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1031 Exchange for dummies: An easy-to-understand guide

REAL ESTATE | 26 Oct | AZ BIG MEDIA

Real estate investors are flocking to Arizona to purchase properties. There are plenty of opportunities to invest in this market, and Phoenix was named the top market for real estate investors in 2019.

You want to take advantage of that market, but what are your options when you’re ready to cash out? You can leverage a 1031 exchange.

Do you want to know what a 1031 exchange is and how it can help you keep your profits?

Read this 1031 exchange for dummies guide to find out.

What is a 1031 Exchange?

One of the first things you learn as a real estate investor is that you want to make as much profit and minimize your tax liabilities as much as possible.

When you invest in a real estate property, you can earn income from rent, or flip a property. When you’re ready to sell, you list the property for more than you paid for it.

That’s your profit or capital gains. The IRS will take a percentage of those capital gains when tax time arrives. The amount you owe will depend on how much you made in capital gains.

Capital gains can apply to other types of investments, too. Profits from stocks, mutual funds, and commodities trading are all considered capital gains.

In real estate investing, there is a way to defer the taxes paid on capital gains. That’s called a 1031 exchange. It’s named after the section of the IRS code that refers to this deferment. Can you guess what section that is? If you guessed section 1031, you’re correct.

1031 Exchange for Dummies

A 1031 exchange is actually pretty complex. There are a lot of rules and deadlines that you need to know about in order to qualify for a 1031 exchange tax deferment.

The first thing you need to know is what type of transaction qualifies. You can defer taxes for what the IRS considers to be “like-kind” exchanges. That applies to investment or business properties that you swap for other properties.

There is a lot of leeway as to what the IRS considers like-kind. You can sell a duplex and purchase a small apartment building. The property has to be used for business or investment purposes. Residential properties do not qualify.

Investors who flip residential homes are unable to reap the benefits of deferred taxes. That’s because the IRS code specifies that properties held for sale do not qualify, which applies to house flipping.

A property that has an investment or business purpose, such as collecting rent or using a property to be a warehouse, does qualify for 1031.

With a 1031 exchange, you’re essentially rolling your proceeds from the sale into your new investment property.

If you’re not sure a 1031 exchange is right for you, you should consider alternative to 1031 exchange.

Don’t Mistake What Deferred Taxes Means

As a beginner investor, you probably think that a 1031 exchange is a good deal. You don’t have to pay capital gains taxes and get a new property in the process.

Your taxes aren’t deferred indefinitely. You will have to pay capital gains taxes if you sell your new property and keep the proceeds instead of getting another property.

If you choose to keep your replacement property and you get income from that property, it makes sense to keep it and continue to defer the taxes.

Hire a Qualified Intermediary

You can’t do a 1031 exchange on your own. You need someone who can guide you through the process of the exchange. You also need someone to hold onto your funds while you’re buying a new property.

That’s what a qualified intermediary does. They are kind of like escrow officers. When you sell the first property, the money goes right to the qualified intermediary. You don’t see nor touch the funds.

That’s because when you handle the proceeds of the sale, that counts as income. You’ll be responsible to pay taxes on that sale.

You are required by law in most cases to have a qualified intermediary.

Know the Deadlines

There’s a tricky dance that revolves around 1031 exchanges. There are a number of deadlines that you need to know and abide by. If you miss a deadline by a minute, your 1031 exchange is terminated, and you have to pay capital gains taxes.

You need to get to work as soon as you sell your property. You have 45 calendar days (not business days) to find a new property. You could also decide to have several replacement properties instead of one.

You have to identify your new property and provide written intent to the IRS. You need to give specifics of the new property, such as a legal description of the property.

Now that you have one or more properties identified, you have 180 calendar days from the close of the sale of your former property to complete the purchase of the new property.

Use 1031 Exchanges

The difference between successful and struggling investors is that successful investors know all of the financial tools available to them. Successful real estate investors use 1031 exchanges to defer capital gains taxes while investing in another and potentially more profitable property.

For beginning investors, this 1031 exchange for dummies guide is meant to give you a basic overview. You know what kind of options you have available to defer your taxes and limit your tax liability.

When you’re dealing with profits of $10,000 or more, that can turn into major savings. It also improves your profitability.

Do you want more great real estate tips? Come back to this website often to find out the latest happenings in the real estate market.

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Are we headed for another housing crash?

Written by Russell Shaw RealtyOne Group copyright 2019

Supply Tightens

In our last paper we discussed demand and its strong rebound (up 8%) from 2018. But we didn’t expound upon the supply side of the story. We will now attempt to remedy that. While demand is more elastic (and therefore perhaps the sexier story) supply might actually be the buried headline.

