3 hr. workbook - s1031 for professionals

© 2008 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice.

Flawless Section 1031 Exchanges for Over 27 Years

It is estimated that 20-25% of the nearly $200B in annual real estate transactions could benefit from a Section 1031 Exchange, and that only 3% take advantage of this powerful tool.

Edmund & Wheeler, as a Qualified Intermediary (QI), has been facilitating Section 1031 Exchanges for over 27 years. We have developed “The Power of Section 1031” to provide a solid understanding of Section 1031 basics and the strategic ways in which Section 1031 can be utilized and to assist real estate professionals in recognizing opportunities for their clients.

Section 1031

For Real Estate Professionals

3 Hour Elective Course Approved by: The New Hampshire, Vermont & Maine Real Estate Commissions

Edmund & Wheeler, Inc. QI 567 Cottage Street Littleton, NH 0561

603-444-0020

www.section1031.com

[email protected]

© 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 2

Welcome To Section 1031 for Real Estate Professionals. This workbook has been designed to assist you during the course, and to provide a reference tool for you in the future. The session is broken down into three sections as described below.

Web references have been made throughout the document so that you can do further topical research as required. Web references are indicated with a grey arrow.

If you have follow-on questions or concerns after you complete this course, Edmund & Wheeler is always available by email at [email protected], by phone at 603-444-0020, or on the Web at www.section11031.com. Our practice provides real estate professionals with Section 1031 consulting at no charge!

Section

1 Introduction & 1031 Basics

Section

2 Case Studies &

Real-life Examples

Section

3 Alternate Exchange

Opportunities

Section 1 provides you with an outline of this course, an introduction

to the Section 1031 Exchange and the essential elements required for

successful exchanges.

This section lasts approximately 1 hour and begins on Page 3.

www.section1031.com

Section 2 contains case studies of the various types of Exchanges as

well as real‐life examples of actual transactions that will assist you in

developing your own Section 1031 strategies.

This section lasts approximately 1 hour and begins on 0.

Section 3 outlines the viable alternatives for Exchanges that can be

used for diversification, relocation or the desire of a client wishing to

exit from the real estate investment class.

This section lasts approximately 1 hour and begins on Page 38.

Summary

Section 1031

Glossary

1 Page Course Summary – “Must Have Section 1031 Concepts”

Commonly used phrases and Section 1031 definitions.

Begins on Page 55


Contents

Introduction .................................................................................................................................... 4

About Edmund & Wheeler, Inc. ..................................................................................................... 5

Course Outline .............................................................................................................................. 2

Primary Objectives of This Course ................................................................................................ 6

What Is A Section 1031 Exchange ................................................................................................ 7

The Five Critical Elements of an Exchange .................................................................................. 7

The Regulation .............................................................................................................................. 7

An Exchange at A glance .............................................................................................................. 8

Section 1031 (a)(1) IRS Code ....................................................................................................... 8

What Are the Benefits of an Exchange? ....................................................................................... 12

The Essential Elements ................................................................................................................ 12

Replacement Property Rules ........................................................................................................ 13

Real Property (What is Like Kind?) ............................................................................................... 14

Personal Property .......................................................................................................................... 15

Timing Is Everything ...................................................................................................................... 16

Can Anyone Handle an Exchange? .............................................................................................. 16

Who Qualifies for an Exchange? ................................................................................................... 16

The Qualification Tool ................................................................................................................... 17

The Five Most Common Section 1031 Misconceptions ................................................................ 19

Section

1 Introduction & 1031 Basics


Too many professionals get caught up in the belief that

Section 1031 is only about deferring capital gains. While it

is one of the remaining tax deferral tools available, it’s

actually a LOT about leverage. Clients using what they

would have paid immediately in capital gains taxes to

improve the quality and value of their holdings and plan

for their financial future; is REALLY what Section 1031 is

all about. Section 1031 has been a part of the Internal

Revenue Service Code since 1921!

Look at it as a gift from Uncle Sam, but don’t tell anyone.

Ok, let’s do the math. These numbers suggest that

investors paid the Government over $10B in capital gains

taxes when in fact, they could have used this money in

their own portfolios, interest free, for as long as they

would like. Wait a minute…

Why is this so? We have found that many professionals

that we deal with on a day‐to‐day basis are unclear of the

many strategic uses of Section 1031. Unfortunately, there

are still many that don’t even know of its existence, and

fail to recognize even its most basic uses.

Don’t let your clients find out you didn’t tell them they

could have used this powerful tool.

As real estate professionals, you have a certain

responsibility to your clients regarding the tax

ramifications of their transactions. Holders of investment

real estate should be made aware of the tools that are

available to help them strengthen their real estate

portfolios. Section 1031 is one of the more powerful tools.

We hear over and over again from real estate

professionals how thankful their clients were that they

understood Section 1031 and helped them to explore the

possibilities. Indeed, many of our real estate partners

have saved their clients hundreds of thousands of dollars

in capital gain expense, giving them more money to

invest, while earning multiple commissions in the process!


In 1981, Mr. George Foss, III, our founder and co‐principal was a prominent real estate

broker in Northern New Hampshire. After reading about the concept of a Section 1031

Exchange, he was immediately intrigued, and saw the opportunity to add an interesting twist

to his real estate deals by helping clients to take advantage of this virtually unknown gift

from Uncle Sam.

27 years and thousands of successful exchanges later, George Edmund & Wheeler remains

the foremost authorities on Section 1031 in the New England states, and have completed

exchanges with clients in 48 of 50 states.

The firm has provided Section 1031 education and consulting to hundreds of New England

real estate professionals and has helped them to save their clients over $100 Million in

capital gains taxes.

George Foss, QI John Hamrick, Instructor


This course has been designed to assist you in

becoming proficient in the basics of a Section

1031 Exchange.

An Exchange can be a very complex and time

consuming endeavor. Your QI will understand

all of the mechanics and the myriad of rules and

regulations surrounding an Exchange. Our goal

for this session is to provide you the knowledge

and tools you will require to assist your clients

in recognizing the tremendous opportunities

that Section 1031 provides.

Section 1031 is not just a tax deferral vehicle. It

is a powerful part of your client’s overall

investment strategy, their exit strategy from a

business, and an integral part of their estate

planning.

Bottom line is that the taxes that are deferred

can be used to leverage larger investments,

diversify portfolios and substantially increase

wealth over a period of time.

Don’t worry, we won’t grade you. We want to

take an inventory of what our students know

about Section 1031 prior to the course.

When the course is over, we will re‐take the

quiz, and you will see how far you’ve come in

just a short time.

Good Luck!


Section 1031 fundamentally is about the relocation and

reallocation of your client’s real estate assets, all without

paying capital gains taxes. Relocation could be across the

street, or across the nation. Clients can relocate their

holdings to several markets, creating geographical

diversity. They can also reallocate holdings by combining

multiple holdings into one more valuable property. They

can sell apartment buildings and Exchange for single‐

family housing units, or they can opt for one of the

passive real estate investments available to them and

leave the day‐to‐day management of real estate to a

professional property management team.

Section 1031 exchanges are reported on your tax return

by using Schedule 8824. It is important that all of the

documentation leading up to and throughout the

exchange is explicit that an exchange is taking place and

not an ordinary sale. The taxpayer cannot touch the

funds or it will trigger the tax. The Relinquished Property

and the Replacement property must be

investment/business use property in the taxpayer’s

hands. All exchanges must be concluded with 180 days.

An exchange is handled in the same manner as a regular

sale with the exception that a third party Qualified

Intermediary (QI) provides the documentation and

handles all funds.


Section 1031 (a)(1)

(a) Nonrecognition of gain or loss from exchanges solely in kind

(1) In general

No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held either for productive use in a trade or business or for investment.

(2) Exception

This subsection shall not apply to any exchange of—

(A) stock in trade or other property held primarily for sale,

(B) stocks, bonds, or notes,

(C) other securities or evidences of indebtedness or interest,

(D) interests in a partnership,

(E) certificates of trust or beneficial interests, or

(F) choses in action.

