Is Direct Deeding Allowed on a Reverse 1031 Exchange?

Is Direct Deeding Allowed on a Reverse 1031 Exchange?

Posted by on Nov 10, 2021

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In 1990, the IRS ruled that it was no longer necessary to use sequential deeding in a 1031 exchange transaction. Under sequential deeding, the seller would give the deed to the Qualified Intermediary (QI), who would then hand it to the buyer. Today, many investors choose to use direct deeding rather than sequential in a 1031 exchange. 

When exchanging property in a reverse 1031 exchange, direct deeding is one option where either seller deeds the property directly to the buyer. 

Completing a Reverse 1031 Exchange

A reverse 1031 exchange occurs when the replacement property is acquired before the relinquished property is sold. The reverse exchange helps investors purchase a new property before exchanging their current property. Here are a few reasons why an investor may want to utilize a reverse 1031 exchange:

  • You could hold your current property until its market value increases, thereby giving you more control over pricing to potentially maximize profit.
  • Spend more time on the sale of the relinquished assets.
  • Purchase and close quickly after identifying replacement assets. 

Reverse exchanges are often used when the investor must close on the sale of the acquired property before being able to sell their current property. This can happen when the investor discovers a desirable new property that must be purchased within a short period of time. The reverse exchange could also be used as a potential fix when the sale of a current property falls through unexpectedly. 

When Would I Use Direct Deeding on a Reverse 1031 Exchange?

When executing a reverse exchange, investors must typically use a QI to assist with an Exchange Accommodator Titleholder (EAT) Agreement because investors cannot simultaneously hold title to both properties. The EAT is a single-member LLC, with its sole purpose being to hold title to one of the properties involved in the exchange transaction. 

As far as direct deeding is concerned, the relinquished property closes with the investor direct deeding the property to the purchaser. 

There are several benefits to direct deeding in a reverse 1031 exchange, including:

  • Potential to reduce risk - Under sequential deeding, the intermediary is exposed to risk of liability during the short time they hold the title.
  • Cost savings - Direct deeding eliminates the payment of duplicate transfer taxes. These are typically charged every time a deed is recorded.

Remember to review your purchase and sales agreement to make sure that the properties are assignable. Be sure that the QI has an agreement with the buyer of your property for the exchange to take place. There should also be an agreement with the seller of the property you are acquiring in the reverse 1031 exchange, which allows for the transfer of the property to you.

To structure an exchange transaction with direct deeding, the QI must be assigned into the agreement as the seller of the relinquished property and as the buyer of the replacement property. All parties must be notified in writing if you intend to use an intermediary in the transaction. 

 

This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation. All real estate investments have the potential to lose value during the life of the investment. The actual amount and timing of distributions paid by programs is not guaranteed and may vary. There is no guarantee that investors will receive distributions or a return of their capital.There is no guarantee that the investment objectives of any particular program will be achieved. An unfavorable tax ruling may cancel deferral of capital gains and result in immediate tax liabilities.

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