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Barrister
Barrister, Lawyer
Category: Real Estate Law
Satisfied Customers: 36216
Experience:  16 years real estate, Realtor. Landlord 26 years
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We inherited a tri-plex in CA. In 2010. It was appraised at

Customer Question

We inherited a tri-plex in CA. In 2010. It was appraised at the time for $750,000. We have just sold it for $1,443,000. We would like to do a 1031 exchange on a small amount of approx. $175,000. It's a single family home in Texas that I plan on renting. Would this help lower our capital gains tax responsibility? We have gotten many different answers. I thought a real estate lawyers should know for sure. Thanks in advance, Guyla Cupples We have been told that we will pay taxes of about $250,000.
Submitted: 1 year ago.
Category: Real Estate Law
Expert:  Barrister replied 1 year ago.

Hello and welcome! My name is ***** ***** I will try my level best to help with your situation or get you to someone who can.

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If you do a like kind exchange, it will defer some of the capital gains taxes that would otherwise be due on the sale of the property. So yes, it will help lower any capital gains taxes. As part of a 1031 exchange, you have a third party escrow agent hold some portion of the sales proceeds and then you have 45 days to identify another property and must close within 180 days on the new property..

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But this would be long term capital gains taxes so if you are in the 25-35% income tax bracket, you would pay 15% of the gain ($693,000) in capital gains taxes. So doing the math, it would be $103,950, not $250,000....

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thanks

Barrister

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Customer: replied 1 year ago.
Thanks for the reply. You gave me the answer we wanted and how my husband interpreted the IRS law. The escrow office says the amount we want to reinvest is not enough. It has to be higher than, what they referred to as the base, the $750,000. that property was valued at when I inherited it. Our realtor also asked someone he knows. All have said we are not spending enough on the new property. So, who should I go to, to make this happen? Thanks again,Guyla
Expert:  Barrister replied 1 year ago.

You are very welcome. And I would have to agree that in order to get a full tax deferral, the exchange must involve reinvesting all of the proceeds in the "like kind" replacement property.

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If you wanted to do a partial exchange you can do a partial exchange and not reinvest all of the net equity or take on debt in the replacement property – the property being acquired - that less than the debt in the relinquished property – the property being disposed of. The exchanger must recognize as income the exchange proceeds received and/or the reduction of debt to the extent there is a capital gain.

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So technically, you will still get hit for a good amount of taxes if you don't re-invest more money...

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Let me give you an example:

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Jane sells a property for $100,000 that has a $50,000 loan. At closing, she repays the bank and nets $50,000 in proceeds. In order to have full tax deferral, she would need to buy a property of equal or greater value, and reinvest all $50,000 in it. After sear*****, ***** identifies two choices: one rental house for $90,000 and land for $120,000. If Jane buys the first property, she can use her $50,000 toward the purchase, and obtain a loan for $40,000 or invest the same amount of new cash to get make up the total price. If she does this, she will have $10,000 mortgage boot that will be taxable. If Jane elects to purchase the second property by using all her proceeds and either obtaining a loan or investing new cash, she will have total tax deferral.

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So by investing that small of an amount, I would agree with your escrow office that it won't save you any money here because that would leave all the capital gains as taxable since the IRS would apply the principle to the new purchase first. If you elect to keep more cash than the amount of gain you would be deferring, there is really no benefit in doing an exchange.

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thanks

Barrister