Overview of the Reverse 1031 Exchange
This article presents a very brief and concise overview of the safe-harbor Reverse 1031 Exchange transaction. You can learn more about safe-harbor Reverse 1031 Exchanges by reading our more in depth article entitled Introduction to Reverse 1031 Exchanges©, which includes more detailed information on Reverse 1031 Exchange structures, strategies and compliance issues.
1031 Exchange transactions, especially Reverse 1031 Exchanges, are complex tax-deferred strategies. You should always seek competent legal, tax, and financial counsel before entering into any Reverse 1031 Exchange transaction. Exeter Asset Services Corporation is always available to assist you and your advisors in planning your Reverse 1031 Exchange.
Reverse 1031 Exchanges
There are many reasons why you might find yourself in a position where you must acquire, or would prefer to acquire, your replacement property before you sell your current relinquished property in your 1031 Exchange.
You might unexpectedly find an investment opportunity that you must act upon before you even have time to consider selling or listing your current relinquished property. The sale or disposition of your relinquished property may unexpectedly collapse and you do not want to lose your acquisition that is closing soon. Or, you may prefer to buy first to eliminate the pressure and risk of having to identify your replacement property within the 45 calendar day identification deadline in a regular Forward 1031 Exchange.
What ever your reason for deciding to purchase your replacement property first, the Reverse 1031 Exchange allows you to acquire your replacement property first and then subsequently list and sell your relinquished property within the prescribed 1031 Exchange deadlines. It can be a great strategic tool when needed or desired.
Revenue Procedure 2000-37 — The Safe Harbor Reverse Exchange
The Internal Revenue Service issued Revenue Procedure 2000-37 on September 15, 2000, which provides a safe-harbor for how to properly structure a Reverse 1031 Exchange transaction by using a parking arrangement in conjunction with a simultaneous 1031 Exchange. Reverse 1031 Exchanges that fall outside of this Revenue Procedure may still qualify and are referred to as non-safe-harbor Reverse 1031 Exchange transactions.
Simultaneous 1031 Exchange
The actual 1031 Exchange portion of your Reverse 1031 Exchange transaction is a simultaneous or concurrent 1031 Exchange either at the beginning or end of your Reverse 1031 Exchange transaction. You will enter into a 1031 Exchange Agreement with Exeter 1031 Exchange Services, LLC as your Qualified Intermediary for the administration of your 1031 Exchange.
You will enter into another agreement called the Qualified Exchange Accommodation Agreement ("QEAA") that will structure the parking arrangement for your Reverse 1031 Exchange. The QEAA is signed by you and Exeter Asset Services Corporation as your Exchange Accommodation Titleholder ("EAT"). The Exchange Accommodation Titleholder ("EAT") is the entity that will acquire and hold or "park" legal title to either your relinquished property or your replacement property during your Reverse 1031 Exchange transaction.
Reverse 1031 Exchange Structures
The challenge in structuring your Reverse 1031 Exchange is deciding which of your investment properties will be acquired and held or "parked" by Exeter Asset Services Corporation as your Exchange Accommodation Titleholder ("EAT"). The structure selected by you will depend on whether there is financing involved and which investment property your lender will allow Exeter Asset Services Corporation to hold or park legal title to.
The two structures are commonly referred to as Exchange Last and Exchange First because the simultaneous 1031 Exchange occurs either at the beginning (Exchange First) or at the end (Exchange Last) of your Reverse 1031 Exchange transaction.
Transactions structured outside of the safe-harbor guidelines, generally referred to as non-safe-harbor Reverse Exchanges, must be structured very differently.
Exchange Last Structure
The Exchange Last Reverse 1031 Exchange structure is the preferred strategy because it will provide you with the most flexibility in terms of structuring and financing your Reverse 1031 Exchange transaction. It also provides you with more advanced structuring capabilities.
Your replacement property is acquired and held or "parked" by the Exchange Accommodation Titleholder ("EAT") and a simultaneous or concurrent 1031 Exchange is completed later at the close of your relinquished property sale transaction (i.e. the simultaneous 1031 Exchange occurs at the back-end of your Reverse 1031 Exchange).
The primary obstacle with this structure will be your lender. Lenders are concerned about the Exchange Accommodation Titleholder holding or parking title to the replacement property that will be used as collateral for the loan. We recommend scheduling a conference call between you, your lender and Exeter Asset Services Corporation as early as possible to determine whether this Reverse 1031 Exchange structure is viable. You may need to shop around for lenders who are willing to work with you. We can certainly assist you with this.
Exchange First Structure
The Exchange First Reverse 1031 Exchange structure will keep your lender happy, but will eliminate your flexibility in terms of structuring and financing the acquisition of your replacement property and any advanced 1031 Exchange planning capabilities.
Your like-kind replacement property will be acquired directly by you, your lender will lend directly to you on the acquisition of your replacement property, and simultaneously you will transfer title of your relinquished property directly to Exeter Asset Services Corporation as your Exchange Accommodation Titleholder (i.e. the simultaneous 1031 Exchange occurs at the front-end of your Reverse 1031 Exchange).
The difficultly with this structure is that you must temporarily advance (i.e. reinvest) the total amount of your equity that is currently trapped in your relinquished property into your replacement property before your relinquished property sale actually closes. This kind of cash liquidity is usually not available.
You can explore the differences between the Exchange Last and Exchange First structures in greater detail by clicking here.
Non-Safe Harbor Reverse 1031 Exchanges
The landscape changed significantly for Non-Safe Harbor Reverse 1031 Exchange transactions with the Tax Court’s decision in Estate of George H. Bartell, Jr. v. Commissioner. This case involved the acquisition, parking arrangement and improvements of the replacement property over a 17 month period going well beyond the 180 calendar day safe harbor period.
Separate Special Purpose Entity
Exeter Asset Services Corporation will set-up a separate special purpose entity ("SPE") in the form of a single member limited liability company that will be used exclusively for your Reverse 1031 Exchange transaction. We NEVER EVER hold title to multiple clients' real property in the same special purpose entity. The sole purpose of this entity is to acquire and hold or "park" legal title to your Reverse 1031 Exchange property.
Exeter Asset Services Corporation will arrange for the formation of this separate limited liability company, take care of the payment of related filing fees, costs, first year's state taxes or franchise fees, arrange for the registered agent for service of process (usually Exeter Trust Company), and complete the dissolution or transfer of the limited liability company at the close of your Reverse Exchange.
Reverse 1031 Exchange Deadlines
Deadlines for your Reverse 1031 Exchange are essentially the same as in a forward 1031 Exchange transaction. You have 45 calendar days to identify what you are going sell as your relinquished property, and you have an additional 135 calendar days — for a total of 180 calendar days — to complete the sale of your identify relinquished property and close out your Reverse 1031 Exchange.
Reverse 1031 Exchange Fees and Costs
Reverse 1031 Exchanges are more complicated and costly, so you need to review the amount of depreciation recapture and capital gain income tax liabilities being deferred to ensure that the cost of the Reverse 1031 Exchange transaction is justified. We would be happy to provide you with a written Reverse 1031 Exchange fee quote so that you know exactly what you are looking at in terms of fees and costs prior to getting started.
Getting Started With Your Reverse Exchange
This article is a concise overview of the Reverse Exchange. You can click here for more detailed information regarding Reverse 1031 Exchanges, or click here for more information on how you can get started if you are ready to proceed with a Reverse Exchange or click here to contact one of our Reverse Exchange Advisors for assistance.
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