Generally, a 1031 exchange is performed to allow a seller of real property to defer federal income tax gains on the sale of real property by timely identifying and closing on a replacement property. If done properly, the seller will not be responsible to pay any federal income tax gains otherwise realized from the sale of the real property. The replacement real property must be identified within a certain time period after the sale and the closing on the replacement property must occur by a date certain as well. A “Qualified Intermediary” must be brought in to hold all of the proceeds of the sale (including the downpayment) and to disburse the proceeds when the purchase of the replacement property occurs.
There are strict rules and requirements that must be complied with in order to successfully perform a 1031 exchange. Failure to comply with each rule and requirement may result in the transaction becoming disqualified and result in the seller becoming immediately liable for the federal income tax realized from the initial sale of the real property.
It is important to discuss the tax implications of a 1031 exchange with your CPA and to advise both your CPA and your real estate attorney as soon as you decide to proceed with a 1031 exchange so that each party can assist with facilitating the transaction.