The valley has been chronically low in supply for so long that it has become somewhat normalized – but it isn’t normal. As of the writing of this article, residential properties actively for sale are at 17,460 (and only 13,241 without offers). To put that in perspective, average supply would be just under 30,000. While we have certainly seen more extreme past markets such as in 2005 (8,342 active) this low supply is putting tremendous pressure on buyers trying to find properties. It isn’t just the increased demand that is causing the issue – it is also the dearth of sellers coming to market. June 2019 was the second lowest new listings to market for a June since the Cromford Report began tracking it in 2001. July 2019 was the lowest July recorded for new listings. August, the second lowest August. To quote Michael Orr of the Cromford Report:

What is unusual is that supply is 43% below normal. We have had supply below normal ever since May 2011. But the weak flow of new listings has exacerbated the situation.

Does this mean prices are skyrocketing? Perhaps surprisingly to most, the answer is not yet. To understand why Michael Orr further explains:

Pricing is showing no excitement whatsoever, behaving as if the market was normal. This cannot last. Remember that sales pricing is a trailing indicator, often as much as 12 months behind the leading indicators. We expect to see fireworks in pricing over the next 12 months. In fact the current situation reminds us of 2004. The huge imbalance between supply and demand and the absence of distressed properties are very similar.

Now before you scream in fear that if this year resembles 2004, then we are just a year or two away from another housing meltdown, read on:

The big difference is that 2004 was seeing large price increases and a significant number of the homes were being bought for resale by speculative investors and remained empty. The level of mortgage fraud in 2004 was also extraordinary. Hopefully that is not the case in 2019.

These are very interesting times, unlike the past 5 years which were stable and predictable.

Interesting indeed. In fact this year began headed towards a balanced market and has now evolved in to one of the best seller markets in 13 years. But no market lasts forever. Supply and demand are constantly in flux.

What affects demand? The factors are interest rates, affordability, inbound relocation, income/employment, lending practices (i.e. strict vs. easy), population growth, consumer sentiment. It is noteworthy that the millennials have overtaken baby boomers as the largest US adult population.

What affects supply? New builds, equity (positive and negative equity), foreclosures, outbound relocation, personal events (divorce, illness, tragedy, job loss), conversion to rentals or Airbnb, homeowner tenure, consumer sentiment.

How the factors affecting supply and demand will play out is anyone’s guess. We do expect demand to cool in the last quarter as part of our normal seasonal patterns. This should stabilize supply until we arrive at our next spring buying season in February. Pricing of course, will respond to these two factors and affect them as Michael Orr points out:

Once prices have increased sufficiently then we can expect a cooling of demand will follow and the market will start to move towards balance again. No market can stay unbalanced indefinitely.

As always, we will keep you posted as the future unfolds.

Russell & Wendy Shaw

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4 Things NOT to Do When Putting Your Home on the Market

Posted on RIS Media Dec 29 2016 – 10:27am by Zoe Eisenberg
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So you’ve decided to put your home on the market. Congratulations! Hopefully, you’ve brought a rockin’ REALTOR® on board to help you list your spot, and together you’ve done your due diligence on what to ask for. As you start checking things off your to-do list, it’s also important to pay mind of what not to do. Below are a handful of things to get you started.

Don’t over-improve.
As you ready your home for sale, you may realize you will get a great return on your investment if you make a couple of changes. Updating the appliances or replacing that cracked cabinet in the bathroom are all great ideas. However, it’s important not to over-improve, or make improvements that are hyper-specific to your tastes. For example, not everyone wants a pimped out finished basement equipped with a wet bar and lifted stage for their rock and roll buds to jam out on. (Okay, everyone should want that.) What if your buyers are family oriented and want a basement space for their kids to play in? That rock-and-roll room may look to them like a huge project to un-do. Make any needed fixes to your space, but don’t go above and beyond—you may lose money doing so.

Don’t over-decorate.
Over-decorating is just as bad as over-improving. You may love the look of lace and lavender, but your potential buyer may enter your home and cringe. When prepping for sale, neutralize your decorating scheme so it’s more universally palatable.

Don’t hang around.
Your agent calls to let you know they will be bringing buyers by this afternoon. Great! You rally your whole family, Fluffy the dog included, to be waiting at the door with fresh baked cookies and big smiles. Right? Wrong. Buyers want to imagine themselves in your space, not be confronted by you in your space. Trust, it’s awkward for them to go about judging your home while you stand in the corner smiling like a maniac. Get out of the house, take the kids with you, and if you can’t leave for whatever reason, at least go sit in the backyard. (On the other hand, if you’re buying a home and not selling, then making it personal is the way to go, especially when writing your offer letter. Pull those heart strings!)

Don’t take things personally.
Real estate is a business, but buying and selling homes is very, very emotional. However, when selling your homes, try your very best not to take things personally. When a buyer low balls you or says they will need to replace your prized 1970’s vintage shag carpet with something “more modern,” try not to raise your hackles.

