What is a 1031 Exchange?
A Section 1031 exchange is a legal way to postpone or potentially eliminate taxes due on the sale of qualifying properties. By deferring the tax, you are in effect, receiving an interest-free loan from the federal government, in the amount you would have paid in taxes. Gains from depreciation recapture are postponed. You can proactively cut your tax burden by reallocating your investment portfolio, acquiring and disposing of properties without paying taxes on any gains. As the value of your investment properties increase, you can repeatedly trade up, enriching your portfolio, all while repeatedly deferring taxes. Upon the death of the property owner deferred tax on capital gains is forgiven and heirs receive a stepped-up basis equivalent to fair market value.
While there are many benefits to 1031 DST investing, there are strict timing limitations. Specifically, if a 1031 exchange transaction is not properly constructed and executed in a timely manner, then an investor may lose all tax benefits of such transaction, including depreciation recapture. The relinquished property must be a qualifying property (i.e., like-kind replacement property). A Qualified Intermediary, as an independent third party, is needed to facilitate a 1031 exchange transaction and hold the funds on behalf of the investor.