Glossary-1031 Exchange Rules | FGG1031
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GLOSSARY

Adjusted Basis

The original basis plus any improvement costs minus the full depreciation on the property. Your adjusted Basis is used to determine the amount of capital gain resulting from a sale. It is also used to determine the amount that can be depreciated on a replacement property

Agreement for Transfer

Purchase agreement, offer and acceptance, sale agreement, earnest money agreement, real estate contract or other contract contemplating the purchase or sale of real property.

Boot

This the property the taxpayer receives in the exchange which does not qualify as “like kind” property. Cash proceeds are the most common form of boot and a boot is subject to taxation.

Capital Gain

The total selling price of the relinquished property, less exchange expenses, less the relinquished property’s adjusted basis. The adjusted basis is the original cost, plus the cost of capital improvements, less depreciation or cost recovery deductions. Capital gains may be subject to depreciation recapture and other IRS rules.

Contract 1031 Exchange

A “Contract Exchange” is the tax-deferred exchange of: The Buyer’s ownership in a Sales Contract on real property, for different real property, or for a contract or option on different real property; or the Option Holder’s exchange of an Option to purchase real property, for different real property, or for an option or contract on different real property. Essentially, a “contract exchange” is a 1031 exchange of an open option to purchase, or an open Sales Contract, rather than a 1031 exchange of the underlying real estate itself.

Constructive Receipt

This is a term that refers to the 1031 exchanger having unrestricted control of the equity from the property sold and a Constructive Receipt will invalidate a tax deferred 1031 exchange.

Construction 1031 Exchange

You may even purchase replacement property that is not yet built, provided that the improvements on the property are completed prior to the expiration of the 180 days (Which can be very difficult). In a Construction 1031 Exchange, the property is held by a specially formed LLC called the EAT “Exchange Accommodation Taxpayer”. A Construction Exchange generally has greater complexity and fees than a 1031 Exchange.

Cooperation Clause

A clause that is added to the purchase on sales agreement requiring the person who is not the exchanger to use their best efforts to assist the exchanger in consummating a 1031 tax deferred exchange.

Delaware Statutory Trust (DST)

A Delaware Statutory Trust is a separate legal entity created as a trust under the laws of Delaware in which each owner has a “beneficial interest” in the DST for Federal income tax purposes and is treated as owning an undivided fractional interest in the property. In 2004, the IRS released Revenue Ruling 2004-86 which allows the use of a DST to acquire real estate where the beneficial interests in the trust will be treated as direct interests in replacement property for purposes of conducting 1031 exchanges.

Exchange Accommodation Taxpayer

The Exchange Accommodation Taxpayer “EAT” is a specially formed LLC used during a Construction Exchange or a Reverse Exchange.

Exchange Funds Account

The account established by the qualified intermediary (QI) to hold the exchange funds.

Exchange Period

A 180 day window in which the exchanger has to complete a tax deferred exchange. During the exchange period there is a 45 day identification period in which the exchanger must identify which property or properties that will be purchased.

Exchanger

The actual owner of the investment property looking to make a tax deferred exchange. Unfortunately an exchanger cannot be an owner that wishes to defer capital gains tax on a second home. See “like kind” property definition.

Forward Delayed Exchange

A type of exchange which occurs when a property is sold “Relinquished Property” and another property is purchased “Replacement Property” within 180 days following the sale of the Relinquished Property.

Identification Period

The time period that begins upon the “close of escrow” of the relinquished property. During this 45-day period, the 1031 exchanger must identify the replacement property in order to continue with the section 1031 exchange transaction.

Identification Removal

An Identification Removal form is used to remove previously identified Replacement Property or properties within the Identification Period of 45 days.

Identification Statement

An Identification Statement form is used to identify potential replacement property or properties.

IRC 1031 Tax Code

Internal revenue code section 1031.

Like-Kind Property

The properties involved in a tax deferred exchange must be similar in nature or characteristics. “Like kind” real estate property is basically any real estate that is NOT your personal residence or NOT a second home.

Napkin Rule

You must buy a Replacement Property of equal or greater value to the Relinquished Property in order to completely defer the applicable capital gains tax. If you purchase a property of lesser value, you will be responsible for any tax on the difference. You must use all the cash proceeds from the sale on your purchase in order to completely defer the applicable capital gains tax. Now if you happen not use all your proceeds on the purchase, you will be responsible for any tax on the difference.

Original Basis

This is the purchase price of a property and it is used to calculate capital gains or losses for tax purposes.

Phase 2

This is the process in which the replacement property is bought and all the respective paperwork for that process is completed. This process is also known as the “up leg” of the tax 1031 deferred exchange process.

Qualified Intermediary

The Intermediary is also known as, QI, Accommodator, Facilitator, or Qualified Escrow Holder. A third party that helps to facilitate the exchange.

Replacement Property

Is the new property being acquired by the taxpayer when making a 1031 exchange.

Reverse Exchanges

This is the type of exchange in which the Replacement Property is purchased before the sale of the Relinquished Property.

Real Estate Exchange

A type of Exchange of real property for real property. All types of real property are “like kind” for other real property, including vacant land, residential, commercial, and even some long term leases.

Relinquished Property

The original property being sold by the taxpayer when making a 1031 exchange.

Rules of Identification

The guidelines that must be followed when making a 1031 tax deferred exchange, such as the 3 Property Rule, 200% Percent Rule, and 95% Percent Rule.

Settlement Agent

Definitions include: Title agent, closing officer, escrow officer, settlement officer, closing agent, closing attorney, settlement attorney.

Tenancy In Common (TIC)

A fractional or partial ownership interest in a piece of property, rather than owning the entire piece of property.

Tax Advisor

Financial Advisor, Accountant, CPA, Tax attorney.

Taxpayer

Client, investor, or the exchanger.

Three Property Rule

The Exchanger may identify up to 3 properties, without regard to their value.

The Fair Market Value

This is likely selling price as defined by the market at a specific point in time.

1031 Exchange

A 1031 tax deferral which allows taxpayers to reinvest the proceeds from the sale of property held for investment or business purposes into another investment or business property, and defer capital gains tax that would otherwise be due.

200% Percent Rule

The 1031 Exchanger may identify more than three properties, provided their combined fair market value does not exceed 200% of the value of the Relinquished Property

95% Percent Rule

The 1031 Exchanger may identify any number of properties, without regard to their value, provided the Exchanger acquires 95% of the fair market value of the properties identified.