Named after IRS section 1031, a 1031 exchange allows the landowner to avoid capital gains tax when selling real property and then purchasing a like-kind property. So long as the value of the replacement land is greater than or equal to the original land sale and you never receive any proceeds, the 1031 exchange receives tax-deferral. IRS safe harbor rules also dictate that the taxpayer must relinquish the rights of both parcels during the process to a qualified intermediary (QI).
You must identify a replacement for the land you sold within 45 days. This window is referred to as the “identification period.” Your potential replacement land options must be delivered to all interested parties surrounding the transaction. You then typically have 180 days to acquire and purchase a new replacement parcel. This last phase is often called the “exchange period.”
The good news is that land and ranches are always able to be exchanged using IRS section 1031. Other common types of real property exchanged are:
Additional real property specifically involved in farm and ranch 1031 exchanges are:
You cannot exchange or replace personal property like vehicles and artwork. Also, the IRS does not normally allow you to execute a 1031 exchange involving your primary residence unless it is part of, or converted into, a multi-family apartment unit.
Other rules dictate you must operate the replacement property as its intended business purpose. For example, acquired farmland should continue to be planted and not converted into a lake. You should also keep the same ownership titles throughout your exchange or risk having the exchange rejected.
The overall goal of a 1031 exchange is to purchase replacement land or ranch that is of a similar or higher value to your current parcel. That being said, many factors can come into play like market swings and interest rates pushing the future sale lower than the original. If the replacement land or ranch is not equal or greater than the first, the difference is called a “boot.”
Any capital gains realized from the boot will be taxed. While this scenario is no longer tax-free, please keep in mind, a 1031 exchange can absolutely still be executed. Sometimes, your situation calls for some up-front liquidity making a partial 1031 exchange advantageous.
Are you considering a 1031 exchange? Campbell Farm & Ranch is a team of local Texas experts. We will guide you through the process ensuring your 1031 sale and replacement maximizes your returns. Please don’t hesitate to give us a call today and discuss your unique circumstances.
(940) 549-7700 | Boone@cfrland.com