Broker Check

1031 Glossary

1031 Exchange

– The sale or disposition of real estate (relinquished property) and the acquisition of like-kind real estate (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. The goal is to defer capital gain and depreciation recapture taxes.

180 Day Property Acquisition Deadline

– A 1031 investor is legally required to complete a 1031 exchange by midnight on the 180th day after the close of escrow on the relinquished property. The day after escrow closes on the relinquished property is the first day. The exception to this occurs if the investor's tax return is due before the 180th day, in which case the exchange must be completed by the due date of the investor's tax return. This 180-day period includes weekends and holidays.

200% Rule

– Treasury regulation allowing an exchanger to list more than three potential replacement properties during the identification period. Using the 200% rule, an exchanger may identify any number of properties so long as their combined fair market value does not exceed 200 percent of the combined fair market value of all relinquished properties.

95% Rule

– Treasury regulation allowing an exchanger to list more than three potential replacement properties during the identification period. Using the 95% rule, an exchanger may identify any number of properties so long as the exchanger closes on (receives) at least 95 percent of the combined fair market value of all identified properties.

26 Code of Federal Regulations (C.F.R.)

– Title 26 of the Code of Federal Regulations (C.F.R.) contains the Treasury Department's official and binding interpretations of Title 26 of the United States Code. These are also called "Treasury Regulations" (Treas. Reg.). When the IRS proposes new Treasury Regulations, they are published in the Federal Register for notice and comment. Temporary and final regulations are then published in the Federal Register and in the Internal Revenue Bulletin as "Treasury Decisions," prior to ultimate publication in Title 26 of the Code of Federal Regulations. Therefore citations of these regulations may begin "26 C.F.R." or simply "Treas. Reg."

26 United States Code (U.S.C.)

– Title 26 of the United States Code (U.S.C.) contains the Internal Revenue Code (IRC). The IRC is the principal body of domestic statutory tax laws enacted by the United States Congress. It is organized topically, and covers income tax, payroll taxes, gift taxes, estate taxes, and excise taxes. Citations of the code may begin "26 U.S.C." or simply "IRC"

[26 U.S.C. is available online here. However it is only current through the 1st session of the 112th Congress, which was convened in 2011. The U.S.C. Classification Table is also available online here, which shows where recently enacted laws will appear in the U.S.C.]

45 Day Identification Deadline

– A 1031 investor is legally required to identify replacement property options by midnight on the 45th day after the close of escrow on the relinquished property. The day after escrow closes on the relinquished property is the first day. This 45-day period includes weekends and holidays. Read our in-depth article on 1031 exchange property identification rules here, and calculate your 45th day here.

Accredited Investor

– The Security and Exchange Commission defines an accredited investor as an individual with either $1 million in net worth (all assets, excluding primary residence, less all liabilities) or net income for the last two years of $200,000 or greater ($300,000 if spouse has income) with a reasonable expectation of such earnings in the current year.

Accommodator

– An older term for a Qualified Intermediary.

"Actual Receipt"

– Occurs whenever the taxpayer has direct access to or possession of the sale proceeds of the relinquished property. Actual receipt invalidates a 1031 exchange. Also known as constructive receipt.

Adjusted Cost Basis

– The modified cost of an asset to the taxpayer after adjusting for certain tax-effected items. Generally, the adjusted basis is equal to the purchase cost plus fees (commissions, escrow, title, etc.) and improvements and less accumulated depreciation and other losses (casualty, demolition).

BASIS

– A property's "basis" is the amount of capital that the IRS considers an owner to have in the property. In most cases, the basis of a property is its purchase price or its fair market value at the time it was acquired or inherited. Basis is used to calculate depreciation and capital gains or losses. For example, if a property's basis is $500,000 and it sells for $800,000, the capital gains is $300,000 ($800,000-$500,000 = $300,000).

Boot

– The face amount of money or debt and the fair market value of non-like-kind property received in an exchange. The fact that boot is received does not disqualify an exchange; the boot, however, will be subject to capital gains tax to the extent of recognized gain on the sale of relinquished property.

Build-to-Suit Exchange

– A type of exchange allowing the exchanger to make improvements on or within the replacement property. A build-to-suit exchange may be used as part of a forward exchange or a reverse exchange. (Learn more about build-to-suit exchanges.) Also known as a construction exchange or an improvement exchange.

Capitalization Rate

– An investment offering's "cap rate" represents the annual net operating income received from an investment (prior to and excluding debt cost), divided by its purchase price or fair market value. Cap rate does not reflect the potential impact that financing can have on the cash flow. It differs from "cash-on-cash," which is the cash income received by an investor in return for the cash invested. Cash-on-cash does reflect the potential impact that financing can have on the cash flow. It is important to look at both metrics when evaluating an investment.

