committee are already discussing the outline of tax reform legislation. Now is the time to contact the members of North Carolina’s congressional delegation to help them understand that repealing or limiting 1031 exchanges is bad policy. NCAR Government Affairs staff encourages commercial REALTORS® to share their perspective about the importance of 1031 exchanges.
If you have a story about how you or your clients utilized a 1031 like-kind exchange to facilitate economic development in your community, please email it to email@example.com.