1031 Exchange: The Internal Revenue Code Section 1031, allows no gain or loss shall be recognized if property held for investment or for productive use in a trade or business is exchanged for like-kind property held for investment or for use in a trade or business.

1031 Exchange Agreement: The agreement between the Exchanger and the Accommodator.

1031 Exchange Period: The period during which the Exchanger must acquire the replacement property in the exchange. This period starts on the day the Exchanger transfers the relinquished property and ends on midnight on the 180th day thereafter, or the due date including extensions of the Exchanger’s tax return for the year of the transfer of the relinquished property.

3-Property Rule: Exchanger may identify three or fewer replacement properties. This is the most common identification rule.

95% Rule: The Exchanger may identify any number of replacement properties as long as the exchanger receives at least 95% of the value of all properties identified. Note: This rule is not used very often.

200% Rule: The Exchanger may identify any number of replacement properties; however, the total value of those properties identified cannot not exceed 200% of the value of Exchanger’s relinquished property.

Accelerated Depreciation: A depreciation method that allows you to deduct a greater portion of the cost of depreciable property in the first years after the property is placed in service, rather than spreading the cost evenly over the life of the property.

Accommodator: An Independent Third Party (a qualified intermediary) who enters into an agreement with the Taxpayer (exchanger) to transfer the relinquished property from the Taxpayer to the Buyer. The Accommodator holds the proceeds of the relinquished property until they are invested in the replacement property. At that time the Accommodator transfers title to the replacement property from the Seller to the exchanger. The Accommodator can’t be the exchanger’s agent.

Adjusted Basis: The original basis plus any capital improvements that may have been made to the property less any depreciation taken. Subtract this matter from the selling price to calculate the amount of gain.

Ancillary Parties: An exchange transaction invariably involves parties other than the taxpayer exchanger, the buyer of the relinquished property, and the seller of the replacement party. These include the real estate agent, the attorney, the accountant, the QI, and the escrow, closing or settlement agent.

Basis: The original purchase price of the property.

Boot: Any non like-kind property received by Exchanger during the 1031 exchange. Anything of value not reinvested in like-kind property such as cash, mortgage notes, notes, or other securities. The exchanger pays taxes on the part of the exchange considered “boot”, to the extent of recognized capital gain.

Buyer: The purchaser of the relinquished property.

Capital Asset: Any property owned by an owner used in a trade or business or held for investment specifically real property.

Cash boot: Any cash, note or seller carry back received (or not reinvested) by Exchanger during an exchange period.

Capital Gain: The calculation of the difference between the sales price of the relinquished Property (less allowed selling expenses) minus the adjusted basis of the relinquished Property.

Capital Gain or Loss: The difference between the selling price of a piece of real estate and its Adjusted Cost Basis.

Capital Gain Tax: Tax levied by Federal and state governments on investments that are held for one year or more. Investments may include real estate, stocks, bonds, collectibles and tangible depreciable personal property. However, real estate is the only investment that can be exchanged.

Capital Improvements: For land or buildings, improvements (also known as capital improvements) are the expenses of permanently upgrading your property rather than maintaining or repairing it. Instead of taking a deduction for the cost of improvements in the year paid, you add the cost of the improvements to the basis of the property. If the property you improved is a building that is being depreciated, you must depreciate the improvements over the same useful life as the building.

Closing Costs: Costs paid at the closing for the relinquished or replacement properties.

Constructive Receipt: A violation of the IRC 1031 rules, where the Exchanger obtains direct or indirect control over the exchange proceeds through an agent or employer or some other way during the exchange period. This could disallow the exchange. It is considered “constructive receipt” if the Exchanger has control over the proceeds of the relinquished property. This applies even though he did not receive the funds, but it was possible for him to receive them.

Delayed Exchange: An exchange where the selling of the relinquished property and the purchase of the replacement property does not take place at the same time.

Deferred Exchange: A 1031 exchange conducted under the safe harbor Treasury Regulations wherein the replacement property is received up to 180 days after the disposition of the relinquished property. The exchanger transfers property held for productive use in a trade or business or for investment (relinquished property) and at a later time receives like-kind property (replacement property). The exchanger does not have control of the funds during the 1031 exchange and receives only a deed for a deed.

Depreciation: A reduction in value of property over the property’s economic life.

Depreciation Recapture: The amount of gain resulting from the disposition of property that represents the recovery of depreciation expense that has been previously deducted on the Taxpayer’s (Exchanger’s) income tax returns.

Depreciable Assets: (used in a trade or business.) Depreciable classes are divided into two major divisions, like-class or like-kind, such as 13 classes of the most commonly used business assets, such as transportation assets; and all other depreciable assets are separated by SIC/NAISC code.

Disposition: The sale or other disposal of property that causes a gain or a loss including like-kind exchanges and involuntary conversions.

