Reverse 1031 Exchanges Entail Buying The Second Investment Property Before Selling The First
Entering into a reverse 1031 exchange process is one way of alleviating the anxiety that can sometimes occur when one property has sold and there is a limited number of days (45 days from the date of sale) for the investor to find a new like-kind property. In 2000, the Department of Treasury provided guidance and legislation to regulate reverse 1031 exchanges, and since that time, the number of properties exchanged under this type of deal has increased significantly.
The basic point behind a reverse 1031 exchange is that the investor has already identified a new or second property before his first property sells. In this case an Exchange Accommodation Titleholder (EAT) acquires the legal title of the new property on behalf of the taxpayer and holds it until the Qualified Intermediary facilitates the 1031 property exchange. This is sometimes called a “parking” transaction because the title of the second property is held (or parked, if you will) while the other parts of a like-kind 1031 real estate transaction take place, such as the sale of the first property.
For the reverse 1031 exchange to be legitimate, the Exchange Accommodation Titleholder and the Qualified Intermediary must complete a Qualified Exchange Accommodation Agreement (QEAA). This document sets out the fact that the Exchange Accommodation Titleholder is holding a property in order to facilitate an exchange under Section 1031 of the IRS Code and Section 1.1031 of the Treasury Regulations and Revenue Procedure 2000-37. It also creates an agreement where the Exchange Accommodation Titleholder and the taxpayer agree to report the transactions involved including the buying, holding, and disposition of both properties on both sets of income tax returns as per regulation. While the Exchange Accommodation Titleholder is holding the title of the property, this agency will be considered the beneficial owner of the property with respect to federal and state taxes.
The time limit of forty-five days for the identification of the second property under Section 1031 is no longer valid under a reverse 1031 exchange, but the sale and acceptance of the second property must occur within 180 days of the sale of the first property. This applies whether the reverse transaction is an Exchange First or Exchange Last situation. Most reverse 1031 exchanges are an Exchanged Last system where the replacement property is bought and held with the Exchange Accommodation Titleholder until the first property is sold. However, there are also some situations where an Exchange First situation occurs where an Exchange Accommodation Titleholder holds the title of the first property.
Alongside the numerous advantages of a reverse 1031 exchange, there is also a number of complications that can arise and it is important for any taxpayer seeking to complete one of these transactions to get full and impartial legal and tax advice before undertaking such a transaction.
Tenant in Common (TIC) investments are an increased potential with a 1031 exchange.
