Investors can use 1031 exchanges to defer capital gains tax on real estate investments. There are several types of 1031 exchanges, including the delayed exchange.
What is a Delayed 1031 Exchange?
In a delayed 1031 exchange, the exchanger sells their real estate asset — known as the relinquished property — before acquiring a replacement property. The proceeds from the relinquished property go to a Qualified Intermediary (QI) — someone the property seller chooses to oversee the 1031 exchange process — who then directs that money to purchase the replacement property.
Unlike a simultaneous 1031 exchange where the relinquished property and replacement property must close at the same time, a delayed 1031 exchange gives exchangers:
- 45 days from the time they sell their relinquished property to identify a replacement.
- 180 days from selling their relinquished property to close on their replacement property.
A delayed 1031 exchange differs from a reverse exchange. The delayed “forward” model requires the exchanger to transfer their relinquished property before acquiring a replacement and extends the time between those steps. A reverse 1031 exchange switches the order but bars exchangers from holding both assets simultaneously.
What Are the Advantages of a Delayed 1031 Exchange?
Generally speaking, delayed 1031 exchanges are more straightforward than simultaneous 1031 exchanges. Because the relinquished and replacement properties must close at the same time in a simultaneous exchange, the exchanger must ensure everything occurs in the same precise window. Otherwise, they may experience an incomplete exchange and incur capital gains tax.
With a delayed 1031 exchange, exchangers have more time to complete the sale and acquisition transactions.
More Property Options
Exchangers also typically have more real estate options in a delayed 1031 exchange. In a simultaneous exchange, exchangers are limited to replacement properties owned by parties interested in the exchanger’s relinquished property. A delayed exchange gives the exchanger the freedom to broaden their search for a replacement property.
History of Delayed 1031 Exchange
The 1031 exchange has been around since The Revenue Act of 1921. Initially, exchanges were difficult because they had to be simultaneous. In the late 1970s, the Starker v. the United States court case set a precedent for delayed exchanges.
The Starker family sold timberland to the Crown Zellerbach Company. Instead of taking cash for the sale, the Starkers took a credit with Crown Zellerbach. Over a few years, Crown Zellerbach bought properties on the Starker’s behalf, applying the value to the Starkers’ credit.
The IRS questioned these transactions because the Starkers didn’t account for capital gains on the timberland and the property exchange didn’t coincide with the timberland sale. The case went to court, which ruled in favor of the Starkers. This decision resulted in a tax code change in 1984 that formally recognized delayed exchanges.
Delayed 1031 Exchange Timeline
While the Starker family’s delayed exchange spanned several years, today’s delayed 1031 exchanges are limited to specific time frames. From the date their relinquished property closes, exchangers have 45 days to identify a replacement property and 180 to close on it:
- Day 1: The delayed timeline begins on the date the relinquished property closes.
- Day 2 to 44: The exchanger looks for a replacement property.
- Day 45: The exchanger must identify a replacement property by this deadline.
- Day 46 to 179: The exchanger pursues the acquisition of the replacement property.
- Day 180: The deadline to close on the replacement property occurs 180 days closing on the relinquished property.
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