Question
ARTE's Answer
Yes, a partnership can indeed engage in a 1031 exchange, but there are some nuances to consider. At Deferred.com, we specialize in facilitating these exchanges as a Qualified Intermediary (QI), and we offer a “No Fee Exchange” to help investors save money. Let’s dive into the details and provide an example to illustrate how a partnership can successfully complete a 1031 exchange.
A partnership, like any other taxpaying entity, can defer capital gains taxes by engaging in a like-kind exchange under IRC Section 1031. However, the process can become complex when individual partners have different goals regarding the sale of partnership property. Some partners may want to continue with the partnership and do an exchange, while others might prefer to cash out or conduct their own separate exchanges.
For a partnership to engage in a 1031 exchange, the partnership itself must own the real property. Individual partners do not have an ownership interest in the property that is independently exchangeable; they own partnership interests, which are not considered real property for 1031 purposes. Therefore, if individual partners wish to do their own exchanges, they must first convert their partnership interests into an interest in the real property owned by the partnership.
One common method to achieve this is the “drop and swap” strategy. This involves the partnership distributing the real property to the partners as tenants-in-common (TIC), effectively converting their partnership interests into direct ownership interests in the property. Once this is done, the partners can proceed with their own exchanges or sales.
Here’s an example to illustrate:
- Drop Phase: ABC Partnership distributes the commercial building to the partners as tenants-in-common. Each partner now holds a direct interest in the property. Partner A and Partner B each receive a 40% interest, and Partner C receives a 20% interest.
- Swap Phase: Partner A and Partner B decide to exchange their interests in the commercial building for a new property, a retail center valued at $800,000. They engage Deferred.com as their Qualified Intermediary to facilitate the exchange. Partner C sells their 20% interest for cash and pays the applicable taxes.
- Exchange Completion: Partner A and Partner B successfully complete the 1031 exchange by acquiring the retail center through Deferred.com, deferring their capital gains taxes. Partner C receives cash and exits the investment.
It’s important to note that timing is crucial in these transactions. The “drop” should occur well before the “swap” to avoid IRS scrutiny. The more time that passes between these steps, the better, as it demonstrates that the partners truly owned the property interests before the exchange.
At Deferred.com, we ensure that the exchange process is seamless and compliant with IRS regulations. By using our services, investors can confidently navigate the complexities of partnership exchanges and maximize their tax deferral benefits. If you have any further questions or need assistance with your 1031 exchange, feel free to reach out to us.
Have more questions? Call us at 866-442-1031 or send an email to support@deferred.com to talk with an exchange officer at Deferred.
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