For purposes of this section, an interest in a partnership which has in effect a valid election under section 761 (a) to be excluded from the application of all of subchapter K shall be treated as an interest in each of the assets of such partnership and not as an interest in a partnership.

www.section1031.com/PDFs/New PDFs/IRC1031.pdf


(3) Requirement that property be identified and that exchange be completed not more than 180 days after transfer of exchanged property

For purposes of this subsection, any property received by the taxpayer shall be treated as property which is not like-kind property if—

(A) such property is not identified as property to be received in the exchange on or before the day which is 45 days after the date on which the taxpayer transfers the property relinquished in the exchange, or

(B) such property is received after the earlier of—

(i) the day which is 180 days after the date on which the taxpayer transfers the property relinquished in the exchange, or

(ii) the due date (determined with regard to extension) for the transferor’s return of the tax imposed by this chapter for the taxable year in which the transfer of the relinquished property occurs.

(b) Gain from exchanges not solely in kind

If an exchange would be within the provisions of subsection (a), of section 1035(a), of section 1036(a), or of section 1037(a), if it were not for the fact that the property received in exchange consists not only of property permitted by such provisions to be received without the recognition of gain, but also of other property or money, then the gain, if any, to the recipient shall be recognized, but in an amount not in excess of the sum of such money and the fair market value of such other property.

(c) Loss from exchanges not solely in kind

If an exchange would be within the provisions of subsection (a), of section 1035(a), of section 1036(a), or of section 1037(a), if it were not for the fact that the property received in exchange consists not only of property permitted by such provisions to be received without the recognition of gain or loss, but also of other property or money, then no loss from the exchange shall be recognized.

(d) Basis

If property was acquired on an exchange described in this section, section 1035 (a), section 1036(a), or section 1037 (a), then the basis shall be the same as that of the property exchanged, decreased in the amount of any money received by the taxpayer and increased in the amount of gain or decreased in the amount of loss to the taxpayer that was recognized on such exchange. If the property so acquired consisted in part of the type of property permitted by this section, section 1035 (a), section 1036(a), or section 1037 (a), to be received without the recognition of gain or loss, and in part of other property, the basis provided in this subsection shall be allocated between the properties (other than money) received, and for the purpose of the allocation there shall be assigned to such other property an amount equivalent to its fair market value at the date of the exchange. For purposes of this section, section 1035 (a), and section 1036 (a), where as part of the consideration to the taxpayer another party to the exchange assumed (as determined under section 357 (d)) a liability of the taxpayer, such assumption shall be considered as money received by the taxpayer on the exchange.

(e) Exchanges of livestock of different sexes For purposes of this section, livestock of different sexes are not property of a like kind.


(f) Special rules for exchanges between related persons

(1) In general

If—

(A) a taxpayer exchanges property with a related person,

(B) there is nonrecognition of gain or loss to the taxpayer under this section with respect to the exchange of such property (determined without regard to this subsection), and

(C) before the date 2 years after the date of the last transfer which was part of such exchange—

(i) the related person disposes of such property, or

(ii) the taxpayer disposes of the property received in the exchange from the related person which was of like kind to the property transferred by the taxpayer,

there shall be no nonrecognition of gain or loss under this section to the taxpayer with respect to such exchange; except that any gain or loss recognized by the taxpayer by reason of this subsection shall be taken into account as of the date on which the disposition referred to in subparagraph (C) occurs.

(2) Certain dispositions not taken into account

For purposes of paragraph (1)(C), there shall not be taken into account any disposition—

(A) after the earlier of the death of the taxpayer or the death of the related person,

(B) in a compulsory or involuntary conversion (within the meaning of section 1033) if the exchange occurred before the threat or imminence of such conversion, or

(C) with respect to which it is established to the satisfaction of the Secretary that neither the exchange nor such disposition had as one of its principal purposes the avoidance of Federal income tax.

(3) Related person

For purposes of this subsection, the term “related person” means any person bearing a relationship to the taxpayer described in section 267 (b) or 707 (b)(1).

(4) Treatment of certain transactions

This section shall not apply to any exchange which is part of a transaction (or series of transactions) structured to avoid the purposes of this subsection.

(g) Special rule where substantial diminution of risk

(1) In general

If paragraph (2) applies to any property for any period, the running of the period set forth in subsection (f)(1)(C) with respect to such property shall be suspended during such period.

(2) Property to which subsection applies

This paragraph shall apply to any property for any period during which the holder’s risk of loss with respect to the property is substantially diminished by—


(A) the holding of a put with respect to such property,

(B) the holding by another person of a right to acquire such property, or

(C) a short sale or any other transaction.

(h) Special rules for foreign real and personal property

For purposes of this section—

(1) Real property

Real property located in the United States and real property located outside the United States are not property of a like kind.

(2) Personal property

(A) In general

Personal property used predominantly within the United States and personal property used predominantly outside the United States are not property of a like kind.

(B) Predominant use

Except as provided in subparagraphs (C) and (D), the predominant use of any property shall be determined based on—

(i) in the case of the property relinquished in the exchange, the 2-year period ending on the date of such relinquishment, and

(ii) in the case of the property acquired in the exchange, the 2-year period beginning on the date of such acquisition.

(C) Property held for less than 2 years

Except in the case of an exchange which is part of a transaction (or series of transactions) structured to avoid the purposes of this subsection—

(i) only the periods the property was held by the person relinquishing the property (or any related person) shall be taken into account under subparagraph (B)(i), and

(ii) only the periods the property was held by the person acquiring the property (or any related person) shall be taken into account under subparagraph (B)(ii).

(D) Special rule for certain property

Property described in any subparagraph of section 168 (g)(4) shall be treated as used predominantly in the United States.


It’s important to understand the difference

between investment property and property

“held for sale.” Property that is held for sale is

technically inventory in the hands of the

taxpayer and is therefore not eligible for Section

1031 treatment.

Section 1031 Exchanges can be used as a

strategy to achieve tax deferral while changing

the location and the type of property held. As a

tax‐planning tool, it will achieve greater net

equity over time and increased cash flow.

The Exchange Agreement created by the

Qualified Intermediary will give the QI legal

standing by way of assignment in both the old

property and the new property. From the

Exchangors perspective, a sale does not occur,

but rather an exchange of properties. Both

must be used by the taxpayer for investment or

productive use and remember that all real

property is like‐kind to all other real property.


There are three separate rules for identifying Replacement property. The most common

rule is termed the “3 Property Rule.” It doesn’t matter how many properties were sold in

an exchange, it is the value that is being matched. Identifying three properties within the

45‐day deadline will be challenging. Even if you eventually only select one property, it’s a

good policy to identify more than one so a backup property is available if the first choice

becomes unattainable.

The 200% Rule is available to taxpayers who want to identify and/or acquire more than

three properties. The limitation in using the 200% Rule is that the total value of what is

identified cannot exceed twice the value (or 200%) of the Relinquished Property. This

rule works well for larger dollar transactions when the taxpayer wants to diversify the

investment into multiple properties.

The 95% Rule is the most perilous choice. It will allow the taxpayer to ignore the value

and the number of choices with the requirement that once the properties are identified,

the taxpayer MUST acquire 95% of them. In nearly 30 years of practice this rule has

been used by a client in only one instance.


The point to remember is that it does not matter the type of real estate that the

taxpayer owns, it is how the property is used in their hands. It must be for investment,

commercial or business use. A single‐family residence is like kind to every other kind of

real property as long as the single‐family residence is NOT personal use property.

These are ALL Like Kind!


When Section 1031 was first codified in 1921, it was for the benefit of farmers who

objected to paying capital gains tax on their farm property, both real and personal.

Certain items of personal property are exchangeable as long as they fall into the same

asset class or product code. All aircraft is like‐kind to all other aircraft for instance, but is

not like kind to other items of machinery.

The North American Industry Classification System for Sectors 31‐33 is the best sources for

determining like kind for personal property.

www.census.gov/naics (for a complete description of the allowable categories)


The Exchange will begin on the day the deed is

conveyed to the purchaser. The 45 day and 180 day

clock will begin. Contracts for sale and purchase do not

trigger the beginning on an exchange, it always

happens on the day of the first leg of the transaction.

This is also true for reverse exchanges.

Only Presidentially declared disasters would provide for

extension of these time sensitive dates.

The first step is to engage the Qualified Intermediary to

create a written Exchange Agreement. The QI is

required to have standing in the exchange and this will

be accomplished with an assignment of the contracts.

