V. HOW CAN AN ASTUTE INVESTMENT PROPERTY OWNER USE SECTION 1031 IN PRE-RETIREMENT PLANNING?

With a little pre-planning, the knowledgeable investment property owner anticipating retirement can utilize Section 1031 to acquire a retirement or vacation home in a tax-free exchange, due to the change in use concept which is approved by the IRS. The basic rule is of course that the real estate acquired in an Exchange must be acquired with the intent to own the property as investment property (a single- family residence which is rented out, for example ), but the real estate does not have to be held as investment property forever. The investment property owner, therefore, can "sell" his investment real estate and exchange into a property that he would like to retire to, so long as he rents out the new property for a period of at least two years. The IRS has conceded that an Exchangor can, after two years, change the use of (i.e., move into) the replacement property acquired in an Exchange without in any way jeopardizing the non- recognition of gain in the underlying transaction, so long as the original intent was to hold the property for investment. The Exchangor can decide, after two years, to live in the replacement property and effectively convert investment property into primary residence property, tax-free. And when the Exchangor does retire and move into the replacement property, he or she can typically then take advantage of I.R.C. Section 121 and sell the former principal residence also free of capital gains taxes (up to $250,000 of tax-free gain for an individual and up to $500,000 of tax-free gain for a married couple), with no requirement to reinvest the proceeds.

VI. WHAT HAPPENS IN A "TYPICAL" SEC. 1031 EXCHANGE?

1. An owner (" A ") of investment real estate desires to sell and to buy new investment property, perhaps in another location, perhaps due to management issues, or perhaps as a pre-retirement strategy. A finds a buyer ("B") and signs a normal P&S agreement with B for the sale.

2. After signing the P&S, but before closing, A starts thinking about the impact that capital gains taxes will have on his plans for reinvestment of his sale proceeds.

A or his professional advisor contacts our firm to structure his exchange and to act as Qualified Intermediary ("QI") and Escrowee.

3. Before the closing, A enters into an Exchange Agreement with our firm as the QI to facilitate the exchange. A also assigns to the QI his rights under the P&S agreement.

4. At the closing, A directly deeds his real estate to B, and the sale proceeds are paid over to the QI to be placed safely in an interest-bearing escrow account in an FDIC- regulated national bank..

5. Within 45 days of the date of the closing, A identifies in writing the property he intends to purchase as replacement property. A need not have a signed P&S agreement yet, and A need not buy all of the properties on his identification list, but the replacement property must be one that was "identified".

6. A enters into a normal P&S agreement with the owner ("C") of the property he desires to acquire as replacement property. Usually, A will be "trading up" in value (which is a requirement if A desires the exchange to be completely non-taxable), so at this time A will obtain a commitment for traditional financing, and/or will set aside personal (non-exchange) funds to allow for completion of the purchase.

7. Within 180 days, A closes on the new (replacement) property. C deeds directly to A, and the QI "buys" the new property for A by producing and paying over to the closing agent all of the money in the Exchange Escrow Account. A adds to these funds as necessary with new financing or with other funds.

8. The exchange is complete. A's accountant files IRS form 8824 with A's income tax return for the year in which A's sale occurred. Each taxpayer's situation varies, of course, but even for sales in the $100,000 to $200,000 range it is not uncommon for an Exchangor to save tens of thousands of dollars of capital gains taxes.