Your second, more profitable choice is to conduct a 1031 exchange. A 1031 is a great way to keep more of your investment funds making you money. Section 1031 has a non-recognition provision; this means you don't have to pay the capital gains taxes immediately following your sale; as a matter of fact, you can defer the taxes for an indeterminate time span, while your funds are compounded by the extra income produced by investing your tax deferment.
As an example, let's say you are the owner of several small investment properties, such as triplexes, whose values have increased during the time you have owned them. At this juncture, your first inclination might be to sell these properties and collect on your investments. A wise investor with an eye to the future might decide to conduct an exchange and put the proceeds from these smaller properties towards buying another piece of investment property, which will, itself proceed to appreciate in value over time, meanwhile continuing to increase your wealth. Best of all, the funds at your disposal as a result of deferring capital gains taxes will function to increase your ability to leverage for greater loans, building your future profits.
1031 exchanges are not limited to just buildings and land, either. You can conduct an exchange on any type of real estate held for investment in your trade or business, and certain types of personal property as well, from a backhoe or crane to an aircraft or collector car. In fact, Section 1031 is particularly beneficial for those who have invested in collectibles or antiques such as classic cars, because of the greater capital gains liability on the sale of these items. It is important to note, however, that you cannot exchange things like stock, bonds, or interest in a Real Estate Investment Trust.
So, next time you find yourself in the position to sell a piece of real estate or other investment, pause for a moment to think of the potential profit you could gain were you to conduct an exchange instead. If you decide to perform an exchange rather than selling your property outright, you can build your wealth over time and come out ahead in the long run.
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