What You Need to Know to Avoid Capital Gains Tax in a Real Estate Deal

[Music] you're listening to the real well show with Kathy fety the Real Estate Investors [Music] resource some Real Estate Investors say they will never sell their property they say it's Buy and Hold for a reason but what if the properties you own have doubled or tripled in value and the rents aren't anywhere close to the value of the property in other words would you buy the property today at the current price point and the rent that it brings in for many people the answer is no and that means they may be sitting on a whole lot of dead Equity today we're going to talk about how you can bring that Equity back to life through a 1031 exchange I'm Kathy fety and welcome to the real well show and who better to join us today than an expert on 1031 Jeff beamus who owns 1031 Specialists Jeff work for ernston young as a CPA before turning his career toward finance and attaining his CFA designation in 206 Jeff joined Rimrock Capital Management a california-based hedge fund with $4 billion dollar under management he led the less liquid and alternative Capital strategies at Rimrock during his 15 years as portfolio manager which included billions of dollars of investment in commercial real estate but Jeff left Rimrock and took all his experience with him to to start his own 1031 exchange company and what he says is a tech forward Education First customer Centric way to be different and he's here with us today on the real well show Jeff welcome it's pleasure to be here so tell me a little bit about how you see investors being able to save a lot in taxes through the 1031 exchange uh yeah no it' be my pleasure uh you know it's you know I work with a firm called 1031 Specialists we help investors who are selling investment properties uh defer taxes you know lots of folks these days have a lot of capital gains embedded in the properties that they own and for various reasons which we can talk about if you like uh are deciding to make a change they want to swap into something different or a different type of piece of real estate or geography or otherwise and all those embedded gains depreciation recapture you know amongst other taxes state taxes uh can all be deferred through a 1031 exchange so we help facilitate that on behalf of clients so I I know a lot of our listeners already know about 1031 exchanges but for anyone who's new to this it's it's actually the way that I got started in real estate was through a 1031 so it's near and dear to my heart uh but there are a lot of people don't realize that you can sell a property that's doubled or tripled in value and as long as you buy other property within 40 you identify within 45 days and close within 180 right correct correct you got it right then it just kind of counts as the same property in the eyes of the IRS so um you're you're just deferring that but what happens if you just keep deferring but then someday you pass away well that's you know I don't know if it's the beauty because we're talking about when you pass away but um you know one of the things that's that's a real opportunity inside of this is you defer taxes let's say you buy a property for half a million dollars in a hypothetical example and it and it grows and grows through time and it and you accumulate uh you know various properties probably build up your portfolio and you have several million maybe by the time you uh pass away um you can uh ultimately your errors will step up their basis through um when they inherit the properties and you know you'll never pay a diamond tax on any of that embedded gains so it ends up being this we sort of use the coin of the terms you swap till you drop and then ultimately it sets up your family uh for a foundation for their own success and hopefully can continue on and and and and the like you know obviously there's a pretty large um inheritance tax um you know uh exemption meaning you can defer you know as a married couple up to you know roughly 26 million so you know it would take a really large portfolio for to not have it step up for your kids and and yeah or or whoever your heirs might be so yeah it's a really powerful tool I mean it's been around for a very long time and and uh many many many folks have used it to uh build up a great nest egg and um a powerful passive way to make money yeah so again if you bought the property for 500,000 by the time you die um it's worth 2 million that would be a $1.5 million gain that you would pay capital gains on but your if your kids inherit that property then the property value is stepped up again I'm just explaining to people sorry maybe I should do more rudimentary terms my apology Kathy no I'm just I just figure most of our experienced investors already know this so I'm speaking to the new investor who may not realize that that step up means that once you pass away the value of that property is now what market value is which would be let's say 2 million and so there is no gain if your children decide to sell that property after you die there's no tax because there's no gain that property is now the basis of it is the 2 million instead of the 500,000 correct so it is it is kind of incredible and probably one of the reasons why uh there's been so much push back about the 1031 and threats to take it away and like this is not fair so where are we now I know um currently the Biden Administration has been talking about reworking the 1030 1 is there any momentum there no and and folks we talk to in the industry say we're probably in the best place we've been in quite a long time I mean it does come up and you know to be fair so 1031 exchanges used to apply to uh equipment heavy equipment and a bunch of other asset classes airplanes and other things and a lot of that got removed in 2017 um under Trump and so uh it got changed materially the amount of things that fall under this but as far as properties go goes it's been around for a hundred years the the folks I talk to who are actively in discussions it certainly comes up it's certainly a talking point people like to talk about it just because people have accumulated so much wealth inside of it but it's in a really comfortable place with people that I know that are far more connected than I am that it would be a big big surprise if anything like this changed but you never know in Washington so I won't I won't say definitively and I I I don't know if that can be relied upon but that's what I'm hearing yeah you know you never know if the tax law is going to change so by by the time we all pass away it may not step up to market value we don't know but