The 1031 exchange is a tax deferral strategy enabling real estate investors to defer capital gains tax and depreciation recapture payments. A like-kind exchange comes in various formats, including a reverse 1031 exchange. If you’re contemplating a reverse exchange, you might need financial assistance. As such, a reverse 1031 exchange lender may be important for the success of your transaction.
How a Reverse 1031 Exchange Works
Through a reverse 1031 exchange, you acquire a replacement property before selling your relinquished property. This can be useful if you find an ideal replacement property before you have time to dispose of your current property. Once you close on the replacement property:
- You have 180 days to sell the relinquished property.
- You must turn the title of your replacement property over to an exchange accommodation titleholder (EAT) until you sell the relinquished property. According to IRS rules, you can’t own relinquished and replacement properties until the process is completed.
You might need interim financing because you closed on the replacement property before selling your existing property. This is where a reverse 1031 exchange lender can help. The lender can provide funds to help you acquire the replacement property while ensuring the exchange complies with IRS regulations.
Roles of the Lender
A reverse 1031 exchange lender can provide flexible financing options—like short-term bridge financing—for acquisition purposes. The lender might also be involved in the following tasks:
Coordinating with the QI
Any 1031 exchange requires a Qualified Intermediary (QI), who ensures that the process follows IRS rules. For reverse 1031 exchanges, the QI works closely with an Exchange Accommodation Titleholder (EAT), which temporarily holds the title to the replacement or relinquished property. The QI facilitates the exchange process but does not handle financing directly.
Holding the Property Title
The 1031 reverse exchange lender—or an entity affiliated with the lender—might serve as the above-mentioned EAT. The EAT holds the title of the replacement property until you sell the relinquished property.
Ensuring Timely Execution
The lender plays an essential role in ensuring that financing, title transfers, and disposition of the relinquished property happens within the 180-day time frame. Any delay could trigger a taxable event.
Considerations for Selecting the Right Lender
The reverse 1031 exchange lender you select should provide a loan package with reasonable interest rates, fees, and repayment terms.
Not all lenders have the experience or qualifications necessary to be reverse 1031 exchange lenders. It’s a best practice to research lenders and look for those with the background to handle this complex transaction, including an excellent track record and an outstanding reputation. The lender should also know how to work with other professionals, like QIs, real estate attorneys, and tax advisors.
You should research and interview several lenders before you find the right one.
The Takeaway
A reverse 1031 exchange could be a viable real estate investment strategy, depending on your situation. Finding the right reverse 1031 exchange lender can help you obtain the financing required to complete the transaction while working with others to ensure that the exchange conforms to IRS rules and deadlines.
Selecting an experienced lender and assembling a team of knowledgeable investors can help you navigate the complexities of a reverse 1031 exchange while building your investment real estate portfolio.
The tax and estate planning information offered by the advisor is general in nature. It is provided for informational purposes only and should not be construed as legal or tax advice. Always consult an attorney or tax professional regarding your specific legal or tax situation.
