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1.
Professional Help
Most investors need
assistance to accomplish an exchange. Since perhaps tens of thousands to
hundreds of thousands of tax dollars may be saved, diligence should be
used in locating professionals to get the job done right.
#1 Employ an agent
who:
a- understands how to help
you make a direct exchange or
b- can find a buyer for
your property and set up the appropriate structure for the exchange
c- is located near you.
Your proximately to your agent is more important than the agent’s
proximity to the properties.
#2 Locate real
estate oriented legal and tax counsel to review the transaction along
the way.
CAVEAT: There are many
more people who don’t know what they’re doing in an exchange than
there are who do. Less than 1% of real estate agents are familiar with
exchanging. If the real estate agent you have used in the past is not
knowledgeable in exchanging, then employ and experienced exchangor on an
hourly consulting basis to structure and monitor the transaction from
beginning to end. The consultant need not have proximity to the
properties involved in the exchange.
2.
Find a Buyer
Let’s assume you, the
investor, have a salable property. Locate a qualified buyer who is
ready, willing, and able to buy your property, preferably for all cash.
Why? Because your purchasing power will be strongest when shopping with
cash. Be sure your buyer agrees to cooperate in an IRC 1031 exchange.
The buyer should incur no additional expense nor should you require them
to go through title to any property other than the property they are
acquiring.
3.
Terms
If the market requires
you to carry part of the financing, then negotiate the strongest terms
possible on the carryback note, i.e. high interest rate, short term,
high payments. Make it as attractive for the seller of the replacement
property you will acquire (that seller will end up accepting the note).
If properly structured, the transaction can be an exchange for you and
an installment sale for the seller of your replacement property.
DO NOT OPEN ESCROW. The
purchase agreement is a sufficient contract until you locate your
replacement property. Premature opening of escrow usually results
in escrow instructions which are improperly drawn and will not
accomplish your exchange.
4.
Contingencies
Have your buyer remove
all contingencies as soon as possible and agreed to close upon 30 days
written notice from you. Your objective should be to achieve a
concurrent closing on all properties involved to avoid the possibility
of blackmail from unscrupulous parties who my take advantage of your
time constraints. A concurrent closing also avoids the extra expense and
other risks inherent in a delayed exchange.
5.
Time
Negotiate as long a time
period before closing as possible with the buyer of your property. Six
months is desirable, but 90 to 120 days is usually workable. During this
time, you will be looking for replacement property.
6.
Finding your replacement property
This may be the most
difficult challenge you will face. Locating an investment property that
makes economic sense is like searching through a junk pile. You can
become frustrated sifting through incomplete, inaccurate and unrealistic
income and expense projections (most are just that- projections). If you
work with an agent, you should emply that agent in writing as Buyer’s
Broker to represent only you. He/She will help you locate
suitable property. As your representative he/she will help you separate
fact from fiction and negotiate the best deal on a property, one that
meets your economic objectives and that you will feel comfortable
owning. Employing the agent to represent YOU as opposed to the seller
should increase the number of properties you are exposed to. Buyer’s
Brokers are not limited to listed properties only.
7.
The offer on Your Replacement Property
This should require the
seller to cooperate in your exchange and should be subject to closing on
relinquishment of your original property in the same transaction. Once
you have removed any contingencies on the acquisition of your
replacement property, you are now ready to open a "pot exchange
escrow." All acquisitions and dispositions should be handled in
this one escrow.
A property drawn
"pot escrow" can accommodate more than one participant who
desires a tax deferred exchange. It is superb in situations where an
investor acquires several properties concurrently from unrelated
sellers. It is less expensive than a delayed exchange. Direct deeding is
safer. Why go through sequential deeding of title to property on which
you may incur liability? A buyer’s disposition of cash can be
specifically directed to avoid the "constructive receipt"
problem for the investor who wants to defer taxes. Very few escrow
officers or attorneys know how to set up a pot escrow properly. To
achieve a tax deferred exchange requires more than just INTENT.
THERE MUST BE A
RECIPROCAL TRANSFER OF PROPERTIES.
An exchange must take place. This fundamental principle is often
ignored, resulting in many improperly structured transactions.
Admittedly, paperwork was sloppy in a few major exchange cases where the
taxpayer prevailed. However, your exchange should be so important to you
that you will require the proper format and documentation.
8.
Caution
Since IRS codification of
the delayed exchange, many agents with no training or experience became
involved, believing that when you use an intermediary, tax deferred
exchanges are now simple. If anything, the new rules have added an
additional level of COMPLEXITY and RISK to the specialty field of
exchanging. An investor needs guidance through the real estate
"jungle" now more than ever before. Your guide in the
exchange should be a real estate agent with specialized training and
experience in exchanging. He or she can be employed either for full
brokerage services or on an hourly or flat fee consulting basis. An
escrow officer with experience in exchanges is an important member of
the team. Other participants in the team effort are the real estate
oriented CPA and knowledgeable attorney. To repeat, where tens to
hundreds of thousands of tax dollars may be saved, it is critical that
the job be done right to benefit and protect the investor.
The
authors of this article (Ed Arnett and Bill Broadbent) each have 38
years experience in exchange transactions nationwide, both as full
service brokers and as exchange consultants. They have received state
and national recognition for their exchange
transactions.
In addition, they have pioneered the concept of Buyer Representation and
are exclusively committed to Single Agency real estate practice. That
is, they represent only one party in a transaction and are employed
in writing and paid by the party they represent.
www.arnettbroadbent.com
bill@arnettbroadbent.com
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