that's currently how it is so it's important to understand that if you have elderly parents or grandparents who want you to have their property they should not give it to you before they die because you're basically taking on that tax right you you have to wait until after it should be in the trust that it comes to you then you get that step up and then you don't have to pay those taxes I certainly there there are ways you can you can work with your CPA if if there were some particular reason just to let your listeners know you could uh facilitate and use some of your gift tax exemption in advance if you so wanted to but absolutely you know the you know taking advantage of the step up and basis to where you inherit the property at the then market value and if you wanted to sell it or otherwise you could do so without incurring any tax and take the full cash out that's absolutely an opportunity um you know lots of folks are um um you know folks who've inherited things maybe a handful of years ago just to sort of take a little step forward of people who are using 1031 you know folks who had Parents uh pass away and this has happened a lot in the last I don't know half a decade where the inheriting land or Legacy positions that the family of owned that have really gone up in value as you know really interesting new projects come to Bear you that would be an example of folks who are taking advantage say they have land in the family that a developer can use and you know that hey we'd love to get a yield on that and create more of an income stream you know 1031 if you have new gain that that occurred since you inherited it is a great way for you to defer all that tax and get you know effectively buy more property than you would be able to otherwise so as an example yeah we have such a great story on that where one of our real wealth members inherited a a property in San Francisco that was really in bad shape in such bad shape they weren't comfortable renting it so they were just sitting on it but in the couple of years that they sat on it it went up in value so much but it was just sitting there vacant uh she the wife heard me on the radio I was on KSFO at the time and thought well what do I have to lose um she ended up putting that that property on the market for 1.5 million and that's what she got for it I think when she inherited it it was around 800 so you know another big gain there um but instead we helped them 1031 into about 20 rental properties around the country and within you know six months time time from the time that they put it on the market and we help them that's kind of our strength at real wealth is how do you find 20 properties that's that's what we do we can help you yeah no I mean that that example comes up a reasonable amount you know and especially as as markets like Montana and Idaho and Utah and and and you know areas that are more tertiary to sort of core locations that are um that are going on folks have a lot of property out there that um this is a great tool they should at least be exploring you know an opport for themselves for sure yeah absolutely I mean in this case they were retired in six months because of all the income just from that one exchange incredible I love that yeah so there's arguments that again um this only benefits wealthy people but um but on the flip side the argument is actually it benefits renters it it it benefits people who um who would otherwise be sitting in dilapidated properties so let's let's talk about that like in this particular their case she sold the property that she didn't have the money to fix someone else bought that property in San Francisco and did have the money to fix it so now that property's back on the market but yeah what's the argument for how a 1031 exchange and this whole tax break that we get actually contributes to society yeah you know I it's a great question Kathy I'm happy to take it on that you know there's been some analysis part of the reason the 1031 you know the view is that it's not going to shift um from the property side is it is facilitating a very large component of the of the economy and what it's doing is it's facilitating folks to come into areas that they wouldn't otherwise come into it's facilitating folks to liquidate property they might otherwise not liquidate it's also generating a ton of job growth in and around those efforts and then from a I'll call it from a holistic perspective it creates incentives for for investors to you know be inside of property and sort of build them up from an investment perspective and so you know 1031 cater to long-term holds this isn't for fix and flips this isn't for develop a sort of a home builder whose business is Building Product selling right away this is for the investment community and it creates dollars just like you know you have Economic Development zones you have all these like areas that we try and create some incentives this really does create create a framework for Capital to go into what is such a core part of you know living standards in the United States so you know taking a step back it's absolutely supportive of all the things that I think a lot of us want to stand for in this country of like how do we create a living environments for folks and the like and it definitely does that and creates a lot of economic economic activity in that that wouldn't otherwise exist so let's talk about the rules of the 1031 let's again say you bought the $100,000 house in San Francisco it's worth 2 million now you're not getting very much rent on it or there's just issues around the area you don't you don't want to deal with uh what do you do how does it work okay and let's say you have a loan on it let's say that there's still a loan on that property right and I mean the rules while it can be a little intimidating in truth if you do some planning just as a precursor to this it's a very reasonable comfortable process and and and to the extent that there are pieces that you're uncomfortable with working with folks you know like you Kathy or others um who can you know help help advise you on the ways to set yourself up for Success it really is um pretty a pretty straightforward and I'm not going to say easy to execute but you know very comfortable to execute your goals inside of so if you want to do a 1031 exchange first thing you you own property let's say you have a million dollar property just because keep the math easy and you have h500 ,000 loan and $500,000 of equity in this property on a market value and you have uh you know you bought the property a few you know many years ago for $100,000 so you have $900,000 