Important Information to Know Before Filing Your Taxes
YOU MAY NEED TO FILE FOR AN EXTENSION
A 1031 exchange is reported on the tax return for the tax year in which the exchange begins, i.e. the tax year the relinquished property is transferred, using IRS Form 8824. The exchange period is the shorter of 180 days or the due date of the taxpayer’s tax return. If an investor's exchange transaction started late in 2020, he may need to file for an extension using Form 4868 in order to receive the full benefit of the 180-day exchange period and reflect the entire exchange on the appropriate tax return.
On March 17, 2021, The Treasury Department and Internal Revenue Service announced that the federal income tax filing due date for individuals for the 2020 tax year will be automatically extended from April 15, 2021, to May 17, 2021.
The IRS filing extension only applies to individual taxpayers – it does not apply to C-corporations, not-for-profit, or trusts. For these entities, the start filing date is still applicable.
FILING AN EXTENSION TO GET THE FULL BENEFIT OF THE 180-DAY EXCHANGE PERIOD
In a 1031 exchange, the taxpayer must acquire all replacement property by the earlier of the date that is 180 days from the date the relinquished property closes, or the date the tax return for the year in which the relinquished property closed is due, including extensions. This means that for exchanges where the relinquished property closes late in the year (in 2020, from October 18th until the end of the year), a calendar year taxpayer must get an extension of the tax filing deadline in order to benefit from the full 180 day exchange period. For example, if the relinquished property closes on December 1, 2020, and the taxpayer does not get an extension on the filing of his return, the taxpayer will only have until April 15, 2021 to acquire all replacement properties. If the taxpayer gets an extension, however, he will have until May 30, 2021 to acquire all replacement properties.
If the exchange is incomplete, the sale will need to be reported as a taxable event.
WHEN YOU WANT THE EXCHANGE PERIOD TO EXPIRE EARLY
There may be some situations in which the taxpayer benefits from a shorter exchange period. For example, sometimes exchanges are started late in the year and completed the next year before April 15th. The investor may have identified three replacement properties and acquired one, but there is still some available cash. The qualified intermediary is required to hold the remaining cash until the sooner of when all replacement properties are acquired or the end of the exchange period. In order to get his cash early, an investor can decide not to file an extension. In that case, the exchange period will end on April 15th, and the intermediary will be able to release any additional funds on the following day. If the taxpayer were to instead get an extension to the filing date of his tax return, the intermediary would be required to hold all remaining funds until day 181 of the exchange.
REPORTING AN INCOMPLETE OR FAILED EXCHANGE
Sometimes an investor starts an exchange but is unable to acquire any replacement property. Other times an investor may acquire some replacement property but have remaining cash which will be taxable. In both of those situations, if the investor starts the exchange in one year and receives the money in the following year, the boot received can be treated like an installment sale. In other words, any cash received in the second year can be reported in that year rather than the year the relinquished property closed.
If an investor completes more than one like-kind exchange during the tax filing year, he can file a summary Form 8824 and attach his own statement showing all of the information requested on Form 8824 for each exchange.
Certain rules may apply to your particular exchange transaction. For example, if you transferred your relinquished property to a related party as part of your 1031 exchange, you must file Form 8824 with your tax return for not only that year, but for the two years following the exchange. For taxpayers who are subject to filing a state tax return, you must comply with that state’s filing requirements. Also, additional filing requirements may apply to certain specialized transactions such as reverse exchanges or multi-asset exchanges.
Always check with your tax advisor to make sure you are complying with the requirements for your unique transaction.
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First American Exchange Company, LLC, a Qualified Intermediary, is not a financial or real estate broker, agent or salesperson, and is precluded from giving financial, real estate, tax or legal advice. Consult with your financial, real estate, tax or legal advisor about your specific circumstances. First American Exchange Company, LLC makes no express or implied warranty respecting the information presented and assumes no responsibility for errors or omissions. First American, the eagle logo, and First American Exchange Company are registered trademarks or trademarks of First American Financial Corporation and/or its affiliates.