There are as many reasons to seek a 1031 Tax Deferred Exchange as there are investors, but the fact is that completing such a property exchange can save you a significant amount of capital gains tax when you decide to sell your existing investment property and to acquire another one. Although you should always check with your tax advisor and attorney before you proceed, here are five basic steps to successfully exchanging a property under the 1031 guidelines.

Step 1 - Proper Listing

Once you've determined that a 1031 exchange is in your best interests, you'll want to list your current property with a real estate broker. Make certain that the listing agreement specifically specifies that you intend to use the property to complete a 1031 exchange. If you sell by owner, make sure the sales contract contains the legal terms required.

Step 2 - Sales Contract

Once a buyer has been found for your property, the next step is typical of a standard real estate transaction. You'll receive an offer, which you will then accept or counter. Once both parties agree to the terms and price, you'll have an acceptance and a sale, making sure that everyone is clear about the fact that you're intending to acquire a new property under the terms of Section 1031 of the IRS code.

Step 3 - Facilitator

Next, you'll open an escrow account and begin working with a facilitator. The facilitator will prepare all the documents for a 1031 exchange and will work with the escrow company during Phase One of the process. The exchange agreement must be signed by everyone involved and all earnest money must be deposited with the title company before closing the escrow.

Step 4 - Find Replacement Property

You must then find and identify the replacement property with 45 days of closing. You'll then have 180 days to acquire and close on that property, making sure that everyone concerned knows that it's part of a 1031 exchange.

Step 5 - Close on Replacement Investment

You'll open an escrow account on the new property, and the facilitator will begin preparing all the documents required by Phase Two of the 1031 exchange process. Your earnest money and any other funds will be held in trust by the facilitator in the escrow account until the Phase Two transaction has closed.

There are other factors that can come into play during the 1031 Exchange process, so it's important that you seek the help and advice of your financial advisor and attorney to make sure you're complying with the letter of the law from start to finish. There can be significant amounts of money involved, since you're allowed to exchange your current property for several new properties, as long as their fair market value doesn't exceed 200 percent of the value of your old property.

Another thing to remember is that the properties must also be of a like-kind, meaning that they will both be held for productive use in a business or investment capacity. There are also some time constraints as to when you can claim the exchange on your income taxes, so as always, it's best to check with your various professional advisors before you begin the 1031 exchange process.

Copyright © 2006 Jeanette J. Fisher

Jeanette Fisher teaches beginning real estate investors how to make money in any real estate market using interior design psychology secrets to attract buyers or tenants. Free teleseminars and ebooks at http://www.doghousetodollhousefordollars.com