Specific guidance will be provided to the Settlement

Agent and the funds will be directed to the QI for the

acquisition of the new property. Most importantly, the

QI will provide guidance to the taxpayer to avoid the

pitfalls. Transactions with related parties are

prohibited unless certain rules are followed.

Exchanges can be conducted regardless of whether the

taxpayer is an individual or some form of other entity.

It is important to remember that the same taxpayer

must sell and then buy. The IRS is tracking the taxpayer

identification number. Single member LLC’s and

revocable trusts will be disregarded for tax purposes.


DOES YOUR SITUATION QUALIFY FOR A SECTION 1031 EXCHANGE This tool has been developed to help you quickly identify Section 1031 opportunities?

Plans for the Money The greatest benefit from capital gains deferral will be obtained by reinvesting all of the cash from the sale of your property. It is possible to extract cash at closing; however, the amount you take will be subject to tax.

Amount Invested How did you acquire the property and how long have you owned it? Did you purchase it, did you exchange into it, was it given to you or did you inherit it? The answers to these and other questions will determine whether you have a low or high cost basis, and what your exposure is to Capital Gains Taxe.

If the gain exceeds $20,000 then an Exchange should be considered.

Mortgage Balance The outstanding mortgage debt is paid off at closing in the same manner as any other closing; and debt paid off must be replaced when the new property is acquired or new cash added to offset any difference. Any debt relief not offset by new cash will result in taxable boot.

On Last Two Tax Returns or Vacant Land Your tax return provides the IRS with an audit trail of your past activity. Your rental property must have appeared on Schedule “E” of your return (or the corporate equivalent) if you want to portray your property as held for investment or for use in your Trade or Business. The only exception will be vacant land.

How Long Owned Dealers are not permitted to use Section 1031; generally their assets are “held for sale”, not “held for investment”. In order for a property to be considered for long-term capital gain treatment, it must have been owned by you for at least one year.

Type of Replacement Property Section 1031 requires that the property be “like-kind”; all real property is like-kind to all other real property. The Like-kind test is more stringent for personal property.

www.section1031.com/PDFs/New PDFs/WhatQualifies.htm


Choices of Replacement Property Under the simple rules, you may select up to three potential new properties and you can buy any one, two or all three of them. More choices are available, however, the dollar value of the choices is capped at 200% of the value of the old property.

Can Meet 45 Day Requirement After the closing of the old or Relinquished Property, you will have 45 days to make your formal identification of Replacement Property choices. No substitutions are permitted after the 45th day.

Can Meet 180 Day Requirement After the closing of the old or Relinquished Property, you will have 180 days to acquire the new or Replacement Property. Exchanges must be accounted for within the same tax year; often it is necessary to extend the due date of the tax return to accomplish this task and to get the full benefit of 180 days for a year-end exchange.

Third Party Handling of Money Receipt of funds by the taxpayer at closing is not permitted in a Section 1031 Exchange. A Qualified Intermediary must be designated to facilitate this process so that the taxpayer never has constructive receipt of the funds. Relatives and attorneys or accountants that have represented the taxpayer in the last two years are prohibited from acting as the Qualified Intermediary.

Have qualification questions?

Edmund & Wheeler, Inc. has provided flawless Section 1031 exchanges for over 27 years. In fact, Exchanges are our only business. Contact our offices via phone or email if you have any questions regarding your specific situation.

www.section1031.com/PDFs/New PDFs/WhatQualifies.htm


The Five Most Common Section 1031 Misconceptions

Well before delayed exchanges were codified (by IRS) in 1991, all simultaneous exchange transactions of Real

Estate required the actual swapping of deeds plus the simultaneous closing among all parties to a 1031 exchange.

In most cases these types of exchanges were comprised of many of exchanging parties, as well as numerous

exchange real estate properties. Now today, there's no such requirement to swap your own property with

someone else's property, in order to complete an IRS approved exchange. The rules have been refined and ratified

to the point that the current process is much more indicative of your qualifying intent, rather than the logistics of

the Real Estate property closings

There was a time when all types of exchanges had to be closed on a simultaneous (same day) basis, now they

(1031) are rarely completed in this type of format. As a matter of fact, a majority of the exchanges executed are

closed now as delayed exchanges.

Don’t make this mistake. There is a common misconception that “Like‐Kind” is literal. There are currently 2 types

of properties that qualify as a 'like‐kind': Property held for investment and/or Property held for a productive use,

as in a trade or business.

This statement is a perfect example of another 1031 exchanging myth. Let me repeat, there are no provisions

within either the IRS Code or the US Treasury Regulations that can restrict the amount and number of real estate

properties that can be involved in an exchange. Thus, in exchanging out of several properties into one replacement

property or the vice versa of selling of one property and acquiring several other properties, are perfectly

acceptable strategies and uses of a 1031.

You can take cash out of a Section 1031 Exchange; however, the cash that you take out will be immediately taxable.


Contents

Hypothetical Example – Pay Taxes/Defer Taxes. ......................................................................... 21

Edmund & Wheeler Case Studies ................................................................................................. 24

Case Study 1 – Delayed Exchange .............................................................................................. 25

Real-life Example – Trading a Campground for Several Properties ..................................... 26

Real-life Example – 6 Properties for a Dozen Condos ......................................................... 26

Converting Investment Property into Personal Residence ................................................... 27

Case Study 2 – Reverse Exchange .............................................................................................. 28

Real-life Example – Buying a New Property Before the Old Property Sells ......................... 29

Acquire a Rental Property for a Family Member ................................................................... 29

Case Study 3 – Build-to-suit Exchange ........................................................................................ 30

Real-life Example – Commercial Property for Raw Land with Improvements ...................... 31

Case Studay 4 – Delayed Build-to-suit Exchange ........................................................................ 32

Real-life Example – Industry Specific Building on Identified Property .................................. 33

Case Study 5 – Delayed Exchange, Reverse Format .................................................................. 34

Real-life Example – Acquiring Abutting Property to Primary Residence .............................. 35

The Four Simple Qualification Questions...................................................................................... 36

Section

2 Case Studies &

Real-life Examples


These two Property Owners have identically valued

properties with identical tax consequences,

however, one chooses to sell and the other chooses

to use The Power of Section 1031, and take an

interest‐free loan from the Federal and State

Government.

These are the assumptions. The Federal Tax is 15%

and the State Tax is 5%, but past depreciation these

taxpayers have taken will be recaptured at the rate

of 25%. However, the second Property Owner has

no intention of funding the tax, as a Section 1031

Exchange is planned. Another assumption is that the

values of the Replacement Properties grow at a

uniform 6% rate per year, without compounding.

After 5, 10 and 15 years we will take a look at each

situation.

OK, here we go. The two properties both sell for

$300,000, but one Property Owner elects to pay the

tax ($65,000) while the other elects to accept the

interest‐free loan. They both reinvest, but one has

$65,000 more than the other, and as a consequence,

his investment commands more monthly cash flow.

So the effects of the interest‐free loan are

immediate: The Property Owner who took the loan

earns $325 more per month on his investment than

his tax‐paying counterpart.


Now let’s look at the situation 5 years out. Each

owner sells his investment, but again Owner #1 pays

the tax while Owner #2 elects to take a further

advance on the interest‐free loan. Further, since

more principal was invested, the value of the 2nd

Owner’s investment is worth almost $100,000 more

than the 1st Owner’s. Granted this difference is pre‐

tax, but read on....

At 10 years, the pattern repeats: Owner #1 pays

taxes again, but Owner #2 accepts a further advance

on the interest‐free loan. This equity is worth

$145,664 more than Owner #1, and, as a

consequence, it commands $728 more income per

month

We conclude the example here, but you get the idea:

By deferring the tax at the beginning, Owner #2 has

made good use of free government money. This

investment is now worth $221,044, and

consequently commands a monthly income of

$3296, more than $1056 more per month than

Owner #1's income.


And here is a summary of the wealth

building effects. Owner #2's equity is

worth more than $211,044 than Owner

#1's, and has grown by 119% (instead of

49.3%) thanks to the use of the tax‐free

loan. Further, at this point, let’s pretend

that Owner #2 takes leave of his senses

and decides to pay the tax instead of

exchanging again and again.