Capital Gain / Capital Loss

– The difference between the sales price of the relinquished property, less selling expenses, and its adjusted cost basis.

Capital Gains Tax

– The tax levied on profits realized on the sale of investment assets such as real estate, stocks, and bonds. (Click here for our free Capital Gains Tax Calculator)

Cash-On-Cash

– An investment offering's "cash-on-cash" (COC) is the cash income received by an investor in return for the cash invested. COC reflects an investment's net income after accounting for the cost of servicing the debt utilized. It differs from "cap rate," which represents the annual net operating income received from an investment (prior to and excluding debt cost), divided by its purchase price or fair market value. Cap rate does not reflect the potential impact that financing can have on the cash flow. It is important to look at both metrics when evaluating an investment.

Code of Federal Regulations (C.F.R.)

– The "Code of Federal Regulations" (C.F.R.) consists of the administrative laws that promulgate the United States Code (U.S.C.). The U.S.C. is created by Congress and is subordinate only to the Constitution. The C.F.R. is subordinate to the U.S.C., and is created by the various executive departments and agencies to which Congress delegates limited rule-making authority. When a department or agency proposes new regulations, they are published in the Federal Register for notice and comment. Temporary and final regulations are then published in the Federal Register again, and ultimately compiled in the C.F.R.

[The official e-CFR is available online here, and is typically updated within two days after changes become effective. Cornell University Law School's Legal Information Institute also hosts the full text of the C.F.R. here.]

Construction Exchange

– A type of exchange allowing the exchanger to make improvements on or within the replacement property. A construction exchange may be used as part of a forward exchange or a reverse exchange. Learn more about construction exchanges here. Also known as a "build-to-suit" exchange or an improvement exchange.

Constructive Receipt

– Occurs whenever the taxpayer has direct access to or possession of the sale proceeds of the relinquished property. A constructive receipt invalidates a 1031 exchange. Also known as "actual receipt".

Cooperation Clause

– Extra language in a purchase and sale agreement that explains that the taxpayer intends to include the transaction as part of a tax-deferred, like-kind exchange. This clause usually invokes the cooperation of other parties to sign necessary 1031 exchange documents.

Cost Basis

– The taxpayer's cost of acquiring a property.

Deferred Exchange

– Another term for a forward exchange.

Delaware Statutory Trust (DST)

– A DST is an ownership model through a separate legal entity that allows co-investment among real estate sponsors and accredited investors to purchase beneficial interest into either a single asset or across a portfolio of properties. The most notable characteristic of DSTs is that they are tax-deferred 1031 exchange-friendly.

Depreciation

– Periodic wear of property as expressed by the allocation of a property's cost over a certain timeframe. The I.R.S. requires investors and business owners to take annual deductions based on the depreciation throughout a property's "useful" or "economic" life.

Depreciation Recapture

– Term for when the I.R.S. collects income tax resulting when a taxpayer disposes of an investment or business property that had provided the taxpayer depreciation deductions on past income tax returns.

Depreciation recapture refers to the portion from the sale of a property that has been previously deducted as depreciation. For example, if a property purchased for $1,000,000 is sold for $1,250,000 and during the time of ownership $500,000 was claimed as depreciation deductions, this $500,000 would be considered depreciation recapture and taxed a certain rate while the additional $250,000 would be considered capital gain and taxed at a different rate. Please note that while depreciation may not have been claimed on tax returns prior years, the depreciation that was allowed or allowable must still be recaptured upon sale.

Direct Deeding

– Practice established by 1991 Treasury Revenue Ruling 90-34 whereby the qualified intermediary no longer must take part in the deeding of the relinquished or replacement property in exchange. Rather, the exchanger may now deed the relinquished property directly to the buyer or receive the replacement property by deed from the seller.

Direct Participation Program (DPP)

– A business venture designed to let investors participate directly in the cash flow and tax benefits of the underlying investment. A DPP is generally a passive investment in real estate or energy-related ventures. Also known as a "direct participation plan," DPPs are usually organized as a limited partnership, subchapter S corporation or general partnership. Neither investment qualifies for a 1031 Exchange. While DST and TIC offerings are technically DPPs, they are structured in most cases to qualify for 1031 Exchange.

