• Knowledgeble real estate investors take advantage of the property exchange rules.suburban shopping center under construction image by jedphoto from Fotolia.com
  
  The property exchange rules, commonly known as 1031 exchange, regulations allow property owners to sell a qualified property and to make a purchase of another qualified piece of real estate within a certain time. The primary benefit is the transaction enables the buyers, seller or both to defer capital gain taxes normally due on the sale of a business or investment.
  
  

Like-Kind Property Rule

• The Internal Revenue Service (IRS) defines like-kind properties as similar in nature or attributes. The properties do not have to be of the same quality. Under the IRS regulations, the properties must function entirely as business, trade, or investment real estate to qualify for an exchange. The replacement property must have a debt level equal to, or greater than the debt carried for the real estate that sold. If the property does not meet this condition, the 1031 exchange regulations make any decrease taxable.
  
  

Proceeds of Sale

• The property exchange rules state that the proceeds from the sale transaction cannot pass through the investor's hands. The law requires the money to go directly to a qualified intermediary. Failure to follow this rule will lead to the money becoming taxable. The buyer must reinvest 100 percent of the money into a new property. The IRS taxes any remaining proceeds.
  
  

Qualified Intermediary (QI)

• All 1031-exchange transactions require a facilitator, a qualified intermediary (QI), to complete the process. The QI operates as a profession, independent of the investors involved in the property exchange and who handle the funds from the sale.The qualified intermediary holds the proceeds and releases the money for the new property. The QI must deliver the money to the real estate closing for the new property. The qualified intermediary also receives the deed and transports it to the investor.
  
  

Time Frames

• The real estate investor has a 45-day identification period from the day he sells the relinquished property to identify a replacement property. The 1031 exchange has a strict time line; the law does not allow extensions. The investors must adhere to it on weekends or holidays. The individual must receive the replacement property 180 days after relinquishing the property or before the tax return deadline, whichever comes first.
  
  

Considerations

• The traditional steps for buying and selling real estate remain intact for 1031 exchange transactions. However, the law only allows the real estate deal to receive tax treatment as a property exchange, instead of a sale. The law does not permit the investor to apply the proceeds to real estate for which he already has ownership. Case in point, do not dissolve the corporation holding title to the property.