The total taxes due from Owner #2 at the 15‐year point are $136,810, which leaves this owner $74,234

ahead of Owner #1 on an after‐tax basis. This is the true comparison because, after all, Owner #1 was

paying tax all the way through, and Owner #2 was deferring it, by the use of Section 1031.

At the 15th year, Owner #2 has received an

additional $92,779 in cash flow over Owner #1.

Can any sensible investor afford to ignore these

two figures??

Even after the last sale, if Owner #2 decides to get

out the game and pay his taxes, he is still is over

$160,000 ahead of the game!


Case Studies

Over the many years that Edmund & Wheeler has been facilitating Exchanges, we have discovered that

exchanges generally can be described in 5 distinct types. The most common type is Case Study 1 – the Delayed

Exchange. We will be reviewing each case study, along with some real‐life examples of how these Exchanges

work.

Exchange Type Case Study

Description

Delayed Exchange (Existing Property) Direct

Format 1

In this format, the client gets the most common type of Section 1031 Exchange.

Delayed/Simultaneous Exchange

(Existing Property) Reverse Format

(Exchange Last)

2

In this format, property desired by the Exchange client is parked in a Single Purpose Entity (SPE) until the client's current property can be sold.

Delayed Build-to-suit Exchange

Direct Format 3

In this format, the client gets a Section 1031 Exchange and acquires new, improved property, built-to-suit.

Delayed/Simultaneous Build-to-suit

Exchange Reverse Format (Exchange Last)

4

In this format, property desired by the client is parked in a Single Purpose Entity (SPE) until the client's current property can be sold. During the parking period, the new property is improved by the SPE to the client's wishes.

Delayed Exchange (Existing Property) Reverse Format

(Exchange first) 5

In this format, property desired by the client can be purchased immediately by Client, as Client's old (Relinquished) property is parked in a Single Purpose Entity (SPE) until it can be sold to buyer.

www.section1031.com/cases.htm


CASE STUDY 1 ABDC Delayed Exchange

(Existing Property) Direct Format

In this format, the Client (A) gets a Section 1031 Exchange between steps 3 and 7 assuming all of the rules have been followed. This is the most common type of exchange.

The Exchange Agreement with Edmund & Wheeler, Inc. which governs the overall transaction. This document MUST be in force before the closing.

The Purchase and Sale Agreement to sell the Relinquished Property. This step may take place before Step 1 (the only out-of-sequence exception).

The closing of the Relinquished Property; if several are involved, the first in chronological order. In this step, the deed to the property is given to the Buyer.

Rather than going to the Exchangor, the Buyer's funds are used to pay all of Exchangor's expenses (including mortgages, if any), with the NET going directly to a money center bank into a separate, interest-bearing account established in the Exchangor's name and Social Security number.

This is an interactive step encompassing all communications post-closing with the Exchangor and Edmund & Wheeler, Inc. Included are the 45-day Identification Letter, instructions on how much of the account to be expended on particular properties, and final approval to close on the final choice(s).

These are the precise instructions to Exchangor's attorney, bank or Title Company for the closing of the

Replacement Property, and the wire transfer of approved funding.

This is the Exchangor's receipt of the direct deed from the owner of the Replacement Property (C); the Exchangor achieves a Section 1031 Exchange between Steps 3 and 7, where in Step 3 a deed is given and in Step 7 a deed is received, and in between the Exchangor had no control (or Constructive Receipt) of funds.


This Exchangor sold one large lakefront property and

proceeded to use the next 45 days driving up and down

the East Coast selecting Replacement Properties. He was

in the enviable position of being able to identify more than

three Replacement Properties (the simple rule). He used

the 200% rule (to identify as many properties as he

wanted as long as the total value of the properties

identified did not exceed twice the value of the

Relinquished Property). In the end, he acquired sixteen

new properties from Maine to Florida, many of them

single family (rental) residences, including two new

campgrounds.

This Exchange allowed him to diversify his portfolio, generate significant cash flow from his new properties, and pay no

capital gains tax. As they say in the business "one happy camper!" If he determines that one or more of his selections

doesn’t satisfy his investment objectives, then after a year or two, he can exchange again.

We are currently working with a client to acquire a

significant piece of commercial real estate in New England.

The client is in the process of selling six separate pieces of

property in order to aggregate sufficient funds to make the

new Replacement Property purchase. The client has been

extremely careful (with our guidance) to time his sales and

the new purchase all within a 180 day time frame. This is

key to the success of the Exchange due to the fact that he

will acquire not just one piece of property, but rather over

a dozen condominiums. You will recall that you have two

basic rules when it comes to identifying your Replacement

property choices, the Three‐Property Rule and the 200%

Rule. This Exchange is an example of yet a third method of identifying Replacement property. It allows the client to acquire

an unlimited number of properties, without regard to value or number as long as he acquires 95% (FMV) of what he

identified. This can be a little nerve‐racking for the investor and it pays to have a back‐up plan.


Our client exchanged out of a three unit building that had been held for many years. In

preparation for retirement, the client acquired a Florida rental property. After renting

the Florida property for two years, our client will convert the use from rental to personal

and move into the property as a primary residence. There isn’t any prohibition against

converting business/investment property to personal use.

Be aware that upon the sale of the property, the client will NOT be entitled to the full

Section 121, personal residence exclusion of $250,000/$500,000. Effective January 1,

2009 the number of years of non‐qualified residential use is divided by the total number

of years owned to produce a pro‐rated exclusion.

For example, if you own a property for 10 years and you rented it for the first two years

of ownership and later moved into it and made it your primary residence, then you would

only be eligible to exclude 80% of the sale, meaning you would owe gains on 20% of the


CASE STUDY 2 ACBD-Delayed/Simultaneous Exchange (Existing Property)

Reverse Format - Exchange Last

In this format, property (C) desired by the client (A) is parked in a Single Purpose Entity (SPE) until client's current property (A) can be sold. Section 1031 Exchange occurs between steps 7 and 11.


Since the Replacement Property will be purchased (and Parked) before the sale of the Relinquished Property, a source of funds for the purchase must be arranged. This can be the Exchangor, or their bank. If a bank, the Exchangor will be expected to provide a guarantee.

This is the loan to the Single Purpose Entity (which the IRS has renamed an Exchange Accommodation Titleholder (EAT)) that will buy the Replacement Property from its owner (C) and hold it until the Relinquished Property (A) can be sold to the Buyer (B).

This is the actual purchase of the Replacement Property from its owner (C).

At this step, the Entity (and not the Exchangor) becomes the legal owner of the Relinquished Property. The 180-day Exchange Period commences.

The Relinquished Property goes under Agreement of Sale to Buyer (B).

The Exchangor gives Buyer (B) a deed, and the transaction closes; this step must occur before the 180th day, with enough margin to complete Steps 8-11.

Rather than going to the Exchangor, the Buyer's funds are used to pay all of Exchangor's expenses (including mortgages, if any), with the NET going directly to a money center bank into a separate Qualified Escrow Account established in the Exchangor's name and Social Security number.

As Edmund & Wheeler, Inc. is the signer on the Qualified Escrow Account, it causes the balance to be paid to the EAT in exchange for its deed for the Replacement Property executed in favor of the Exchangor.

Before the deed can be issued, however, the EAT must pay off (or pay down to the extent of available cash) the loan made to it at Step 3, above.

This is the Exchangor's receipt of the direct deed from the EAT as owner of the Replacement Property; provided the deed is delivered to the Exchangor on or before the 180th day. The Exchangor achieves a Section 1031 Exchange between Steps 7 and 11, where at Step 7 a deed is given and at Step 11 a deed is received, and in between the Exchangor had no control (or Constructive Receipt) of funds.


George’s favorite Exchange was an "acquire first,

reverse exchange". Sounds complicated, but it’s not.

Our client had negotiated the purchase of a significant

new property but had been unable to sell a piece of

existing property in time to do the deal. Rather than

jeopardize the purchase, we created a single purpose

entity (SPE), in this case, a Massachusetts trust, to

acquire the new (parked) property.

Edmund & Wheeler, Inc. was engaged to create the

new entity, hold the property until the old property

was sold and the proceeds are available to acquire the

"parked" property.

The Exchangor funded the purchase with his own and other bank resources. Once the old property was sold, the new

property was deeded to the Exchangor. Since it is not permissible to own the old and new property at the same time, this

strategy accomplished the Exchangor’s desired outcomes, again without capital gains tax.