Dynamic Scoring

– Proposed legislation that would impact revenue or spending must be analyzed and assigned a score that distills its fiscal impact into a single number. Some scoring methods attempt to forecast how the behavior of individuals within the economy will change after the legislation is passed, and then incorporate the economic impact of those changes into the final score. These methods are typically described as "dynamic scoring" methods, even though standard "static" scoring methods typically include some dynamic elements and/or are provided in conjunction with similar forecasts. Dynamic scoring tends to produce results in favor of more conservative policies that recommend cutting taxes, and so are often favored by conservatives, while critics often argue that dynamic scoring methods are too simplistic, subjective, and optimistic to be relied upon for policy-making.

Equity

– The value of any ownership interest in real property or security instrument. The equity value of a potential exchange property is equal to the market value less any claims or liens against it. For example, the owner of a $2 million office building with an $800,000 existing mortgage will have $1.2 million of equity in the asset.

Exchanger

– The taxpayer seeking to defer capital gains tax under the provisions of IRC Section 1031 by means of a real estate exchange. An exchanger may be an individual, partnership, LLC, corporation, institution or business.

Exchange Accommodation Titleholder– (aka E.A.T.)

– Legal entity created for the purpose of completing a reverse 1031 exchange or an improvement 1031 exchange. The E.A.T. is an unrelated party that holds legal title of either the replacement or relinquished property pursuant to Revenue Procedure 2000-37.

Exchange Period

– The period of time in which the Exchanger must acquire title to replacement property to qualify under the safe harbor for the exchange. The period ends on the earlier of the day 180 days after the relinquished property is transferred or the due date (including extensions) of the Exchanger's federal income tax return for the year in which the Exchanger relinquished the property in the exchange. Remember that the exchanger only has 45 calendar days during their identification period.

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.

Fair Market Value

– The selling price for an asset (e.g. investment property) at which a buyer and seller agree.

Fee Interest

– A fee interest, or fee simple, is an estate (ownership) of real property of indefinite duration that can be freely transferred. This is the most common and perhaps most absolute type of estate under which the owner enjoys the greatest discretion over the disposition of the property.

Fractional Interest

– An undivided fractional interest or partial interest in property. See also Tenancy-In-Common Interests.

Forward Exchange

– A colloquial term for a tax-deferred, like-kind exchange. Contrasted to a reverse 1031 exchange.

Identification Period

– the exchanger executing a 1031 exchange must complete their potential replacement property identification process within 45 calendar days from the closing of the sale of their relinquished property. Remember that the exchanger only has 180 calendar days during their exchange period, which runs concurrently with the identification period. To learn more about proper identification, click here.

Improvement Exchange

– A type of exchange allowing the exchanger to make improvements on or within the replacement property. An improvements exchange may be used as part of a forward exchange or a reverse exchange. Learn more about improvement exchanges here. Also known as a "build-to-suit" exchange or a construction exchange.

Intermediary

– Entity acting as a middleman in a financial transaction. See also Qualified Intermediary.

Internal Revenue Code (IRC) Section 1031

– Allows for an exchanger to defer their capital gains tax and depreciation recapture tax in a like-kind, tax-deferred exchange of real investment properties.

Like-Kind Exchange

– The means of deferring federal (and, in most cases, state) capital gains and recaptured depreciation taxes on the sale or disposition of real property and the acquisition of like-kind property. A like-kind exchange must be executed pursuant to Section 1031 of the I.R.C. and Section 1.1031 of the Treasury Regulations.

Like-Kind Property

– Refers to the nature and character of the property and not to its grade or quality, so that one kind or class of property may not be exchanged, under Section 1031, for property of a different class or kind. As a general rule, as long as the purpose of the taxpayer is to hold the property as an investment for use in a trade or business, real property will be like-kind with other real property. Accordingly, real property should not be exchanged for personal property.

Master Tenant

– In a DST structure, the trust will often lease the entire property to a Master Tenant, who then subleases the property to the actual tenants. This arrangement is necessary to meet the legal requirements of the trust, and allows for two seemingly contradictory situations: 1.) It allows the investors in a DST to have a direct interest in real estate. 2.) It removes both the trust and the investors from the direct day-to-day management of the property and its subleases, which are now handled by the Master Tenant.

"Mortgage Boot"

– Occurs when the debt assumed on the replacement property is less than the existing debt on the relinquished property at the time of sale or disposition. Generally speaking, mortgage boot received triggers the recognition of gain and is taxable, unless offset by cash boot added or given up in the exchange. (see Boot)

Multiple Property Exchange

– Disposition and/or acquisition of more than one property in a Section 1031 exchange.