Disqualified Person: IRC 1031 defines a disqualified person to include an agent of the exchanger/taxpayer at the time of the transaction. An agent includes a person that has acted as the taxpayer’s employee, attorney, accountant, investment banker or broker, or real estate agent or broker within two years of the taxpayer’s transfer of relinquished property.

Direct Deeding: With the instruction of the Qualified Intermediary (QI) the title passes directly to the ultimate owners without the Qualified Intermediary being in the actual chain of title.

Equity: The value of a person’s ownership in real property or securities; the market value of a property or business, less any claims or liens on it.

Exchanges: under I.R.C. § 1031 are sometimes referred to as tax-free, tax deferred or non-taxable exchanges. § 1031 provides an exception only from current recognition of realized gain. The realized gain is deferred until the property acquired in the exchange is disposed of in a subsequent taxable transaction. This gain may be avoided altogether if the replacement property is held by the taxpayer at death. Thus, the gain is only potentially taxable.

Exchange accommodation titleholder: Also known as the EAT, this party takes title to either the relinquished property or replacement property in an exchange under Rev. Proc. 2000-37. This exchange may be either a reverse exchange, with the replacement property being acquired prior to the sale of the relinquished property to a buyer, or an improvement exchange, with the EAT constructing improvements on the replacement property prior to conveying it to the taxpayer.

Exchange Agreement: A written agreement between the Qualified Intermediary and Exchanger setting forth the Exchanger’s intent to exchange relinquished property for replacement property, as well as the terms, conditions and responsibilities of each party pursuant to the tax-deferred, like-kind exchange transaction.

Exchange Expenses: Property exchange and sale expenses.
Weekends and holidays are included in the exchange period. If the exchange period ends on a Saturday, Sunday, or holiday, there will be no extension. The time between the disposition of the relinquished property and the earlier of the following:
(1) acquisition of all replacement properties by the exchanger.
(2) after the 45 day identification period if an identification has not been made or any identified properties have been previously received by exchanger or revoked as identified properties/s
(3) after the 180th day following the disposition of the relinquished property/s
(4) after the exchanger’s deadline for filing its federal income tax return for the year in which the relinquished property was disposed in (including extensions).

Gain: The difference between the adjusted basis in the property and the gross selling price, less direct selling expenses.

Limitation: IRC 1031 states that an agreement with an escrow holder, trustee or qualified intermediary (QI) must limit the taxpayer’s rights to receive, pledge, borrow, or otherwise obtain the benefits of money or other property held in the qualified escrow by the qualified intermediary (QI).

Identification: IRC 1031 states that a written description of the replacement property/s signed by the exchanger must be sent to the qualified intermediary (QI) or other person who is a party to the exchange.

Identification Period: The period of time during which the exchanger must identify potential replacement properties in his or her tax-deferred, like-kind exchange. The period is 45 calendar days from the transfer of the Exchanger’s relinquished property and is not extended due to holidays or weekends.

Like-Kind Exchange: The sale or disposition of real estate or personal property (relinquished property) and the acquisition of like-kind real estate or personal property (replacement property) structured as a tax-deferred, like-kind exchange transaction pursuant to Section 1031 of the Internal Revenue Code and Section 1.1031 of the Treasury Regulations in order to defer Federal, and in most cases state, capital gain and depreciation recapture taxes.

Like-Kind Property: Property that is exchangeable with another property. Refers to the nature or character of the property and not to its grade or quality. Real estate is like-kind to real estate.

Limited Liability Company (LLC): Members of Limited Liability companies enjoy the limited liability offered by corporations and the minimum requirements of an S corporation. Limited Liability Companies typically contain two or more members and must file articles of organization with the secretary of state, although single member LLCs are allowed in certain states.

Mortgage Boot: Results when an exchanger is discharged of a debt obligation with the transfer of the relinquished property and that debt is not completely offset. For example, if your replacement property’s mortgage is $120,000 and your relinquished property’s mortgage is $130,000, then you will have $10,000 in mortgage boot. The IRS taxes boot at a taxpayer’s regular tax rates, and taxpayers report it on line 15 of Form 8824.

Non-Depreciable Assets: These cannot be exchanged. Non depreciable assets are divided into two groups:
1. Collectibles, such as artwork; 2. Intangible assets, such as patents, copyrights, trade names, trademarks. These assets are divided into product and asset classes. Intangible assets must relate to the same type of underlying asset to which the property sold related.

Owner: The owner of the relinquished property and the future replacement property.
Partial Exchange: When an exchange entails receiving cash, excluded property and/or non-like-kind property and/or any net reduction in debt (mortgage relief) on the replacement property as well as an exchange of qualified, like-kind property. In the case of a partial exchange, tax liability would be incurred on the non-qualifying portion and capital gain deferred on the qualifying portion under IRC section 1031.

