Six things you need to know about §1031 - Part 3 The 180-Day Rule

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Section 1031 of the Internal Revenue Code allows you to roll the gain from the sale of your Old Property to the purchase of your New Property -- and not pay any capital gains taxes! To do this, you have to jump through certain hoops. We've talked in the past about how your property has to be held for investment or business use, and that it can not be held for resale (like a developer or fix-&-flips). We've also talked about your requirement to identify and list potential replacement properties for your exchange within 45 days of the closing of your sale of the Old Property.

Section 1031 also requires that you purchase your replacement property within 180 days of the sale of your Old Property. It further requires that what you buy must be one of those properties listed on your 45 Day List. To refresh your memory, you want to keep your 45 Day List to three properties or less because there are no limitations if you identify three or less. If you list more than three properties, the rules change and make your identification process much more difficult. Keep it simple --identify three or less.

Like the 45 day identification rule, the 180 day replacement rule is cast in concrete; there are no exceptions to the deadline and no extensions. And 180 days means days, which means that if the 180th day falls on a Saturday or Sunday, you will need to close your purchase on Friday.

A question that frequently comes up is "What does 'close' mean?" If the paperwork is completed but the deed is not filed, is that completed? For example, in some parts of the country, the deed is not recorded until the last payment is made on a contract for sale. In other words, the deed may not be recorded until 5, 10, or even 30 years after the sale.

We've seen clients do what is sometimes called a "dry closing" where all of the closing papers are completed and the transaction looks like it is closed, but in fact it's not because of some problem that is still being ironed out between the seller and the buyer.

So when is a transaction officially closed? The answer is when risk of loss passes from the seller to the buyer. A great question to ask in those situations when it is not clear if a transaction has truly closed is "If the property burns down tomorrow, whose insurance would cover it, the buyers or the sellers?" If the answer is that the seller's insurance would pay, the property has not closed because risk of loss has not passed. If the answer is that the buyers insurance would pay, risk of loss has passed.

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