NNN Lease

– A NNN Lease is a net lease, structured as a turnkey investment property in which the tenant is responsible for paying the three major expenses associated with commercial real estate ownership: property tax, insurance and maintenance. NNN stands for Net-Net-Net and is pronounced "Triple Net." The rent collected under a net lease is net of expenses. It therefore tends to be lower than, for instance, rent charged under a gross lease. Net lease types include single net, double net, triple net and even bondable triple net leases. The term "net lease" is often used as a shorthand expression when referring to NNN leases.

Ordinary Income Tax

– Tax levied by Federal and State governments on a taxpayer's adjusted gross income. Investments that are held for less than one year are taxed at ordinary income tax rates. (See capital gain tax)

Original Purchase Price

– A property's "original purchase price" is the amount the owner paid to acquire it. This is the starting line for calculating the basis of a property.

Pass-through Entity

– Where the entity files an informational tax return, but the tax consequences (such as recognized income) pass through to the owners. Also referred to as a "flow-through" entity.

Partial Exchange

– Arises when fewer than 100% of possible tax liability is deferred in a like-kind exchange. In the case of a partial exchange, tax liability is incurred on any non-qualifying portion; taxes are still deferred on the qualifying portion of potential gain.

Principal Residence Exemption

– Exclusion from capital gain tax on the sale of principal residence of $250,000 for individual taxpayers and $500,000 for couples filing jointly under I.R.C. Section 121.

Private Placement Offering

– The sale of securities to a relatively small number of select investors as a way of raising capital. Since a private placement is offered to a few select individuals, the placement does not have to be registered with the Securities and Exchange Commission. Private placement offerings can be made to institutional investors or to accredited investors.

Property Boot

– A taxpayer who receives money or non-qualifying property is considered to have received property boot.

Qualified Escrow Account

– Ensures that the exchanger's sale proceeds are held as fiduciary funds and wherein the exchanger is limited in their ability to receive, pledge, borrow, or obtain the benefits of the assets from the sale of the relinquished property in compliance with Treasury Regulations.

Qualified Exchange Accommodation Arrangement

– A tax strategy enabling investors to capture their replacement property before selling or disposing of their relinquished property and still comply with I.R.C 1031.

Qualified Intermediary (QI)

– A third-party entity that serves to facilitate the Section 1031 Exchange on behalf of the exchanger. Also known as the facilitator or accommodator, the qualified intermediary will work under an agreement with the exchanger to take possession of proceeds from the escrow of the relinquished property and utilize those same proceeds to fund the escrow of the replacement property. This safe harbor prevents the exchanger from having constructive receipt of the funds from the sale of the relinquished property.

"Qualified Use"

– An exchanger must intend to use the property in their trade or business, to hold the property for investment or to hold the property for income production in order to satisfy the qualified use test.

Real Estate Investment Trust (REIT)

– A trust used to invest (primarily in real estate and mortgages) and passes income, losses, and other tax items to its investors. Since REITs are typically classified as security, they are not exchangeable in 1031.

Real Estate Fund (Private Equity Real Estate Fund)

– A mutual fund that pools capital from investors and invests primarily in equity or debt of real estate to produce income and capital gains for its unit holders. These investments typically involve an active management strategy, ranging from moderate reposition or releasing of properties to development or extensive redevelopment. These funds typically have a limited life span, covering an investment period during which properties are acquired and a holding period during which active asset management will be carried out and the properties sold.

Relinquished Property

– Any property sold or disposed of by the exchanger as part of a 1031 exchange.

Replacement Property

– Any property purchased or received by the exchanger as part of a 1031 exchange.

Reverse 1031 Exchange

– The tax-deferral strategy used when the exchanger wants to acquire potential replacement property prior to selling or disposing of relinquished property. Read more about reverse exchanges here.

Revenue Procedure 2002-22

– Revenue Procedure 2002-22 lays out the guidelines by which an interest in a Tenant-in-Common (TIC) property qualifies as a replacement property in a 1031 exchange.

Revenue Ruling

– A "Revenue Ruling" (Rev. Rul.) is a public declaration by the Internal Revenue Service that explains how the tax code applies to a particular situation. Revenue Rulings state the official position of the IRS, and can be relied upon by all taxpayers. Revenue rulings are published both in the Federal Register and in the Internal Revenue Bulletin. The numbering system for Revenue Rulings corresponds to the year in which they are issued. For example, Revenue Ruling 2004-86 is the eighty-sixth Revenue Ruling issued in the year 2004. Revenue rulings are different from Revenue Procedures.

Royalty

– Royalties are payments made by one party to another for the use or using up of an asset. Oil and gas royalties are paid based upon the amount of oil and gas produced from a lease. Oil and gas royalty interests are classified as real property, similar to real estate assets that may be bought and sold privately or through public auctions like other real estate.

