“Fortune favors the prepared mind” - Louis Pasteur
The single best thing an Exchanger can do prior to performing a 1031 Exchange is prepare ahead of time. Now that you know the rules for a 1031 Exchange and the timelines involved, you can begin planning your Exchange.
There is nothing within the 1031 Tax Code that prevents you from making offers on replacement property before finalizing the closing on the relinquished property, even when you’re planning to use the Forward Exchange. I have accommodated many exchanges happening in less than a week’s time or even simultaneously because the replacement property was already lined up ready to go. Thinking about finding some replacement options ahead of time by asking your broker for deals, inform investment partners that you’re looking, submit offers, perform due diligence, have a pipeline of possibilities prepared to close on while waiting for your relinquished property to close.
There’s no way to extend time once you’re in a 1031 exchange, but it is possible to delay the closing on your relinquished property. This is actually quite common and is the key reason why you might see statements like “Buyer to cooperate with seller’s 1031 exchange at no cost to buyer” or similar. This is not required language in order to perform a 1031 exchange but may add a layer of negotiation to extend time while in escrow that would be valuable to helping you find a replacement property. Remember, the 45/180-day rule starts on the closing date and not before.
Leveraging the 3 Property Rule
When the 45th day of your forward exchange arrives, it becomes required for you to identify something or nothing. Remember, that you can identify up to 3 properties with no additional rules coming into play. Use every one of those options to your advantage. You do not need to be under contract in order to identify, so if you think there is even a possibility that your first choice may fall through, make sure you have a second option lined up, and having a third is even better. Choosing to identify nothing on the 45th day will be considered a failed exchange and you can request the return of your sale proceeds at that time, but they will be subject to taxes.
95/200 Rules in Play
There’s not much leverage that these rules provide as their intention is to keep Exchangers from identifying an unlimited number of properties when in truth, they only want to buy one. The 95% rule is great for selling 1 property and buying 4 or more with the proceeds from the 1 and your end goal to buy them all while taking on as much leverage as you can. The 95% means that you need to close on basically 95% of the properties identified. That doesn’t leave much margin for error and is therefore not often used.
The 200% rule is a little different in that if you only identify up to 200% of the value sold for, you can close on any number of them. For example, you sold a property for $500,000, that means you can identify up to $1M in property without falling into the 95% rule. If you identified 4 properties valued at $200,000 each and another 2 valued at $100,000 each, you would only need to purchase 3 of those properties valued at $500,000 or more to fully defer your taxes. It is a nuanced strategy, but it is an option that may work for your particular situation.
Partnerships, Syndications, TICs, DSTs, Oil & Gas Royalties
A Like-Kind exchange can also mean exchanging into a percentage of interest of another property, such as selling a duplex and exchanging into 25% of an industrial building with 3 other partners. All of these legal vehicles represent some form of co-ownership in real property which is a requirement for a successful 1031 Exchange. They are sometimes the way an investor prefers to exchange, but they really excel as secondary and tertiary options for identification.
Some of these investment avenues excel at handling debt obligations and others are great for placing boot. They cover every asset class and are good for diversification, and there is surely one that will meet your timeline and equity requirements. There are a great many operators out there to choose from when considering any of these 1031 Exchange vehicles, and I could speak at length about the pros and cons of each, but I leave it up to the Exchanger to perform their own due diligence. I mention them because they are options worth considering due to their ease of identification and constant availability, and they have sometimes been the difference between a failed and successful Exchange.
Bear in mind that these are general strategies and are intended to cover the broadest number of Exchanges that occur. The truth is, every exchange looks different and every Exchanger has their own goals for success. There are options and strategies for achieving those goals while still adhering to the 1031 Exchange rules. Please don’t hesitate to reach out to me personally if I can be of any help.
In conclusion, preparedness is the key to success for a 1031 Exchange. Know the rules, know your options, and have everything lined up beforehand. Communicate with your CPA, brokers, partners, exchange accommodator, and anyone who might be involved in your 1031 Exchange. The good ones will be able to help make the exchange process easier. Most of all, remember to have fun, it is a game after all, and keep growing that investment snowball. Happy Exchanging!