Qualified Escrow Account: An escrow account, where the Escrow Agent (Directrust℠ 1031 exchange services) is not the exchanger or a disqualified person and that limits the exchanger’s rights to receive, pledge, borrow or otherwise obtain the benefits of the tax-deferred, like-kind exchange cash balance and/or other assets from the sale of the relinquished property in compliance with the Treasury Regulations. The Qualified Escrow Account also ensures that the exchanger’s exchange funds and/or assets are held as fiduciary funds and are therefore protected against claims from potential creditors of the qualified intermediary.

Qualified Intermediary (QI): Also known as the QI, is the person who acts as the middleman in the exchange and who acquires the relinquished property to convey to the buyer, and acquires the replacement property to convey it to the taxpayer. In most circumstances, direct conveyancing is used rather than sequential conveyancing. The QI is also sometimes called “the accommodator,” “the facilitator,” or “the straw man.” The QI is acting to facilitate an exchange under section 1031 and applicable regulations. The individual may not be the taxpayer or a disqualified person. IRC 1031 (Section 1.1031 (k)-1(g)(4)(iii)) requires that, this “intermediary” must enter into a written exchange agreement with the exchanger/taxpayer.

Real Property: Any type of real estate is like-kind to other real estate. Real property is all considered within one class of assets.

Realized Gain: Amount realized from a transaction over the adjusted basis of the property.

Recognized Gain: Amount reported for income tax purposes as a capital gain. It is limited to the lesser of the gain realized or the amount of boot received.

Related Parties: A Related Party is defined as a linear member of a family or a corporation in which 10% or more is owned or controlled by the Exchanger. If a Related Party is involved in the 1031 exchange, the property must have been and be held for two years by both parties.
Relinquished Property: Property/s sold by the exchanger as part of a 1031 exchange. The property that the taxpayer seeks to dispose of in the exchange. It is also called “the taxpayer’s property,” “the exchange property,” “the down-leg property,” “the now property,” “the first leg property,” and “the old property.”

Replacement Property: Property/s bought/received by exchanger as part of a 1031 exchange. The property that the taxpayer seeks to acquire in the exchange. The replacement property is also labeled “the target property,” “the exchange property,” “the up-leg property,” “the next property,” “the second leg property,” and “the new property.”

Reverse Exchange: A reverse exchange is a 1031 exchange in which the replacement property is purchased first and then the sale of the currently-held property (to be relinquished) is accomplished second. All applicable 1031 exchange deadlines still exist. In a “reverse” exchange, title to the replacement property can be acquired by the EAT prior to the taxpayer’s sale of the relinquished property, with the exchange occurring at the back end when the relinquished property is sold. It is also known as a replacement property parking exchange or rear leg reverse exchange. Alternatively, the taxpayer can transfer title to the relinquished property to the EAT and simultaneously acquire the replacement property. The EAT will sell the relinquished property later to the buyer. This is known as a relinquished property parking exchange or a front leg reverse exchange.

Safe Harbors: The Treasury Regulations provide certain Safe Harbors that assist Qualified Intermediaries and Exchangers in structuring tax-deferred, like-kind exchange transactions so they can be assured that no constructive receipt issues will be encountered during the exchange cycle.

Seller: The seller of the replacement property.

Simultaneous Exchange: An exchange where the exchanger sells the relinquished property and immediately receives the replacement property. This exchange is structured by the qualified intermediary (QI). Simultaneous exchanges of two or more properties in which the taxpayer and the seller(s) are deeding each other’s respective property directly to each other are sometimes referred to as “pot exchanges.”
Non-simultaneous exchanges are also referred to as “delayed exchanges,” “Starker exchanges,” “deferred exchanges,” or “forward exchanges.” Such exchanges are defined as deferred exchanges under the Regulations.’ The use of the term “deferred” to mean a non-simultaneous exchange is confusing because all exchanges qualifying under I.R.C. § 1031 (whether simultaneous or non-simultaneous) involve the deferral of tax. The term “forward” exchange is often used to distinguish a deferred exchange, in which the relinquished property is transferred first, from a reverse exchange, discussed below.

Straight-line Depreciation Method: A depreciation method that spreads the cost or other basis of property evenly over its estimated useful life.

Tax-Deferral: The postponement of taxes to a later year, usually by recognizing income or a gain at a later time. Tax-deferred, like-kind exchange transactions are a common method of deferring capital gain and depreciation recapture taxes.

Taxpayer: The party seeking non-recognition treatment in a 1031 exchange. Commonly the taxpayer is often referred to as the “exchanger.”

Timing Requirements: The replacement property must be identified by the 45th day from the close of escrow of the relinquished property and must be transferred by the 180th day from the close of escrow of the relinquished property.