Reverse 1031 Exchange

With each passing day, more and more people are learning about the many
benefits that lie within a Reverse 1031 Exchange. While more of a complex
transaction than a forward or delayed 1031 exchange, the reverse exchange
provides for much greater flexibility in structuring the exchange.

The reasons for setting up a reverse exchange are many, but the major
reason is to solve the issue of finding a way to take control of the
replacement property prior to the sale of the old property in a 1031
exchange. The code does not allow for an exchanger to exchange into a
property already owned. Therefore, the reverse exchange becomes the answer
when one has found, and is ready to close on a replacement property, while
still trying to sell the old property. Other reasons to setup a reverse
exchange include securing your replacement to avoid the risk of possibly
loosing that property, and ridding yourself of the replacement property
“dilemma;” once you have sold that old property, there is a very short 45
day window to find a suitable replacement property.

Once you have decided that a reverse exchange is the answer for your 1031
exchange needs, the next question becomes ‘what type of reverse exchange
should I choose.’ There are a number of different options available. The
most popular include:

  • Safe-harbor Reverse – This is a transaction whereby the accommodator
    takes control (parks) the replacement property prior to the sale of
    the old property. The exchanger must identify the relinquished
    property or properties within 45 days of the parking arrangement, and
    must have the entire transaction complete within 180 days of the
    parking arrangement. This structure falls within a revenue procedure
    set forth by the IRS in 2000 providing for guidelines in structuring
    this type of transaction. If structured within the provisions of the
    revenue procedure, the IRS will treat this to be within a
    “safe-harbor” and not challenge the transaction based upon its status
    as a reverse exchange. This is the safest type of reverse exchange,
    but the most difficult to accomplish due to its tight time frames.
  • Traditional Reverse – This is a reverse exchange that typically
    looks identical in structure to the Safe-harbor reverse, yet it will
    fall outside of the safe-harbor due to the fact that it can not be
    completed within the time frames provided. Typically, the exchanger is
    unable to sell their old property within 180 days of the parking
    arrangement, and therefore the time frames set forth by the
    safe-harbor are not met. This type of transaction is not necessarily a
    “red flag” for an audit by the IRS, but does require quite a bit more
    documentation and consultation by the intermediary to assure the
    transaction is done properly to avoid scrutiny by the IRS.
  • Construction/Improvement Reverse – This type of reverse exchange
    allows the exchanger to park a piece of property or land that will be
    built upon or improved during the exchange period. This is the most
    powerful reverse exchange available, as it allows the exchanger to
    literally create the exchange property they will eventually exchange
    into through the development or construction process. Once again, this
    is a much more complex transaction than a safe-harbor reverse exchange
    and requires a great deal more documentation. The other downside to
    this type of transaction is that it will typically fall outside of the
    timeframes set forth by the safe-harbor. This detriment has not scared
    off many exchangers as many are more than willing to take on that
    slight risk for the tremendous flexibility provided by this type of
    exchange.
  • Leasehold Improvement Reverse – This type of exchange is still
    questionable as it has not officially been recognized by the IRS as a
    valid structure. This is an exchange whereby the exchanger will
    actually build on property they already own; treating the building as
    the parked property. Technically, it is not the building that becomes
    the parked property, but rather a 35 year ground lease entered into
    between the accommodator and the exchanger, that is the actual
    ‘vehicle’ that becomes the exchange property. Obviously, this too is a
    highly complex transaction and must have proper supporting
    documentation to support its structure. Once again, the complexity of
    this exchange has not deterred demand. Many exchangers are turning to
    this structure to take care of their 1031 exchange demands.

Hopefully this gives you a flavor of the many options that are available when utilizing the reverse exchange.

I encourage you to speak with me to learn more about this very powerful tool, and to see how it can directly benefit you.

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