Real estate investors often use like-kind exchanges to avoid tax on a property disposition. You might sell one property, let an unrelated intermediary hold the money from the sale, and then instruct that intermediary to buy a replacement property. If done correctly, you’ll avoid tax on the sale of your original property.
In order to defer tax, you must follow these rules:
* After the sale, you have to identify possible replacement properties. Send a letter to the intermediary within 45 days of the sale.
* You can name up to three properties as potential replacements. If you name more than three, their total value must be no more than twice the value of the property you sold.
* You must buy one or more of the named replacement properties within 180 days of the sale of your original property. Get a filing extension for your tax return if that’s necessary to get the full 180 days.
If you follow this timetable, the tax on your property sale can be deferred. For total tax deferral, you must wind up the exchange without receiving any cash or any reduction in debt. That is, you must pay at least as much for your new property as you received for the original property and you must invest any cash you receive from selling your old property into the new one.