An increasing number of people are choosing to invest in property. When done right, it can be a lucrative way to gain a significant income with relatively little effort. However, if you do not take action to find alternatives to paying capital gains taxes, your profit margins will narrow.
One of the most common ways to legitimately avoid capital gains tax as a property investor is to go through a 1031 tax-deferred exchange. Going through a tax-deferred exchange essentially means that you use the funds gained from one property to reinvest them into another. As a result, it is possible to defer your capital gains tax. However, there are certain rules to which you must adhere to be eligible for a 1031 exchange.
You must abide by the three-property rule
To defer capital gains tax by going through a 1031 exchange, you must identify three potential replacement properties within 45 days of the sale of your initial property. You can identify more than three properties as long as their cumulative value does not exceed 200% of the value of your previous property.
You must engage in a like-kind exchange
You will only qualify for a like-kind exchange if your replacement property is a similar type of investment to your previous property. This is a very broad rule, however. For example, if you have an office block that you rent to businesses, it could be possible to exchange this for an apartment building.
If you are interested in deferring taxes by going through a 1031 exchange, you must understand the complexities of the law. A Hollywood real estate law attorney can provide guidance and advice for investors.