In the past couple of months, we’ve written about like-kind exchanges (also called the IRS 1031 swap) as well as the tax benefits associated with one. An exchange of like-kind occurs the case when a taxpayer who has an investment property decides to sell it, using an approved intermediary, and purchase a replacement property within a brief period of time.
In addition, since a lot of investment properties in the real estate market are owned by an LLC rather than owned by an individual There are a lot of questions on what you can do to make an exchange under 1031 with an LLC. This brief guide will guide you through the different rules and procedures to use an LLC for a 1031 exchange.
Can A Single Member Of An LLC Be Able To Perform The 1031 Exchange
A limited liability company with a single member is usually formed to ensure that the sole who is the owner of the corporation is not personally accountable or accountable for the entity’s transactions. The person who owns the LLC is called an individual member for tax and legal reasons. Although the member is the sole owner of the LLC, a single-member LLC is required to comply with all necessary filings required for business registration in their specific state to be considered to be a valid LLC.
In answer to our query the single-member LLC can conduct an exchange of 1031. If you’re the sole owner of an uni-member LLC then you won’t face problems if you’re the sole person who buys the replacement property. In addition in states with community property the married couple that are the sole members of an LLC is considered to be a single-member LLC for exchange purposes under 1031.
What Are The Steps To Be Taken By A Single-Member LLC To Participate In The 1031 Exchange?
In accordance with SS301.7701-(3)(b)(1) in the Treasury regulations A single-member LLC is considered to be an entity disregarded for tax reporting. This is to say that an LLC owner is the proprietor of all real estate acquired by the LLC. This also permits individuals who own the property originally to sell it in a 1031 swap to create an uni-member LLC to acquire the new real estate during the exchange, but without taking the transaction out of the 1031 exchange guidelines.
Can A Partnership LLC Perform A 1031 Exchange?
A number of frequent queries posed by a certified intermediary is the one that some or all of the members or partners of a limited liability partnership (LLC) or partnership would like to make the exchange of 1031s and other just want to withdraw their funds.
As we’ve observed over the past couple of decades, partnerships create significant issues for partners as well as their tax consultants. Partnerships aren’t allowed to dispose of or sell their share of the partnership, and later delay paying their capital gains taxes by purchasing similar property in exchange for the 1031 Tax Deferred Exchange transaction.
Partnership interests are excluded from the 1031 Exchange exemption according to Section 1031 in the Internal Revenue Code. The partnership interests constitute personal property and cannot be considered to be comparable to the purchase of real property regardless of the fact that the assets in the partnership actually constitute real property.
However, an LLC or a partnership (or any other entity , for that matter) can make an exchange of 1031 at the level of an entity, which means that the whole partnership surrenders an asset, while the partnership is still in place and can purchase the property in exchange.
What Is The Procedure To Have The Partnership LLC Participate In A 1031 Exchange?
There are two main strategies that a LLC or partnership LLC could adopt to take part in a 1031-based exchange: The Swap and Drop method and the Drop-and-Swap method.
Utilizing the swap and Drop Strategy, a LLC that is a partnership may participate in an exchange for 1031 by following these steps:
The partnership is dissolving in accordance with Section 708 in the Internal Revenue Code and paying taxes
Certain investors or new partners take over these interests from investors who want to take cash and pay tax obligations The partnership then completes the 1031 Exchange
A partnership is required to complete the 1031 Exchange, then refinancing the purchased replacement property(ies) within a brief period of time, and then giving the cash out to those partners who are not willing to be part of this 1031 Exchange transaction (buying back the rights of the partners who wish for cash).
A partnership that has completed the 1031 Exchange at the level of partnership and then reorganize following an interval of time in co-tenancy ownership in which the owners of two or more each have an undivided fractional share in the property, and then dispersing the property according to each co-tenant their pro-rata stake.
The partnership has to hold the property to be replaced for a long enough period of time to demonstrate the intent to keep the property in the form of a investment or rental property to be eligible for the 1031 exchange treatment (a holding period of at least 24 months , or greater is advised, given new changes made in IRS from 1065). This is usually described as a “Swap and Drop’ strategy.
Utilizing the Drop and Swap Strategy A partnership LLC may participate in an exchange for 1031 by following this procedure:
The partnership should be reorganized in co-tenancy ownership so that each owner is given an undivided fractional share in the property the co-owners can achieve their individual objectives in investment.
Tenants-in-common must hold the property in exchange for a long enough time to demonstrate that they intend to use the replacement property as a rental or investment property to be eligible for the 1031 Exchange program (again the time period of holding that is at least 24 months is suggested due to the recent modifications of IRS Form 1065). It is often described as a “Drop and Swap’ method.
The partnership must submit an effective election under section 761(a) to choose to opt out of the application subchapter K. To be able to do this the partnership’s interests must be treated as interest in the individual assets distinct from an interest in the partnership. Additionally, the partnership must be formed to serve purpose of investment (as as opposed to being a business entity) and cannot provide additional business services that go above and beyond what is typically related to the investment, whether by itself or via an agent.
If you’re in a situation where LLC members or certain partners want to swap however, others aren’t contact your legal or tax experts and discuss the challenges that arise from strategies and the timing for what’s commonly referred to as “drop or swap” or “swap and swap” alternative. If you’re planning to perform the 1031 exchange you may be interested in converting your exchange into an Delaware Statutory Trust. Call us now to talk about your alternatives.