At least once a week I get asked: What are the benefits of doing a Section 1031 Exchange? I normally give the usual answer: Deferral of Taxes resulting in more funds to spend on possible Replacement Properties.
That is the simple one-sentence answer. But there are really a lot more reasons.
The Federation of Exchange Coordinators (FEA), because of the COVID-19 crisis, prepared these seven points on how Section 1031 helps businesses, and I thought you would find these interesting.
1. LIKE-KIND EXCHANGES STIMULATE BUSINESS GROWTH OF ALL SIZES.
· Section 1031 is important to the efficient operation and ongoing vitality of thousands of American businesses in a wide range of industries, business structures, and sizes.
· Small and mid-size business owners and middle-class taxpayers use Section 1031 to transition into facilities and locations that more efficiently meet their needs, instead of being tax-locked into yesterday’s inefficiencies.
· Section 1031 allows taxpayers to shift into more productive like-kind property, change geographic location, and diversify or consolidate holdings.
2. LIKE-KIND EXCHANGES STIMULATE NEEDED CAPITAL INVESTMENT.
· As a result of the economic fallout from the coronavirus pandemic, large amounts of retail and office space are expected to become vacant or underused as businesses transition to different operating models.
· Like-kind exchanges encourage capital investment for the highest and best use of real estate, thus improving communities and increasing the local and state tax base.
3. LIKE-KIND EXCHANGES HELP REPURPOSE AVAILABLE REAL ESTATE.
· Section 1031 like-kind exchanges are a useful tool in repurposing available retail and office space because they allow capital to efficiently and effectively flow to where it’s most needed.
· According to a 2015 study by Professors David Ling & Milena Petrova, Section 1031 like-kind exchanges give businesses and entrepreneurs more incentive and ability to make real estate and capital investments.
· Taxpayers engaged in like-kind exchanges invested 33% more capital in replacement property than non- exchanging buyers.
· The Ling & Petrova study found that without the Section 1031 tax incentive, many transactions would be delayed or abandoned and real estate values would erode.
4. LIKE-KIND EXCHANGES CREATE JOBS.
· Like-kind exchanges generate jobs and taxable revenue for unrelated businesses upstream and downstream from the exchange transaction, such as real estate agents, title and property insurers, escrow/settlement agents, lenders, appraisers, surveyors, attorneys, inspectors, contractors, building supply vendors and more.
5. LIKE-KIND EXCHANGES HELP FAMILY FARMERS AND THE ENVIRONMENT.
· Farmers and ranchers use Section 1031 to relocate, consolidate, or improve their operations without diminishing cash flow.
· Retiring farmers are able to exchange their most valuable asset, their farm or ranch, for other real estate without diminishing the value of their life savings.
· Like-kind exchanges are used in conservation easements to improve water quality, reduce soil erosion, maintain wetlands, and sustain critical wildlife habitat.
· These exchanges enable landowners to acquire replacement farm or ranchland in less environmentally sensitive areas.
6. TAXES ARE DEFERRED, NOT ELIMINATED.
· A common myth of Section 1031 is that taxes are eliminated. However, the truth is at some point the tax is paid.
· The Ling & Petrova study found that the overwhelming majority (88%) of properties acquired through an exchange are later sold in a taxable transaction, at which time the tax is paid.
· The remaining 12% includes ALL non-taxable transfers such as subsequent exchange, foreclosure, eminent domain, partition or other court-ordered transfer, divorce, partnership dissolution, gift, and death.
· One-third of all exchanges pay some tax during the year of the exchange because some taxable boot is received.
7. ELIMINATING LIKE-KIND EXCHANGES WOULD HURT CASH-STRAPPED BUSINESSES.
· Eliminating or limiting like-kind exchanges in the best of times would have a negative impact, increasing the cost of capital, slowing the rate of investment, increasing asset holding periods, and reducing real estate transactional activity.
· In the face of the current pandemic, recession, and economic upheaval, the contractionary impact on American business and the U.S. economy would be even more severe.