Reverse 1031 Exchange in Hawaii

What is a Reverse 1031 Exchange?

In my previous post, we talked about Regular 1031 Exchange. However, many of us are not quite familiar with the reverse option of this tax saving tool. A 1031 exchange, also known as a like-kind exchange, is a tax-deferred real estate transaction that allows investors to exchange one property for another without incurring immediate tax liabilities. Reverse exchanges, which can be utilized in Hawaii, are a type of 1031 exchange that allows an investor to purchase a replacement property before selling the old property. This type of exchange is often used when a buyer wants to purchase a property that is in high demand and unlikely to be available when the investor is ready to sell the old property.

Types of Reverse 1031 Exchanges in Hawaii

There are two types of reverse exchanges that can be used in Hawaii: the simultaneous reverse exchange and the delayed reverse exchange. In a simultaneous reverse exchange, the investor must acquire an Exchange Accommodation Titleholder (EAT) to hold title to the replacement property until the old property is sold. The investor then has 45 days to locate a buyer for the old property and then 180 days to complete the entire 1031 exchange. The delayed reverse exchange is slightly different, as the investor does not need to acquire an EAT to hold title to the replacement property. Instead, the investor has 45 days to identify the replacement property and 180 days to complete the exchange. In this scenario, the investor has up to 180 days to locate a buyer for the old property.

Tips for a Successful Reverse 1031 Exchange

Regardless of which type of reverse exchange is used, there are several key points to a successful and timely transaction. First, the investor must ensure that both the old and replacement properties meet the requirements of a 1031 exchange. In addition, both properties must be held for investment or business purposes and the exchange must be completed within the designated 180-day period. It is also important to work with an experienced and knowledgeable real estate attorney or financial advisor who is familiar with 1031 exchanges and can help ensure the transaction is completed in a timely and compliant manner. Finally, the investor should ensure that the exchange agreement is properly documented and that all deadlines are met in order to avoid any tax liabilities.

What’s the Difference Between a 1031 Exchange and a Reverse 1031 Exchange?

Reverse Exchange requires you to buy the replacement property first and then sell the relinquished one. It is more expensive and difficult to understand than a regular exchange. If you are uncertain about finding a replacement property, it is an option. The same time frames apply, in reverse. For example, if you want to buy a property for $800,000, you need to consider how much the relinquished property would sell for. Let’s say you anticipate it to net $500,000 after commission, escrow, fees, mortgages, etc. In a regular exchange, this would be the down payment and you would get a $500,000 mortgage for the difference. In the reverse exchange, however, you have to raise the down payment of $300,000 because the replacement property has not yet sold. You can get the down payment from an equity line of credit or another bank account, but you cannot get one big mortgage on the new property and pay it down with the sale of the relinquished one. The IRS requires that you do not own both properties at the same time, so the exchange company takes title to either the one you are selling or the one you are buying depending on the circumstances. Once the exchange company takes title, you can close on the new property two days later and have 180 days to sell the relinquished property. During this time, you can still collect rent, maintain the property, and pay the mortgage just as an owner would. Once it’s ready to close and the process is in place, the exchange company tells the escrow company to give it to the exchanger, refunding your out-of-pocket deposits. The fee for a reverse exchange starts at $8500, but it could be a drop in the bucket in comparison to the taxes you would have to pay on the gain.

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