What Happens if a Taxpayer Dies During a 1031 Exchange?

Planning is essential in a successful 1031 exchange, but there are some things you just can’t plan for, such as the death of a taxpayer during a 1031 exchange. This is a situation few anticipate or prepare for. So what happens to a 1031 exchange if the taxpayer doing the exchange dies in the middle of the process? In this article, we are going to discuss the appropriate course of action if a taxpayer dies during the course of a 1031 exchange.

Option 1 – Let the 1031 Exchange Fail

Your first option is to let the 1031 exchange fail. In this scenario, you would not move your sales proceeds into a like-kind replacement property. Instead, you would sell the relinquished property, pay the required capital gains taxes, and return the remaining proceeds to the deceased taxpayer’s estate. This is certainly a viable option, but a very tax inefficient one, at that.

Option 2 – Continue the 1031 Exchange

The more tax-efficient option is to continue the exchange on behalf of the deceased. In this scenario, you would roll the net proceeds from the relinquished property into a replacement property of equal or greater value, equity, and debt. This would allow the deceased’s heirs to avoid the capital gains tax bill and keep that money working in a continued investment.

1031 Exchanges in Minnesota

Real estate 1031 exchanges are a great way to keep your money working for you over time by deferring taxes on the sale of real property. However, 1031 exchanges are also highly regulated and you need to meet several requirements in order to complete a successful exchange. That’s where a qualified intermediary comes in. Having a qualified intermediary on your side is the best way to ensure your 1031 exchange is a success. Contact us today at our downtown Minneapolis office to learn more about the 1031 exchange process.

• Start Your 1031 Exchange: If you have questions about 1031 exchanges, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2020 Copyright Jeffrey R. Peterson All Rights Reserved

Death, Not Taxes

In this 1031 FAQ video, Jeff Peterson discusses what happens when a taxpayer dies during the course of a 1031 exchange. Watch more 1031 educational videos here.

• Start Your 1031 Exchange: If you have questions about what happens when a taxpayer dies during an exchange, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2017 Copyright Jeffrey R. Peterson All Rights Reserved

Death of a Taxpayer During a 1031 Exchange

What do you do if you're doing a 1031 exchange and the taxpayer dies in the middle of the exchange? In other words, after the disposition of the relinquish property, the taxpayer that's conducting the exchange dies - what are your options in that scenario?

Let the Exchange Fail

One possibility is you could just decide to have the exchange fail and return the unused proceeds back to the estate. The personal representative of the estate will then file a tax return for the final year of the deceased’s life, and show that the sale occurred and they realized all of the gain on the sale of the property. That would probably be the most tax inefficient treatment. A fate almost worse than death.

Continue the Exchange

The other possibility is that the personal representative could continue to complete the exchange and purchase replacement property of equal or greater value/equity and offset the debt relief so that when they file their final tax return they don't recognize any gains on the disposition of the relinquished property and the personal representative does have to send any checks to the IRS for the sale of the relinquished property.

For the heirs that are inheriting that replacement property they are receiving the replacement property with a stepped-up basis which means the basis is increased or stepped up to the fair market value at the time that it is appraised for estate tax purposes. So we are deferring the tax in the estate and then the entire tax liability dissipates when the basis gets stepped up. To the heirs that is a double play that is outstanding and can save them a lot in taxes.

• Start Your 1031 Exchange: If you have questions about what happens when a taxpayer dies in the midst of a 1031 exchange, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2016 Copyright Jeffrey R. Peterson All Rights Reserved

Death & Taxes (Part 2)

Note: This is part 2 of our Death & Taxes blog series. Read part 1 here.

Tax-free Transfers

Section 102 of the internal revenue code says that an heir (beneficiary who inherits property) that receives property as a gift, bequest, devise, or inheritance takes that property tax-free. Gross income does not include the value of property acquired by gift, bequest, devise, or inheritance.

Basis of an Heir

The question then becomes, what if your heir sells the property that they received as an inheritance from you? What is the heir’s basis for calculating his or her gain? Will the heir have any tax liability?

At present, Section 1014 of the internal revenue code allows your heirs to take your property through inheritance with a stepped up basis (roughly Fair Market Value (FMV) of the property at the time of your death) so they would not take over your low basis in the property. However, the tax code in this area could change, so you need to talk about this with your CPA or accountant.

Under current Section 1014(a) the general rule applied to property an heir receives from a decedent is that the heir’s basis equals the fair market value of the property at the time the decedent dies. Because of Section 1014, any appreciation of the affected property that occurred (as well as deprecation recapture) during the decedent’s lifetime may never be taxed. The current operation of this code section provides an incentive for taxpayers to defer taxes throughout one’s lifetime until death. One strategy that people refer to with 1031 exchanges is called Defer, Defer, Defer, Die. The idea is that one never recognizes any gains during one’s lifetime, but instead continually defers the recognition of gain (compounding and building wealth tax-free) again and again until they die.

Compounding Returns Tax Deferred Offers One of the Most Powerful Ways to Build Wealth

The importance of compounding and re-investing your gains tax-deferred cannot be stressed enough.  Over time, the more you are able to reinvest without the drag of having to pull-out capital for taxes, means you will have much more capital to put down on bigger and better like-kind investments. Compounding tax-deferred has a tremendous impact on wealth creation, and this is why people like to invest in tax efficient vehicles like 401K plans, Roth IRAs, and whole life insurance products.

If Congress ever acts to change the Step-up Basis under Section 1014, they will probably still allow for a modified form of carry-over basis, so your heirs would likely take over your low basis, and would then need to continue to defer the taxes by utilizing 1031 tax exchanges. The good news (if that ever happens) is that they could also continue the strategy of Deferring, Deferring, Deferring, Dying generation after generation.

• Start Your Exchange: If you have questions about tax-free transfers and 1031 exchanges, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2017 Copyright Jeffrey R. Peterson All Rights Reserved