With burgeoning real estate markets across the country still facing inventory challenges, buying before selling can be a smart move. For years savvy investors and business owners have called upon Section 1031 of the Internal Revenue Code for assistance in this area. It lets investors delay paying taxes when they swap one property for another. Normally, investors sell their first property before buying the second one, but some miss out on the benefits of buying first and selling later. 

This is known as a "reverse exchange." It lets investors quickly get a new property without waiting for the sale of their old one, postponing the tax bill. It's a bit more complex than the usual way, where you sell first and then buy, but it has its advantages - especially now. 

Recently, I assisted a manufacturing company that had outgrown its facility. While they had numerous buyers for the existing property and their sights set on a replacement, they needed time to transition inventory, equipment, and labor. This was a perfect implementation for a reverse exchange knowing they wanted as little “down-time” as possible while still deferring the gain on business use property. The same premise applies to non-business-use investment real estate.

For this to work, the investor can't own both the old and new properties at the same time. To handle this, the IRS allows a workaround called a "parking arrangement." It involves a temporary holder, often called an Exchange Accommodation Titleholder (EAT), taking control of one property until the other is sold. 

There's a time limit for this process. The investor must identify the property to be sold within 45 days of buying the new one, and the whole exchange must be completed within 180 days. 

While reverse exchanges can be helpful, they tend to cost more as a result of increased time and effort on the part of the qualified intermediary exchange company. Despite the higher costs and complexity, a reverse exchange can be a good strategy, saving more money in taxes than it costs in fees. Investors just need to weigh the benefits against the expenses and decide if it fits their overall investment plan. 

Brendan Lewis the North Texas and Oklahoma Division Manager with Asset Preservation. Brendan can be reached at brendan@apiexchange.com or 214-793-4976.

Since 1990, Asset Preservation has been a leading national qualified intermediary and has successfully completed over 200,000 tax-deferred exchanges. Brendan and Asset Preservation look forward to being your local 1031 exchange resource and providing excellent customer service.