This is a case where you can benefit your own family

without paying capital gains tax. Our client sold a

multi‐family rental property that had been owned for

many years and rented to college students. The cash

flow was OK but there was deferred maintenance that

was starting to affect the market price of the property.

Our client negotiated a sale on the multi‐family

property and engaged us to handle the transaction as a

Section 1031 Exchange. The client’s daughter had

moved to a suburb of Chicago and wanted to acquire a

property that would be a safe secure primary residence and provide her mom with a nice place to visit the grandchildren.

A property was identified and the exchange funds were used to acquire the new suburb property. As long as the property

remains as rental property in the hands of the client and fair market rent is charged, then this strategy is perfectly

acceptable. The property can be gifted off in increments of $12,000 per person, per year.


CASE STUDY 3 ACBD-Delayed, Build-to-Suit (or Improvement) Exchange

Direct Format

In this format, client (A) gets a Section 1031 Exchange between steps 3 and 12 and acquires new, improved property. All rules MUST be followed.

The closing of the Relinquished Property; if several are involved, the first in chronological order. In this step, the deed to the property is given to the Buyer. This step starts the 45-day Identification Period and the 180-day Exchange Period.

Rather than going to the Exchangor, the Buyer's funds are used to pay all of Exchangor's expenses (including mortgages, if any), with the NET going directly to a money center bank into a separate, interest-bearing Qualified Escrow Account established in the Exchangor's name and Social Security number.

The Exchangor has identified property C (property needing improvements) as the Replacement Property; at this Step, Edmund & Wheeler, Inc. causes the necessary purchase price for this property to be advanced to the Single Purpose Entity (which IRS has renamed an Exchange Accommodation Titleholder (EAT)) which has been formed to own and improve the identified Replacement Property.

This is the closing for Property C; this Step is the funding; and

This Step is the legal acquisition. At (or hopefully well before) this time, Exchangor engages Contractors and Materialmen to effectuate the desired improvements.

The vendors begin work, and soon enough, bills begin to arrive, addressed to the EAT, the legal owner of the property.

All invoices are presented to the Exchangor for approval for payment from the Account.

Upon such approval, further advances are made by the QI to the EAT to cover each payment.

The vendors are timely paid, until funds are exhausted.

This is the Exchangor's receipt of the direct deed from the EAT as owner of the Replacement Property; provided the deed is delivered to the Exchangor on or before the 180th day (as adjusted), the Exchangor achieves a Section 1031 Exchange between Steps 3 and 12, where at Step 3 a deed is given and at Step 12 a deed is received, and in between the Exchangor had no control (or Constructive Receipt) of funds.


The Purchase and Sale Agreement to sell the Relinquished Property. This step may take place before Step 1 (the only out-of-sequence exception).


This is a classic "build‐to‐suit" transaction. Our client sold a commercial property and

directed the proceeds of the sale by virtue of an Exchange Agreement to us as

Qualified Intermediary. We created a single purpose entity to conduct the business,

in this case a NH corporation. We then purchased, in the name of the new

corporation, a piece of raw land (which had been subdivided and permitted) using

the exchange proceeds. The client delivered specific instructions for the type of

building to be constructed on the site and directed who the contractor would be to

perform the work. We made a series of progress payments based on the work in

place and the "ok" to pay by the client.

Once all of the sale proceeds of the Relinquished Property were exhausted, the new

property was deeded to the client and the corporation was closed and tax return

filed on its behalf. The entire process was concluded within 180 days.


CASE STUDY 4 ACBD-Delayed/Simultaneous Build-to-suit Exchange

Reverse Format - Exchange Last

In this format, property (C) desired by the client (A) is parked and improved in a Single Purpose Entity (SPE) until client's current property (A) can be sold.

Section 1031 Exchange takes place between steps 10 and 14.

This is the loan (and Line of Credit) to the Single Purpose Entity (which the IRS has renamed an Exchange Accommodation Titleholder (EAT)) that will buy the Replacement Property from its owner (C) and improve it and hold it until the Relinquished Property (A) can be sold to the Buyer (B).

This is the actual purchase of the Replacement

Property from its owner (C) by the EAT.

At this step, the EAT (and not the Exchangor) becomes the legal owner of the Relinquished Property. The 180-day Exchange Period commences. At (or hopefully well before) this time, Exchangor engages Contractors and Materialmen to effectuate the desired improvements.

The vendors begin work, and soon enough, bills begin to arrive, addressed to the EAT, the legal owner of the property.

All invoices are presented to the Exchangor for approval for payment from the Line of Credit.

The vendors are timely paid, until the predetermined match point has been obtained.

The Relinquished Property (A) goes under Agreement of Sale to Buyer (B).

The Exchangor gives Buyer (B) a deed, and the transaction closes; this step must occur before the 180th day, with enough margin to complete Steps 11-14.

Rather than going to the Exchangor, the Buyer's funds are used to pay all of Exchangor's expenses (including mortgages, if any), with the NET going directly to a money center bank into a separate Qualified Escrow Account established in the Exchangor's name and Social Security number.

As Edmund & Wheeler, Inc. is the signer on the Qualified Escrow Account, it causes the balance to be paid to the EAT in exchange for its deed for the Replacement Property executed in favor of the Exchangor.

Before the deed can be issued, however, the EAT must pay off (or pay down to the extent of available cash) the loan made to it at Step 3, above.

This is the Exchangor's receipt of the direct deed from the EAT as owner of the Replacement Property; provided the deed is delivered to the Exchangor on or before the 180th day, the Exchangor achieves a Section 1031 Exchange between Steps 10 and 14, where at Step 10 a deed is given and at Step 14 a deed is received, and in between the Exchangor had no control (or Constructive Receipt) of funds.


Since the Replacement Property will be purchased (and Parked) before the sale of the Relinquished Property, a source of funds for the purchase must be arranged. This can be the Exchangor, or their bank. If a bank, the Exchangor will be expected to provide a guarantee.


Our client required an industry specific building to be constructed on property that he

identified. We created a single purpose entity to acquire the targeted land and then

began construction of the facility. The construction was completed at day 135 and the

client moved his existing business in to the facility. Once the former building was

vacant, it could be shown to prospective buyers and sold before day 180.


CASE STUDY 5 Delayed Exchange (Existing Property)

Reverse Format - Exchange First

In this format, property (C) desired by the client (A) can be purchased immediately by Client (A), as Client (A)'s old (Relinquished) Property (A) is parked in a Single Purpose Entity (SPE) until it can be sold

to buyer (B). Section 1031 Exchange takes place between steps 3 and 6.


In consultation with the QI, the Exchangor determines what the NET proceeds would have been had the Relinquished Property sold that day; this is the cash amount of a loan to be made by the Exchangor to the Special Purpose Entity (Exchange Accommodation Titleholder (EAT)) that will buy the Relinquished Property from the Exchangor (A) and hold it until this property can be sold to the Buyer (B).

In this Step, the Exchangor executes a deed to the Relinquished Property to the EAT. Not shown is a mortgage back to the Exchangor to provide for security. The 180-day Exchange period commences.

The exact amount of the loan funds in Step 2 are turned over to Edmund & Wheeler, Inc. as QI.

Since the Exchangor has identified Property C as the Replacement Property, the QI is instructed to fund its purchase.

This is the Exchangor's receipt of the direct deed from the owner of the Replacement Property (C); the deed is delivered to the Exchangor almost immediately after the Steps above; the Exchangor achieves a Section 1031 Exchange between Steps 3 and 6, where in Step 3 a deed is given and in Step 6 a deed is received, and in between the Exchangor had no control (or Constructive Receipt) of funds.

Exchangor's former property (the Relinquished Property) is now legally owned by the EAT, however, the Exchangor is expected to continue the marketing effort and to approve all offers. When Buyer (B) is found, the EAT executes a deed to the Exchangor's Relinquished Property in favor of this person.

The Buyer (B) pays the purchase price to the EAT, which uses the funds to:

Payoff the bank (if any); and

To repay the initial loan from the Exchangor.


Our client had an opportunity to acquire abutting property to his primary residence.

The new property was vacant land but included more than 500 feet of shore front land.

The client arranged for a borrowing sufficient to acquire the new property but since he

couldn’t own the new property and the old property at the same time, he sold the old

property to a single purpose entity for the amount of money that he had just borrowed.