in gain I mean the the amount of gain that you know my mother for example has in some of her portfolio is is is is very large you know she's been a California you know person her whole life and you know just the the years and and the economic sort of back back all you have to do is grow old to become rich inali maybe so maybe so so uh so um with that scenario you have a half a million dollars in debt you have a million dollar property first things first is to understand what are you trying to accomplish and go reach out to folks in and around that so I let's say I have a million dollar property that's land because I think it's a it's a classic example that we see or it's a property like a single family rental that you manage yourself and you don't want to do that anymore you want to go to where something maybe more professionally managed third party that's also a very common example amongst others so what you do is you reach out to 1031 Specialist or anyone else who's a qualified intermediary and then you'd also be dealing with a likely a real estate broker right on your team who's helping you think about marketing the property and any other advisors you might want to have um in and around your transaction just okay how do I sell it for a great price and and then if your view is I want to own other property that you let say accomplishes more of a yield profile versus this land example you'll want to be in advance thinking about how am I going to get this replacement property because in a 1031 exchange that's true that we're doing we're going to sell your my own property and we're going to buy another property or multiple properties and so why are you reaching out to a we are what's called a qualified intermediary why are you reaching out to a qualified intermediary is because the IRS requires it if you want to accomplish a 1031 exchange there's no you can't you can't touch the money you cannot can't touch the money yeah it can't if it goes in your bank account you messed up yes that's exactly right so what what do we do as a qualified intermediary we we we help advise clients and and as far as giving them sort of here's what to look out for here's the issue spotting here's what you should be doing to set yourself up for Success here's what we're going to do you know we establish all the documentation that'll be required you will engage a qualified intermediary when you sell your property the money from that property will go to the qualified intermediary subject to documentation that you set up and the qualified intermediary will hold that money obviously you'll want to investigate that your qualified intermediary is using bestin class sort of practices on how they hold the money how who has access where does it go yeah make sure they're not investing it in Bitcoin yeah in fact we're doing quite the opposite we're setting up a qualified escro account and your name you can look at at it you can understand that it's sitting there we can't move it unless you authorize it so like you definitely should ask that question because it's not required to do it that way as as a quick note okay yeah ask where where you putting my money yeah question you put the money and how do I know that it's safe and it's an important question um and so we will hold the money and then you have there's two main big timelines to that matter once you what quotequote transfer the property which is generally your buy and large is that closing of your first property you now have a clock that starts um again this is all mandated by title 26 section 1031 that's why it's called this of the tax code you sell uh you'll need to do two things you'll have to complete this whole thing within 180 days which is generally a pretty comfortable timeline but the first deadline so you sell your property the money comes to the qualified intermediary you will need to identif ify replacement properties within 45 days and so that is the first major step it's an important step it's a step that um why we say planning is important and so how we work with clients is we'll consult with our clients as far in advance as you'd like and we're happy to do that and and we love it when clients are doing that because they're set up for success and that's ultimately our goal is to see our clients accomplish what they're trying to do which is defer taxes and get into what they want so in 45 days you identify generally people use identify three properties but there's a couple other ways you can identify replacement properties as far as how many and to what value but you'll need to buy replacement property of the same market value and it could be multiple properties and you'll have to have the same amount of debt if you don't do that all are part of your transaction may be subject to to tax effectively um so yeah yeah so if you do any of these things wrong you're paying the tax so you don't put the money tax on the transaction that's exactly yeah that's that's like the worst thing that's going to happen and maybe guessing some penalties but if you no real penalties it's it's just they just disregard that you're doing a 1031 right so it's just you know you're going to pay the piper is basically okay okay so yeah you need the qualified inter intermediary to take your take the funds and hold them safely you need to identify the properties you're going to exchange into that you're going to buy as replacement within that 45 days you have to close on those properties in 180 days um so those are those are the big things but if you have a loan you have to get the same amount of loan on like you have to that transfers over so if you had a $500,000 loan on that property you have to be able to get another $500,000 loan on one of the properties or spread out among them and people forget that you can get a larger loan right so you could yes you could Finance all all three of those um to the to the hilt right to to be able to buy invest your Equity though too so you would have to you can buy more property right to your point you just need to um be able to buy the you have to buy at least the same amount right and you can bring new money to the transaction if you so desire everything goes in so all the equity the debt but you can get more debt so you could buy more um if you if you want your Equity back then you need to consider a you know a um what am I trying to say opportunity Zone opportunity Zone you can you can get some of your equity back but that's a whole different whole different discussion yes def whole different discussion okay so um what we've seen mistakes in the past uh real wealth investors calling us frantically