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STRATEGIC TAX SERVICES

May 20, 2014

When to Choose a Reverse Exchange

#1031 Advisor
 

When should you consider a Reverse Exchange?

  1. The client finds an unique property they must acquire immediately prior to selling their current property.
  2. The property to be sold will close after the date of the purchase of the replacement property.
  3. The property to be purchased require a significant amount of due diligence, including soil and environmental testing, zoning approvals and other factors that may result in the project being abandoned more than 45 days after the current property is sold, causing the forward exchange to fail and the taxpayer to be taxed on the gain.
  4. Where a project is going to be acquired and built during a 180-day period prior to the sale of the current identified property.
  5. Distributing real estate out of a C Corporation/S Corporation and avoiding 311(b) gain.
  6. Building on land already owned by the client.
  7. Long-term development with non-safe harbor reverse exchanges.

" Exchange Accommodation Titleholder" (EAT). The Exchange Accommodation Titleholder (EAT) who is unrelated to the taxpayer, acquires either the relinquished property [property to be sold] or the replacement property [property to be acquired]. The EAT holds such property for up to 180 days until the buyer is found for the relinquished property. Watch that both properties do not end up in the taxpayer's name at the same time. Allow enough time for recording.

45-day Identification. The relinquished property must be identified within 45 days from the date the EAT obtained legal title under rules similar to a forward deferred exchange.

Bank Loans. In the case where a bank loan was used to acquire the replacement property, verify that the loan amount negotiated with the Bank does not exceed the maximum permitted debt, based on the existing indebtedness of the relinquished property. This might occur where the pre-approved debt is used to construct improvements later after the exchange period has closed or to take cash out of the transaction. This will cause the taxpayer to be taxed on the excess debt on the exchange.

Property Management. The taxpayer can manage the property, as well as guarantee some or all of the obligations of the EAT, including secured or unsecured debts, or indemnify the EAT against costs and expenses. The EAT should pay the Bank loan, as agreed, and pay costs and expenses on a timely basis. If these items are not paid, the Bank and/or other vendors can and will pursue the EAT for payment in the future, especially where the taxpayer may have defaulted on their obligations.

Payments to Taxpayer.While the taxpayer or a disqualified person can supervise improvement of the property, act as a contractor, or otherwise provide services to the EAT with respect to the property, make sure that the taxpayer does not receive payments during the term of the Section 1031 exchange. Violation of the constructive receipt rules can cause the entire Section 1031 transaction to be taxable.

Compliance issues. The EAT is taxed on any gain, income, loss or deduction associated with the exchange. We provide a full tax reporting package, including federal and state tax returns, Form 8824, and an examine-ready audit package with the documentation supporting the transaction. Tax penalty protection is available for each client with our tax opinions prepared by our Board Certified tax attorneys who are experts in both federal tax law and Section 1031 exchanges.

 
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