The old property deed was placed in the name of the entity.

Next, the entity passed the loan funds to Edmund & Wheeler which in turn gave them

to the Seller of the shore front land, and this Seller deeded our client the property.

Then the client went to work to sell existing property that was held as a rental property

by the entity in Florida. Florida sold within 180 days and the Buyer’s funds were passed

though the exchange to pay down the debt on the new shore front property.


Now that you understand all of the technical aspects of

Section 1031, it’s time to sift all of this information into

an easy to understand format to help you identify

exchange opportunities.

Since we have learned that only certain property

qualifies for exchange treatment, we want to

understand if the property has had personal use, been

used for qualified purposes and the transaction does

not contain items that are not exchangeable.


This will helps us understand the tax basis of the

property in the client’s hands. If we discover that the

property was acquired via a previous exchange then it

will almost certainly need to be exchanged again.

The property should have been owned for not less than

one year (need long term tax treatment qualification).

Clients often fail to understand that stepped

transactions require special care in Section 1031

transactions. The better informed we are at the

beginning of the process, the better result at the

conclusion of the transaction.

Right‐sizing the transaction is important for

the desired results.

Understanding the client’s objectives is key to advising

them on the correct strategy to undertake. Going

even or up in value will avoid taxable “boot” but if the

client wants some cash, it is perfectly acceptable; they

will put that cash at risk of taxation and not the entire

transaction.

Helping them select the right identification rule to

follow is equally important to the success of the

exchange.


Contents

Tenants In Common (TIC) ............................................................................................................ 39

Why use a TIC? .................................................................................................................... 39

How does it work? ................................................................................................................. 40

Direct ownership vs. a TIC .................................................................................................... 41

Case Study ............................................................................................................................ 42

TIC Benefits .......................................................................................................................... 43

Securities TICs vs. Real Estate NNN and Master Leases .................................................... 45

Umbrella Partnership Real Estate Trust (UPREIT) ....................................................................... 46

Section 721 Exchange Overview .......................................................................................... 46

UPREIT Benefits ................................................................................................................... 47

Oil & Gas Leases .......................................................................................................................... 48

O&G Characteristics ............................................................................................................. 48

O&G Benefits ........................................................................................................................ 49

Structured Sales ............................................................................................................................ 50

The Structured Sale in Real Estate Transactions ................................................................. 51

The Structured Sale and 1031 .............................................................................................. 52

The Structured Sale and selling a business ......................................................................... 53

Structure Sale Diagram ......................................................................................................... 54

Section

3 Alternate Exchange

Opportunities


Of the alternative Exchange strategies, the Tenants‐In‐

Common vehicle has become increasingly popular in

the past few years. TICS offer the clients the

opportunity to passively invest in a Grade A Real Estate

Offering, resulting in monthly payments without the

hassles of owning and managing typical investment

real estate.

Since 2002 the IRS has recognized TIC properties as

eligible for Exchange under Section 1031. Since that

time, hundreds of spectacular properties have been

purchased by TIC sponsors and sold to investors that

would not typically own this type of real estate.

Many investors have owned and managed investment

real estate on their own for years, all the while dealing

with “the terrible T’s”. Many investors wish to keep a

portion of their portfolios in the real estate class, but

are very weary of dealing with the management

hassles!

TICs provide all of the benefits of owning commercial

real estate, with many advantages without dealing

with “trash, toilets and tenants”.


As a fractional ownership, a group of owners (not

to exceed 35) can take ownership in Grade A

investment property.

A check is sent each month with the appropriate

share of the revenues generated by the property,

and the properties are typically managed by the

best property managers available in the area.

Along with the positive aspects of owning a TIC,

investors are also subject to “cash calls” should the

properties expenses exceed its income.

TICs are purchased in much the same way

as any property. With the primary

difference being that the property is

identified well in advance, and the

ownership position is reserved until

closing.

Note that there is also non‐recourse

financing involved, with all the benefits

associated with Exchanging with debt.

These are a sampling of the properties that have

been made available as TICs in the past few

years.

Since 2002 there have been hundreds of these

types of properties purchased by TIC investors,

and to date, the vast majority has performed at

or above expectations.


TICs can provide an unprecedented level of diversity by spreading a fractional real estate investment throughout multiple

geographies, classes and areas. Many clients have Exchanged whole ownership in one type of building located in one area, to

many types of buildings in many areas!

The chart below outlines some similarities, but more importantly some key differences in direct ownership vs. TIC ownership.

Note arrows.


In order to demonstrate the mechanics and the

benefits of Exchanging into a TIC property we

present this case study which has been derived

from the performance of a typical TIC

investment.

In this study, a $25M Grade A property was

purchased by one of the many experienced TIC

sponsors. The TIC sponsor pre‐arranges all of

the financing, and in this case the Equity/Debt

ratio is 30/70.

We will assume a typical initial investment of

$500K, which a fairly typical amount for most

small to mid‐level investors.

We are assuming this investor is purchasing

6.7% of the entire property.

With fairly conservative distributions, we can

see how this investment has provided a strong

return with ABSOLUTELY NO MANAGEMENT

REQUIREMENTS AT ALL.


1 Freedom from day‐to‐day

management responsibilities. With no more property to manage, you have more leisure time to relax or pursue other Interests. In addition, because someone else is managing the property for you, there are no geographical limitations. You are free to invest in real estate markets nationwide.

2 Professional people managing the property on your behalf.

The typical Exchange Equity deal is on a long‐term lease to a Credit Rated Tenant (A+‐BBB) who will have strong financials and extensive experience in the management and upkeep of the property. This is the underpinning of the approach of a typical TIC sponsor. This allows them to examine offerings in all sectors, types, and locations of real estate. In addition, because many sponsors co‐invest in the properties that they sponsor, they have a vested interest in the performance of the properties. You can relax because it is the tenant’s responsibility to maintain the property, and for the sponsor to collect the rents, service the mortgage (if any), and handle all of the other asset management responsibilities.

3 Increased monthly cash flow.

Your investment in a TIC interest provides you with a check every month. The cash flow that owners typically receive generally starts at 6.25‐8% per annum. Because exchangors take on a new depreciation schedule, however, cash distributions are typically 50‐100% tax sheltered, depending upon asset class and leverage. The equity appreciation in well‐located real estate speaks for itself.

4 Properties are identified and researched for you.

TIC sponsors do all of the work of locating, negotiating to purchase, providing all of the required due diligence, arranging for the financing, and other work necessary to acquire the new investment property and set up the TIC program. A wide range of TIC properties exist for sale, in many different asset classes and geographical locations, so with the help of your TIC sponsor, you will be able to easily identify possible properties within the requisite 45 days, and acquire them within 180 days. In many cases, TIC sponsors offer a "back‐up" in case your preferred purchase becomes unavailable for some reason.

5 Invest in larger, safer, higher‐quality institutional properties.

As a TIC, you end up with a larger, higher‐quality building leased to Credit Tenants with greater financial strength and stability than any other type of real estate investment typically available to individual investors.


6 Benefit from multiple tax advantages.

Not only can you defer capital gains taxes until death, at which point they are forgiven, but you also can gain additional tax advantages through a new depreciation schedule and in doing so typically shelter 50‐100% of your cash flow.

7 Gain non‐recourse debt.

Accredited investors assume institutional grade, pre‐arranged, non‐recourse (no personal guarantee) financing with easy approval. You can invest in properties that have no debt, or in ones with up to 75% leverage.

8 Start investing with as little as $50,000.

TIC investments have a much lower minimum investment than sole ownership allowing for greater flexibility. Variable investment sizes can start as low as $50,000 and can be structured to match an owners’ equity and debt requirements.

9 A first‐class way to diversify your assets.

Large net proceeds may be split among several properties, and so invested in several different markets and asset classes.

10 Preserve your capital by investing in properties that continue to appreciate.

Profits can be locked in by selling out of highly appreciated markets and then re‐investing 100% of the net proceeds from those sales into growth markets.

11 Simplify your estate planning.

TIC can simplify wealth transfer and estate issues. After all, it’s much easier to divide a monthly check among heirs than it is to divide a building.


