Eliminate the Need for 1031 Exchanges Using a Complex Spendthrift Trust
1031 Exchanges. A long time staple of the real estate investment world. Many investors have successfully utilized this tax code to buy, sell, buy, sell, and so on in order to improve their real estate portfolio. However, for many investors, this tax strategy seems to be the bane of their existence! Why is that? It's because the 1031 Exchange requirements can be very restrictive. 1) You must identify properties in 45 days. Hopefully, the investor will find something that they like and not be forced to settle, which is often the case. 2) They must close the identified property in 180 days. If the deal falls through, and the investor is beyond 45 days, the exchange is going to fail and the taxes will be paid the following year. Depending on market conditions, exchanges fail 40%-60% of the time. Not great odds. And, 3), because debt has to be replaced with equal or greater debt, investors often find themselves in a "pickle" because they do not qualify to replace the full amount of debt of the relinquished property.
How can this problem be solved? How can one reduce the stress of 1031 exchanges? The answer is simple but the process is complicated.
Many attorneys throughout the U.S. have drawn documents for trusts that provide a combination of tax mitigation as well as solid asset protection. The provisions in many of these trusts are: non-grantor, irrevocable, complex, discretionary, and spendthrift. The non-grantor, irrevocable, and spendthrift provisions generate solid asset protection. As Rockefeller once said: "The key to success is to own nothing but control everything". That is what this trust does for the investor. It is very solid asset protection. Much better than LLCs which are pierced in State and Federal courts, on average, about 40% of the time. The complex, discretionary, and spendthrift provisions provide great tax mitigation. For the sake of staying on topic, it can defer capital gains taxes for 100's of years and eliminate the need for 1031 exchanges.
Why does this matter and why is it important for investors? By utilizing a trust to defer capital gains taxes for generations, the investor then can have the trust sell the asset and then the funds can remain in the trust account until the investor finds a property that is the right fit. There is no requirement that the purchase be made within a specific amount of time. There is lots of freedom! The other benefit is that, upon the sale, the funds can be used for other needs and goals. Anything that the trust owns, the trust is responsible to pay for. Therefore, if the investor's primary residence is owned by the trust, then instead of buying another rental of equal or greater value, some of the sales proceeds can be used to pay for upkeep, utilities, mortgage, insurance, and property taxes of the primary residence......all pre-tax!
Basically, this is the most dynamic capital gains tax strategy tool that we have found so far. It is quite amazing! However, anything this good comes with a price. On average, from what we've seen, these trusts cost about $36K to set up and implement. That is certainly an up front gut punch, but when one hears the long term value of the trust, it makes a lot of sense.
If you've been stuck in a 1031 exchange system, and maybe even paid taxes due to a failed exchange, then maybe it's time to look at other options that can help you or your investors to have a lot more freedom and control. That is what you will find with a non-grantor, irrevocable, complex, discretionary, spendthrift trust.