is either they put their you know they identified properties but then weren't able to close on those properties for whatever reason either they couldn't qualify for that loan that they needed to get so keep that in mind if you quit your job you may not qualify for the loan that you qualified for or the interest rate is higher and it just doesn't work so just know that you better have all that lined up right sure we we've seen that but it could be any loan so in this case this particular woman was like ah I don't qualify so she went to friends and family and they gave her a loan sure um so you can do that right it doesn't have to be a bank of course yeah absolutely and you know I would say you know it's it's it's very situational this is where the planning can be very advantageous like you know how comfortable are you that you will be able to attain the loan how you know if it's something that is I'll call it like you know on the edge meaning it may it there may be circumstances that make it to where it's difficult to qualify Al loan you may want to introduce there are investment property products opportunities to be a part of a Consortium of investors into other products such as tix and D dsts that you may want to add to your list that are an option that you might like um to the extent that you aren't sure you can close in the planning phase you can in your identification you can find other things that will be available and will satisfy what you like to do it also depends how much gain you have if you don't have if you have hardly any gain maybe you just decide it's not worth it if you don't find the properties you want and that's okay and then you just you know pay the tax which is fine um if you have a a very large amount of tax and you know I I I'm a CPA by background and and you know my one of my mentors always said don't let don't let tax Wag the Dog on investment decisions but the reality is is there's great stable interesting products and I'm sure Kathy you can help help folks identify who to be speaking with or where to look for those that will work in the identification process that okay my backup plan is you know X even though I want to close on one of these handful over here that I've identified I think that's a great strategy um and there's things that you can do that work in a quick timeline that you can be happy with but you don't want to do that last minute because there is diligence you're going to want to do on that that on those opportunities so that they fit what you're trying to accomplish the liquidity profile works for you amongst and the you know the the risk profile of those Investments makes sense for what you're trying to do yeah bottom line you need a backup plan and a DST is a great thing to uh put on the identification in case you know let's say you want these two properties but you have to identify three identify the DST you don't have to close on it um you just have to identify a list of properties you plan to buy and and if you don't buy them all that's okay but if you can't close on some you've got to backup and so that's a big issue I've seen where people didn't do the backup and they um identified a new property that wasn't finished on time and even though it was almost finished it didn't have the co uh and so you know certificate of occupancy and you can't do it so that that is terrifying you know so just make sure that you've got the backup that it otherwise again it's not it's only terrify to the point that you're just going to have to write the tax check totally and and in the end it's not it's not the end of the world but there's such an opportunity I mean the amount the amount of money and we and we we show this on our website if if folks want to go there how compounding adds up uh meaning if you have investment properties you hold them for a period of time you sell them you pay tax you know and then allow stocks buy more buy different properties do it and then versus deferring all the tax it's astounding how much that adds up through time and you know when you get two decades in you will own so much more property that the yield that you're achieving out of that does make it extremely worth it if you have a very low basis IE you're you have a lot of gains on property that you're selling so it's just worth it's it's worth it you know it's sort of the short of it so your company will be U representing pres ing you at our upcoming live event on May 4th in the uh San Francisco Bay area you can check that out at real wealth show.com we have six different property teams coming and experts like you guys to um help people on their journey to create more passive income and more passive income often can come through the process of 1031 exchanges taking that equity and reworking it without paying capital gain love it love it wow I I appre appreciate the time Kathy and uh you know we look forward to to answering questions and meeting any of the folks who want to find out more or learn more and and um you know we sort of pride ourselves on being an education consultative sort of Client First organization that's the whole premise of of of starting this firm was to do that so you know we welcome anybody who wants to learn more and is considering uh this opportunity or option and and how we can help them so we appreciate um you inviting us on all right Jeff well thank you for joining me here on the real well show and thank you all as well I hope to see you at our upcoming live event again that's May 4th in South San Francisco at the convention center uh it's going to be just packed full as our events always are with lots and lots of education and information and options for you poor San Francisco Bay Area folks who can't don't even know what cash flow means because it doesn't exist all right take care everyone thanks for joining me here on the real wellth show we'll see you next time [Music] the views and opinions expressed in this podcast are provided for informational purposes only and should not be construed as an offer to buy or sell any Securities or to make or consider any investment or course of action for more information go to real wellsh show.com

Channel: RealWealth

Views: 279

Keywords: 1031specialists, realwealth, real wealth show, kathy fettke, kathy fettke real wealth show, avoid capital gains tax, buy and hold strategy, benefits of 1031 exchange, real estate investing, single family rentals, multi-family rentals, swap til you drop real estate, build a real estate portfolio, real estate investing education, investor summit

Id: D9mJuoOp9yY

Length: 26min 21sec (1581 seconds)

Published: Fri Apr 19 2024