The Orginial Realty Investing Magazine
One question my exchange clients often ask is when and how they can refinance their replacement property without triggering IRS attention (and potential tax liabilities).
The good news is, that with a bit of pre-planning, you can complete a tax-free #1031 exchange and then refinance immediately afterwards. If done correctly, you can receive those refinancing proceeds tax-free, too. The key to avoiding IRS classification of the proceeds as boot lies in the timing of the refi.
You should begin the refinancing process only after you close escrow on the replacement property. You should also use a separate escrow account and prepare wholly separate closing documents.
Under no circumstances should you roll the refinancing into the deal on the purchase of the replacement property. If you do, the IRS may assert that the loan proceeds are boot, utilizing the step transaction doctrine. To avoid application of this line of thinking, avoid tying the refinance to the exchange in any way, including any written or oral agreements.
If a 1031 exchange is in your future, visit our website to learn more about these powerful tax deferral tools and our qualified intermediary and replacement property locator services.