Comparison of Tenant‐In‐Common Structures Security Interest

versus Real Estate NNN & Master Lease

Feature TIC as Security

TIC as Real Estate (NNN)

TIC as Real Estate (Master Lease)

Full Disclosure of Fees and Transaction Costs

Yes Yes No

Complete Reporting Transparency Yes Yes No

Full Disclosure of Terms of Purchase & Risk Factors

Yes Yes No

Professional Asset Management Yes Yes Yes

Master Lease Default Remedies Yes Yes No

IRS Opinion for Rev Proc 2002-22 Yes Yes Yes

IRS Opinion for Rev Proc 2004-86 Yes Yes Yes

Property Management Conflict Yes No Yes

Compliance with IRC Section 1031 Yes Yes Yes

Downside Protection No No No

Investor Control of Management Yes Yes No

Debt (Non-recourse) with Unanimous Consent

Yes Yes Yes

Accredited Investor Status Required Yes No No

Highly Regulated Sales Process Yes No No


The Omnibus Budget Reconciliation Act of 1993 in the U.S. created Umbrella Partnership REITs (“UPREITs”) As opposed to a traditional REIT where real estate was directly owned, in an UPREIT structure, a REIT could own a controlling interest in an operating partnership (“OP”) that owned the real estate.

This structure allows property owners to benefit from tax deferrals when exchanging property interest for units in an OP because an exchange of property interests for OP units will generally not represent a sale for tax purposes.

The units of OP could later be converted to REIT shares (a taxable event) when the tax benefits of such conversion were the greatest, thus deferring capital gains tax.

Section 721 allows an investor to actually

contribute a property into a Partnership.

In exchange, the investor receives OP shares

which are then converted to REIT shares.

Please note, that once an investor receives REIT

shares, they are securities, and follow the same

regulations as such. Also, you cannot do any

further exchanges with this type of vehicle.


Pay no capital gains tax or depreciation recapture tax

Upgrade property holdings into institutional quality real estate

Eliminate “hands‐on” property management responsibilities

Diversified among various properties across the country

Competitive monthly/quarterly cash flow distributions

No monthly mortgage obligations due to “non‐recourse financing”

Removes or minimizes real estate holdings from taxable estate

Capital gains tax is forgiven or “stepped up” at the death of investor

“OP” units may be transferable, divisible or gifted

“OP” units may become liquid assets upon conversion


Section 1031 classifies an investment in an Oil

and Gas Production working interest and

Royalty Interest as "like‐kind" for 1031

exchanges. A working interest is a leasehold

interest which allows the lessee the right to

search for and produce Oil and Gas on a parcel

of land and receive a portion of the proceeds of

the Oil & Gas produced. Each fractional owner

of an offering has the same rights as a single

owner and can subdivide or offer for sale their

ownership interest at any time on the open

market.

Liquidity

There is an active secondary market for

established Oil and Gas Production to sell

directly to investors or by auctions specializing

in Oil and Gas Production based on projected

production and the commodity prices.

Life of Production

Long term projected production with proved

reserves supported by qualified third party

reports.

Annual Return

Average payout of 15% to 18% per annum over

the term. This payment must be considered as

return of investment as well as return on

investment as the future value of the

investment will be zero when the production is

completed.

Tax Treatment

Income is eligible for tax free depletion allowance of approximately 15% which is not charged back upon the future

sale or 1031 exchange of the investors "fractional interest".

Diversification

Long term management free investment with secure cash flow with a wholly‐owned interest with the investor

controlling the timing and exit strategy.

Valuation

There are no drilling risks in Oil and Gas Production. Investments are valued on the amount of potential production and

the price of the commodity. Prices will increase and decrease and therefore payouts will vary. Over the long term

growth should provide an ideal inflation hedge.

International

Unlike real estate Oil & Gas is a Global commodity that is not solely dependent on the US economy and interest rates.

Closing

Quick and economic closing.


One of the many advantages of O&G is that, unlike buying a building, an energy asset

purchase can often be tailored to the exact valuation required for your exchange. In

addition, many energy replacement property options offer a much lower minimum

investment requirement than many traditional real estate or Tenant In Common (TIC)

investments.

Under the provisions of Section 1031, oil and gas assets are considered "like kind" for

all of the following types of real property: commercial properties, mines and quarries,

multi‐family dwellings, residential rental properties, restaurants, timber and

timberland, warehouses and undeveloped land. Thus, oil and gas properties are often

used as replacement property for real estate and other investments to defer capital

gains.


When someone is selling a business, professional practice or real estate, many

individuals in these and similar financial situations would like to liquidate their

investment without having to recognize the entire profit as taxable income in the year

of the sale. Instead of taking a lump sum, the seller can now design a stream of income

to meet his or her individual needs.

By making the sale and having part of the proceeds payable over time, the seller can

use the payment proceeds as a source of income and may be able to recognize the

taxable gain as the installment payments are received or deemed received.

Enables a 1031 Rescue – in the event a seller is unable to identify suitable replacement

property for their 1031 exchange, a structured sale can be executed as a backup plan

prior to the close of escrow.

However, this option is only available if the original sales contract contained wording

allowing for the possibility of a structured sale, and if the structured sale's contracts

are signed before the close of escrow. (As a precaution, every sales contract should

include such wording. Contact us for proper wording to include this possibility in your

sales contract.)


Using a Structured Sale

for Real Estate Transactions

A “structured sale” is a tax deferral strategy for sellers of real estate. It is an improved

version of traditional “installment sales.” It allows the seller to take advantage of tax

benefits and income security that were not previously available. In a structured sale

the seller is allowed to spread their capital gains tax liability over a span of years, while

receiving guaranteed payments.

Benefits

Defer capital gains taxes to the year you receive payments

Earn pre‐tax guaranteed rate of return on principal

Set up payment stream to your liking

Payments guaranteed by ALLSTATE

Structured Sales Examples:

Home owner sells their residence for a large gain

Homeowner sells house for $2,000,000. Original purchase price was $500,000. After a

$500,000 exclusion, they are left with a $1,000,000 gain. Instead of incurring a large

capital gains tax at the time of sale, the seller elects to set up a guaranteed stream of

income. The seller now can structure all or a portion of the remaining $1,000,000 and

only pay taxes as they receive payments. This is perfect for supplementing retirement.


Clients selling an income property

Client wants to get out of the “landlord” business but requires the steady stream of income

that the tenants provide. By using a structured sale, the owner can set‐up his structure to

mirror his former income, all the while deferring his capital gains.

Investor that is not interested in 1031 exchanges and

just wants to get out of the market

For those clients who do not want to utilize the 1031 option, a structured sale is the perfect

alternative. Like a 1031 exchange, a structured sale will defer capital gains tax, but the

investment is an annuity, not a “like‐kind” property exchange.

Farmer selling his land to developer

Many farmers are hesitant to sell their land to a developer because of huge capital gains

liability and uncertainty about how to invest the proceeds. Structuring a portion of the

transaction can be the “little extra” that makes the deal happen. A guaranteed income

stream, resulting in continuation of income and deferral of capital gains are all potential

benefits to the farmer.

Home owners looking to down‐size their residence

Many homeowners sell their property and downsize in order to take a profit, retire, or re‐

locate to a less expensive market. They can structure their profit to match their mortgage on

their new home and defer capital gains. If they are retiring, structure plans can be set up to

pay a guaranteed income for the rest of their life.

A structured sale should always be identified

up‐front in the Exchange Agreement as an

alternate strategy.

A structured sale can also be used to arrange

payments for any proceeds of the sale that are

not used to purchase replacement property

(boot). This will allow full tax deferral at the

time of the Exchange!


Selling a business can be a harrowing experience. Often times, sellers have worked

their entire professional career in building their businesses. In many cases, these

business assets represent the largest portion of your client’s financial assets.

Business buyers invariably will seek owner financing when negotiating terms on a

potential business purchase. While owner financing can assist in closing the deal, there

are inherent risks associated with carrying paper on a business. Namely, if the buyer

should default, then the income stream stops and the seller then gets his business

back. In most cases, this is the last thing a seller wants.

Typically, when a seller is asked to carry paper, an installment sale is set up. As

discussed, this can be risky business. A much safer alternative is to set up a structured

sale whereby the seller is guaranteed his payments regardless of the future outcome

of the business.

Structured sales also provide an exchange vehicle for those business owners who want

to exit the real estate class in their portfolios, while providing a steady, management

free income stream for the rest of their lives.

