How Much Replacement Property?
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How Much Replacement Property?
We are often asked the questions; what do I need to do to postpone 100% of the taxes in an exchange? What is the value of the replacement property I need to acquire and how much do I have to spend?
In general, an exchange will be 100% tax deferred if the gross purchase price of the replacement property is greater than or equal to the net sale price of the relinquished property and all of the proceeds from the sale of the relinquished property are spent on the acquisition of the replacement property. For example:
Relinquished Property
Contract Price $800,000
Broker’s Fee ( 60,000)
Legal Fees & Transfer Tax ( 5,000)
Other Transaction Costs ( 3,000) (See Sample List of Transaction Costs)
Net Sale Price $732,000
Mortgage Balance 327,000
Net Proceeds $405,000
Real Estate Tax Adjustment (600) (See list of Operating Adjustments)
Rent Adjustment 3,200
Cash After Adjustments $402,400
In order to postpone recognition of 100% of the capital gain the taxpayer must acquire replacement property with a gross purchase price equal to or greater than $732,000 and spend net proceeds equal to or greater than $405,000. The gross purchase price of the replacement property is equal to the contract price plus transaction costs paid as part of the acquisition.
Replacement Property
Gross Purchase Price $732,000
Transaction Costs ( 7,225) (See Sample List of Transaction Costs)
Contract Price $724,775
New Mortgage (319,775)
Net Equity $405,000
Operating Adjustments 1,200 (See List of Operating Adjustments)
Mortgage Points 3,223 (See Note 1)
Total Cash to Close $409,423 (See Note 2)
Now if the taxpayer If the taxpayer acquires replacement property with a gross value less than $732,000 or if the taxpayer spends less than $405,000 on the acquisition of the replacement property then taxable boot will be received in the exchange equal to the greater of the following:
a). The amount of the net proceeds that were not spent to acquire the replacement property, or
b) The difference between the Net Sale Price of the relinquished property and the Gross Purchase Price of the replacement property. Below are examples of qualifying transaction costs and operating statement adjustments.
Qualifying Transaction Costs Operating Statement Adjustments
Broker’s Fee Real Estate Tax Adjustment
Legal Fees Rent Adjustment
Accounting Fees Security Deposit Adjustment
Intermediary Fees Utility Adjustment
State & Local Transfer Taxes Mortgage Points *
Recording Fees
Improvements made per the P&S
Mortgage Application Fees
Appraisal Fees
Inspection Fees
There a couple of things to note first the mortgage points must be amortized over the life of the loan and second the taxpayer must add cash to the exchange in the amount of $7,023 to close. This amount is equal to the net adjustments and points from the relinquished property and the replacement property.
This information is not intended to replace qualified legal and/or tax advisors. Every taxpayer should review their specific transaction with their own legal and/or tax counsel.
