October 25, 2004
Conducting a "like-kind" exchange under Internal Revenue Code section 1031 is one of the few legitimate tax shelters available to individuals, corporations and other business entities engaging in the disposition of assets. This 1031 exchange, also known as a Starker or tax-deferred exchange, permits investment property owners to sell a property and defer tax payments by reinvesting the proceeds of the sale into "like-kind" properties. Simply put, this tax-deferred exchange is an allowable method whereby a property owner trades one or more relinquished properties for one or more replacement properties of "like-kind", while deferring the payment of federal income taxes and some state taxes on the transaction. However, Section 1031 of the Internal Revenue Code provides in part that no gain or loss shall be recognized on the exchange of property held for productive use in a trade, business, or investment.
Unlike in a typical sale transaction, where the property owner is taxed on any gain realized from the sale, in a 1031 Exchange, the tax on the gain is deferred to the future. This supports the theory that when a property owner has reinvested sale proceeds into another property, the economic gain has not been realized in a way that generates funds to pay taxes. Therefore, it would be unfair to force the taxpayer to pay tax on a "paper" gain.
Clearly, the ability to realize appreciation on property, reinvest the appreciation, and defer capital gains, depreciation and taxes to a later date is advantageous to a property owner. If carefully followed...
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by: Julie A. Dialessi-Lafley, Esq.