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The Case for Apache Junction

SuperMtnHome of the Lost Dutchman trail, Apache Trail Flea Market and now debunked Buckhorn Baths motel, Apache Junction sits at the base of the majestic Superstition Mountains and is the gateway to some of the best hiking, boating and outdoor recreational opportunities within a short driving distance from most Phoenix metropolitan cities.

The image as a metropolis for winter visitors better known as snowbirds, cheap motels and rock shops is beginning to fade. New housing, strip malls and an expanded freeway are giving Apache Junction new life. People living in Apache are privy to affordable housing that comes with beautiful desert scenery and priceless views of the Superstition Mountains that normally are reserved for high end million dollar homes.

Unlike San Tan Valley, Apache Junction has easy freeway access to all points north south east and west making this city an attractive consideration not only for retirees but for first time homeowners.

Since January of 2019, 241 single family homes priced under $250,000 have closed  in Apache Junction. Currently as of this writing 39 are listed for sale. Compare that to Chandler – 18, Tempe – 9, Gilbert – 2, Mesa – 52.

Follow the links to learn more

City of Apache Junction
https://www.ajcity.net/

History of the Buckhorn baths
https://www.mrzip66.com/2017/08/29/buckhorn-baths-mesa/

Superstition Mountains
http://www.americansouthwest.net/arizona/superstition-mountains/

Canyon Lake – fishing, boating, camping
https://www.visitarizona.com/uniquely-az/parks-and-monuments/canyon-lake

Tortilla Flat Arizona – Authentic remnant of an old west town
http://www.tortillaflataz.com/

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What is going on in the East Valley?

Written by: Noel Anderson –  April 9, 2019

I’ll tell you what’s going on, housing sales have exploded in the $250 and under category. Look at Gilbert.  As of this writing, there are only 11 houses (which includes condos, and Town Homes) listed for sale under $250K. If you have been looking in that price range, you know what I’m talking about. I’ve been working with a couple buyers in that price range. When a new listing pops up I’ve shouted, “honey! get your shoes on we gotta go!” Homes are going under contract in 2 days with multiple offers on the table.

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Bring your horses, chickens and pigs!

 

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Newly renovated manufactured home. Like new! Beautiful inside and out. Sits on over an acre of land with pristine views of surrounding mountains. New laminate flooring in kitchen family and living room. Plush upgraded carpet in the bedrooms. Updated fixtures and ceiling fans throughout.. New electric stove, microwave and dishwasher. Kitchen has an enormous walk in pantry and large laundry off the kitchen. Formal living room and separate family room with cozy fireplace. Newly installed roof. Enjoy beautiful mountain views and starry nights on one of two newly built decks, front and back as well as a new porch at the side entry of the home. Bring your horses, chickens, ducks and livestock, and enjoy country living at it’s best.

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State of the Arizona Housing Market 2019

I became an Arizona licensed Real Estate Agent in the fall of 2008. While attending real estate school, the housing market started to dive. I remember sitting in class thinking, “ It can’t go any lower, this has to be the bottom”. Unfortunately it did go lower and by the time I had graduated, received my license and established myself with a Broker, The US housing market experienced the worst housing crash in US history.

Nobody was selling, nobody was buying. Everybody was foreclosing. Arizona was one of the hardest hit areas in the US.

Ten years have now passed. The housing market has mostly recovered. The foreclosure inventory has all but dried up and people are once again Buying and Selling.

As we enter the start of 2019, here is the state of the Arizona Housing market.

Average new list prices are up +5.2% year-over-year. The year-over-year median is up +5.7%.

Total inventory has a month-over-month decrease of -1.2% while year-over-year reflects a decrease of -1.7%.

New inventory is down -12.4% month-over-month, while the year-over-year comparison increased by 1.0%.

In December, the 30 year fixed fell 4.63 percent the lowest point in three months. Mortgage rates have either fallen or remained flat for five consecutive weeks and purchase applicants are responding with an uptick in demand given these lower rates. The combination of a low unemployment and recent downdraft in rates should support home sales heading into the early winter months.

As of today, January first 2019 our economy still remains strong. Arizona unemployment is the lowest it’s been in decades and Arizona is one of the fastest growing states in the US. While we can’t predict what the rest of the year will bring, today’s outlook remains positive. I predict 2019 will be another banner year for real estate.

Average new list prices are up +5.2% year-over-year. The year-over-year median is up +5.7%.

Total inventory has a month-over-month decrease of -1.2% while year-over-year reflects a decrease of -1.7%.

New inventory is down -12.4% month-over-month, while the year-over-year comparison increased by 1.0%.

An increase is forecasted in December for average sales price while a slight decrease is expected in the median sales price.

Short sales dropped -63.0% year-over-year. Lender owned sales dropped -27.4% year-over-year.