Safe Harbors

– Term for any I.R.S. provision giving the taxpayer protection so long as certain requirements to comply with the Internal Revenue Code are met. Safe Harbors help qualified intermediaries and exchangers to structure 1031 exchanges without worry about constructive receipt issues.

Seller Carry-Back Financing

– When the buyer of a property gives the seller of the property a note, secured by a deed of trust or mortgage. In a Section 1031 Exchange, seller carry-back financing is treated as boot, unless it is sold at a discount on the secondary market or assigned to the seller as a down payment on the replacement property.

Simultaneous 1031 Exchange

– An exchange where the sale of relinquished property and purchase of the replacement property closer or transfer at (approximately) the same time.

Sponsor

– The sponsor is the party who acquires the assets and structures and offers a securitized real estate offering such as a DST, a TIC, a REIT, an oil and gas royalty interest or a real estate fund. In the case of a DST, the sponsor will acquire the real estate, structure the trust, make the private placement offering to accredited investors through one or more brokerages and contract with the master tenant and professional management company, both of which are frequently affiliates or subsidiaries of the sponsor.

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 person or entity that is completing the tax-deferred, like-kind exchange transaction, commonly referred to as "exchanger".

Tenancy-in-Common (TIC)

– A co-ownership structure under which an investor may own an undivided fractional interest in an entire property and participate in a ph4oportionate share of the net income, tax shelters and growth.

– TIC interest represents an undivided fractional interest in a property. Also known as "co-tenancy," the respective co-tenants each retain the right to dispose of or borrow against their interest without the agreement of the other co-tenants. In a 1031 exchange, an exchanger may acquire a TIC interest with one or more other investors and use the interest as a like-kind replacement property.

"Three-Property Rule"

– Under the three-property rule, an exchanger may identify up to three potential replacement properties without regard to their combined fair market value. This is the most common method of complying with the IRS' rules during the identification period, largely due to the difficulty of fitting within the 200% rule or the 95% rule.

Tenant-In-Common (Tic)

– "Tenant-in-Common" (TIC) is a way of holding title to real estate in which each owner is deeded an undivided, fractional interest. Revenue Procedure 2002-22 increased the popularity of TIC investments by more-officially recognizing them as valid replacement properties for use in 1031 exchanges. [Click here to read more about the Tenant-in-Common ownership structure.]

Total Return

– The "total return" of an investment, or pool of investments, is the sum of all categories of return to an investor, including any income, principal reduction, and capital gains. Total return may be expressed as a total or annualized percentage or as a simple dollar amount representing the aggregate of all of the components that made up the return.

Total Revenue

– A company's "total revenue" comprises all money actually received during a specified period. It accounts for discounts and returns, as well as any interest or dividends derived from investments or other activity outside a company's core business. Total Revenue differs from Gross Sales in that Gross Sales do not account for losses due to discounts, unpaid invoices, or returns, or for gains due to activities outside core business operations such as investments or the sale of company assets. Total Revenue is called "Gross Income," the "Top Line," and sometimes "REVs."

Total Sales Cost

– The "total sales cost" of a property includes all of the expenses incurred as a result of selling or relinquishing it. This includes property inspections, sales commissions, loan fees and escrow fees. Sales costs may be deducted from the total sales price of a property prior to calculating capital gains.

Total Sales Price

– A property's "total sales price" is the amount the buyer paid to acquire it, including sales costs and any remaining debt on the property, whether it will be paid off with the proceeds immediately. This is the starting line for calculating the gross proceeds from the sale.

Total Yield

– "Total yield" may refer to slightly different aspects of an investment's return. For example, it may be used to describe the sum of the cash flow distributions and the payments on the principle of a loan (principal reduction), in order to show that investors benefit from the income of the offering beyond just the cash flow. In such a context and during the operating stage of an investment, total yield would not include potential capital gains. However, after an investment has been sold and capital gains have been realized, it is not uncommon to include capital gains when discussing "total yield." It is important to understand the components that make up total yield to distinguish between net income (realized currently on an ongoing basis), principal reduction (realized after a sale or refinance), and capital gains (realized after a sale or after all capital has been returned via the cash flow or a refinance.

Treasury Decisions (TD)

– "Treasury Decisions" (TD) are temporary or final Treasury Regulations published in the Federal Register and in the Internal Revenue Bulletin.

Undivided Fractional Interest

– With the tenancy-in-common ownership structure, each tenant owns an undivided fractional interest in the whole property but not a particular part of the property. Rather, they have fractional ownership, together with the other tenants, of the entire undivided property.

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