What is a 1031 Exchange? By Adrienne Rockwell At Isnare.com Ezine Articles

People purchase investment properties in order to make a profit. Most people realize this. However, a great deal of annoyed surprise may appear on the faces of those that discover an issue known as a capital gains tax. For those not familiar with what a capital gains tax may be, it is a tax on profits of an investment. In some instances, the volume of the tax can be enormous. It is not uncommon for capital gains taxes to be upwards of 35%. So, if a homeowner were to sell a home that was purchased for $400,000 and sold for $500,000, the capital gains tax could be $35,000. Needless to say, this is a significant fee to pay. In fact, it is so significant of a tax people may opt to not sell their properties. This can create a number of problems in the marketplace because many property owners will opt not to sell. This is why a 1031 Exchange is so popular. It opens to door to avoid capital gains tax and put forth further sales in the marketplace.

So, what exactly is a 1031 Exchange? This refers to Section 1031 of the IRS code that the any sale of an investment or real estate property that is used for business, commerce, or trade purposes can avoid having to pay the capital gains tax provided the owner purchases a similar property. In other words, if someone sells the property used for running a business and takes the money to buy another business property, paying the capital gains tax may be deferred until the sale of that next property instead of paying it now.

Why is the 1031 Exchange so important for commerce and the economy? When there are impediments for the growth of a business, then the private sector of the economy can suffer. If the capital gains tax on the sale of a business is so restrictive, then many would opt not to sell. They could simply close down operations of the business and then sit on the property until the capital gains tax is lowered.

Also, the waiving of the capital gains tax creates an incentive for a business owner to stay in business. The economy certainly benefits when businesses stay operational since they are a source of jobs for the local community. Also, they are a source of tax revenue (income, sales, property, etc) which helps fund state, local, and federal services. That is why it is beneficial to provide financial incentives for the business to stay operational in one form or another. The 1031 Exchange provides a strong basis for this incentive.

It is necessary to point out that the window of opportunity to purchase a new business property is not open-ended. There is a 45 day limit on when the new property can be purchased. Once that 45 day window expires, then the benefit one could acquire from the 1031 Exchange will be lost. This is why time is of the proverbial essence when looking to take advantage of the 1031 Exchange.

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