In a reverse 1031 exchange, the process begins with the acquisition of the replacement property before the relinquished property is sold. This is the opposite of a traditional deferred exchange, where the relinquished property is sold first. The reverse exchange is often used when a taxpayer needs to secure a replacement property quickly, perhaps due to market conditions or the availability of a desirable property, before they are able to sell their current property.

To facilitate a reverse 1031 exchange, a third-party entity, often referred to as an exchange accommodation titleholder (EAT), is used to “park” the replacement property. This is necessary because the taxpayer cannot hold title to both the relinquished and replacement properties simultaneously and still qualify for the tax deferral benefits under Section 1031. At Deferred.com, we can act as the qualified intermediary and coordinate with an EAT to ensure the transaction is structured correctly.

Here’s how the process typically unfolds:

1. Identification and Acquisition of Replacement Property: The taxpayer identifies the replacement property they wish to acquire. The EAT, often a subsidiary or partner of the qualified intermediary, will purchase and hold the title to the replacement property on behalf of the taxpayer. This is known as “parking” the property.
2. Financing the Purchase: The taxpayer may need to provide the funds for the EAT to purchase the replacement property. This can be done through a loan or other financing arrangements. The EAT holds the property until the taxpayer is ready to sell the relinquished property.
3. Sale of Relinquished Property: The taxpayer then has up to 180 days to sell the relinquished property. During this period, the taxpayer must also identify the relinquished property within 45 days of the EAT acquiring the replacement property.
4. Transfer of Replacement Property: Once the relinquished property is sold, the proceeds are used to purchase the replacement property from the EAT. At this point, the EAT transfers the title of the replacement property to the taxpayer, completing the exchange.

Let’s consider an example to illustrate this process:

Imagine you are an investor who owns a commercial building that you plan to sell. You find a new office building that you want to purchase as a replacement property. However, the seller of the new office building requires a quick closing, and you haven’t yet sold your current building.

You contact us at Deferred.com to facilitate a reverse 1031 exchange. We coordinate with an EAT to purchase and hold the title to the new office building. You provide the necessary funds for this purchase, perhaps through a loan or your own capital.

Within 45 days, you identify your current commercial building as the relinquished property. You then have up to 180 days to sell this building. Once sold, the proceeds are used to purchase the new office building from the EAT, and the title is transferred to you, completing the exchange.

By using a reverse 1031 exchange, you can secure the new property without losing the tax deferral benefits, even though the replacement property is acquired before the relinquished property is sold. At Deferred.com, we ensure that all steps are handled correctly, providing a seamless and cost-effective exchange process.