Note that once a client exchanges into a structured sale, he cannot exchange again!


Assuming the assets being sold qualify for reporting on the installment

method, here's how the process would typically work:

1. The seller enters into an installment sale agreement under which the buyer

promises to make periodic payments for a stated number of years. The seller

is NOT agreeing to take note from the buyer, rather delay his receipt of cash,

and to defer capital gains

2. The buyer assigns his or her periodic payment obligations to an assignment

company.

3. The assignment company funds the payment obligation by purchasing an

annuity from an insurance company.

4. The insurance company begins making the payments to the seller as agreed to

under the terms of the sale and issues an agreement to pay on the

performance of the assignment company.


How Do You Summarize 54 Pages?

Section 1031 is an interest free loan from the government.

Section 1031 is used in less than 10% of the transactions that it should be!

Real Estate Professionals owe it to their clients to understand this powerful tool!

More commissions. More Commissions. More Commissions.

Section 1031 is about Relocation and Reallocation of assets without paying capital gains tax!

Any real property can be exchanged for any other real property!

Section 1031 can be used to dramatically increase the value of holdings by leveraging Uncle Sam’s money.

Ask the 4 Questions:

1. What’cha got?

2. Howd’ya get it?

3. What else ‘ya got?

4. What’cha want?

Nearly every taxpaying entity qualifies for a Section 1031 Exchange!

Personal property can also be Exchanged. “Like-kind” is literal!

There are replacement options available for Section 1031, understand them!

o Tenants-In-Common - Management free real estate investments in Grade A properties

o UPREIT - Exchange into a real estate investment trust.

o Oil & Gas - A timely alternative to owning real-estate with the same benefits and flexibility.

o Structured Sales - An annuity based “paycheck” for failed exchanges and business transfers.


Section 1031 Glossary

Section 1031 Exchange This very simply is a Section 1031 Tax Deferral which permits taxpayers to reinvest the proceeds from the sale of property held for investment or business purposes into another investment or business property, and defer capital gains tax that would otherwise be due on the initial sale.

Adjusted Basis The original basis plus any improvement costs minus the full depreciation on the property.

Agreement for Transfer Purchase agreement, offer and acceptance, sale agreement, earnest money agreement, real estate contract or other contract contemplating the purchase or sale of real property.

Boot This is the property the taxpayer receives in the exchange which does not qualify as “like kind" property. Cash proceeds are the most common form of boot and a boot is subject to taxation.

Capital Gain The capital gain is calculated as follows: total selling price of the relinquished property, less exchange expenses, less the relinquished property’s adjusted basis. The adjusted basis is the original cost, plus the cost of capital improvements, less depreciation or cost recovery deductions. Capital gains may be subject to depreciation recapture and other rules of the IRS.

Construction Section 1031 Exchange You may even purchase replacement property that is not yet built, provided that the improvements on the property are completed prior to the expiration of the 180 days (which can be very difficult). In a Construction Section 1031 Exchange, the property is held by a specially formed Single Purpose Entity called the EAT "Exchange Accommodation Titleholder". A Construction Exchange generally has greater complexity and fees than a Section 1031 Exchange.

Constructive Receipt This is a term that refers to the Section 1031 Exchangor having unrestricted control of the equity from the property sold and a Constructive Receipt will invalidate a tax deferred Section 1031 exchange.

Contract Section 1031 Exchange A "Contract Exchange" is the tax‐deferred exchange of: The Buyer’s ownership in a Sales Contract on real property, for different real property, or for a contract or option on different real property; or the Option Holder’s exchange of an Option to purchase real property, for different real property, or for an option or contract on different real property. Essentially, a "contract exchange" is a Section 1031 exchange of an open option to purchase, or an open Sales Contract, rather than a Section 1031 exchange of the underlying real estate itself.

Cooperation Clause

A clause that is added to the purchase on sales agreement requiring the person who is not the Exchangor to use

their best efforts to assist the Exchangor in consummating a Section 1031 tax deferred exchange.

Exchange Accommodation Titleholder The Exchange Accommodation Titleholder "EAT" is a specially formed LLC used during a Construction Exchange or a Reverse Exchange.


Exchangor The actual owner of the investment property looking to make a tax deferred exchange. Unfortunately an Exchangor cannot be an owner that wishes to defer capital gains tax on a second home. See "like kind" property definition.

Exchange Funds Account a.k.a. the Qualified Escrow Account The account established by the qualified intermediary (QI) to hold the exchange funds.

Exchange Period A 180 day window in which the Exchangor has to complete a tax deferred exchange. During the Exchange Period there is a 45 day Identification Period in which the Exchangor must identify which property or properties that will be purchased. Both time periods begin on the day of the sale of the Relinquished Property.

The Fair Market Value This is likely selling price as defined by the market at a specific point in time.

Forward Delayed Exchange A type of exchange which occurs when a property is sold "Relinquished Property" and another property is purchased "Replacement Property" within 180 days following the sale of the Relinquished Property.

Identification Period The time period that begins upon the "close of escrow" of the Relinquished Property. During this 45‐day period, the Section 1031 Exchangor must identify the Replacement Property in order to continue with the Section 1031 exchange transaction.

Identification Letter An Identification Letter form is used to identify potential Replacement property or properties.

IRS Section 1031 Tax Code Internal revenue code section 1031.

"Like‐Kind" Property The properties involved in a tax deferred exchange must be similar in nature or characteristics. "Like kind" real estate property is basically any real estate that is NOT your personal residence or NOT a second home.

The Napkin Rule You must buy a Replacement Property of equal or greater value to the Relinquished Property in order to completely defer the applicable capital gains tax. If you purchase a property of lesser value, you will be responsible for any tax on the difference. You must use all the cash proceeds from the sale on your purchase in order to completely defer the applicable capital gains tax. If you don’t use all your proceeds on the purchase, you will be responsible for any tax on the difference.

Original Basis This is the purchase price of a property and it is used to calculate capital gains or losses for tax purposes. Personal Property Any property belonging to the Section 1031 Exchangor that is non real estate related.

Qualified Escrow Account The account established by the qualified intermediary (QI) to hold the exchange funds.


Qualified Intermediary The Intermediary is also known as, QI, Accommodator, Facilitator and Qualified Escrow Holder. A third party that helps to facilitate the exchange and holds funds in escrow.

Real Estate Exchange A type of Exchange of real property for real property. All types of real property are "like kind" for other real property, including vacant land, residential, commercial, and even some long term leases.

Relinquished Property The original property being sold by the taxpayer when executing a Section 1031 exchange.

Replacement Property Is the new property being acquired by the taxpayer when executing a Section 1031 exchange.

Reverse Exchanges This is the type of exchange in which the Replacement Property is purchased before the sale of the Relinquished Property.

Rules of Identification The guidelines that must be followed when making a Section 1031 tax deferred exchange, such as the 3 Property Rule, 200% Rule, and 95% Rule.

Settlement Agent Definitions include: Title agent, closing officer, escrow officer, settlement officer, closing agent, closing attorney, settlement attorney.

Tax Deferred Exchange The procedure outlined under IRS Code Section 1031 involving a series of rules and regulations that must be met in order to take full advantage of deferring capital gains tax on the sale of investment real estate. Section 1031 tax‐deferred exchanges are also commonly known as: Starker exchanges, delayed exchanges, like‐kind exchanges, 1031 exchanges, Section 1031 exchanges, tax‐free exchanges, nontaxable exchanges, real estate exchanges, real property exchanges. Though all of these terms refer to the same thing, the most typical term used today is the Section 1031 Exchange.

Tenancy In Common (TIC) A fractional or partial ownership interest in a piece of property, rather than owning the entire piece of property.

Three Property Rule The Exchangor may identify up to 3 properties, without regard to their value.

The 200% Rule The Section 1031 Exchangor may identify more than three properties, provided their combined fair market value does not exceed 200% of value of the Relinquished Property.

The 95% Percent Rule The Section 1031 Exchangor may identify any number of properties, without regard to their value, provided the Exchangor acquires 95% of the fair market value of the properties identified.

3 hr. workbook - s1031 for professionals

Education

beginsonpage section

power of section

real estate professionals

solid understanding

real property

nearlyedmund wheeler

hypothetical examples

course outline