Real estate · Investors
1031 Exchange Attorney and CPA: Defer Tax on Your Investment Property Sale
Sell a rental or commercial building, buy another, and defer the capital gains tax if every Section 1031 deadline and dollar is handled correctly. One attorney who is also a CPA handles the contracts and the tax analysis.
Firm particulars
- Attorney
- Hani H. Khatib, Attorney at Law · CPA · LL.M. (Taxation)
- Office
- 6600 W College Dr, Ste 207, Palos Heights, IL 60463
- Hours
- Monday to Friday, 9:00 a.m. to 5:00 p.m.
- Telephone
- (708) 722-2222
- info@khatiblaw.com
- Accreditation
- BBB Accredited since April 2022 · A+
What we handle
What a 1031 exchange attorney does
A 1031 exchange attorney builds the sale and the purchase so that the gain on an investment property is deferred rather than taxed. Section 1031 of the Internal Revenue Code lets an owner of real property held for investment or business use exchange it for other like-kind real property and defer the tax on the gain until the replacement property is sold. The rules are mechanical and unforgiving: a written identification within 45 days, a closing within 180 days, proceeds held by a qualified intermediary, and a replacement of equal or greater value and debt. Miss one and the entire gain is taxed in the year of sale.
Khatib Law LLC represents Illinois investors, landlords and business owners in forward and reverse exchanges from its Palos Heights office. Hani H. Khatib, Attorney at Law · CPA · LL.M. (Taxation), drafts the exchange provisions, coordinates the intermediary and both closings, and prepares the tax analysis that tells you, before you list, how much tax you are deferring and whether the exchange is worth its cost. Contact the office before you list, because an exchange cannot be started after the proceeds leave the closing table.
At a glance
The 1031 exchange rules at a glance
- Qualifying property
- Real property held for investment or for use in a trade or business; personal property no longer qualifies; a principal residence and property held for sale (flips, inventory lots) are excluded
- Like kind
- Any U.S. real property for any other U.S. real property, improved or unimproved; U.S. property cannot be exchanged for foreign property
- Identification
- In writing, signed, delivered to the intermediary or seller by midnight of the 45th day after the sale closes
- Identification limits
- 3 properties of any value; or any number worth up to 200 percent of what was sold; or any number if you acquire 95 percent of the value identified
- Exchange period
- Replacement property received by the earlier of the 180th day after the sale or the due date of your return, including extensions, for the year of sale; a November seller files an extension to get the full 180 days
- Proceeds
- Held by a qualified intermediary under an exchange agreement that bars you from receiving, pledging or borrowing against them until the exchange ends
- Full deferral
- Replacement value and debt at least equal to the relinquished property, all net equity reinvested; any shortfall is boot and is taxed
- Same taxpayer
- The entity or person that sells must be the one that buys; in an exchange with a related party (family members, entities you control), the deferred gain is recognized if either side disposes of its property within two years
- Reporting
- Form 8824 with the return for the year of the sale; two more years for related-party exchanges
Start here
Is this you?
You own a six-flat in Chicago or a strip center in Orland Park, you have depreciated it for twenty years, and a sale would mean a large tax bill.
You want to trade a management-heavy building for a triple-net leased property or land you can hold.
You found the building you want before your current building is under contract.
You sold investment property last month and the title company wired you the proceeds; you want to know whether an exchange is still possible. (It is not; the proceeds had to go to an intermediary at closing.)
Property that qualifies
Both properties must be real property held for investment or for productive use in a trade or business; since the 2017 tax act, only real estate qualifies. Property held primarily for sale, such as a house bought to flip or a developer's lots, is excluded, and so is your residence, although a vacation home can qualify under the rental safe harbor in the FAQ below. All domestic real property is like kind to all other domestic real property: an apartment building for farmland, a condominium for a warehouse, a leasehold of 30 years or more for a fee interest (Treas. Reg. 1.1031(a)-1(c)).
The 45-day identification
The identification period begins on the day the relinquished property is transferred and ends at midnight on the 45th day. Neither it nor the 180-day exchange period can be extended, except that the IRS postpones both after a federally declared disaster for taxpayers who qualify under section 17 of Revenue Procedure 2018-58. The identification must be in writing, signed by you, and delivered to a party to the exchange other than yourself or a disqualified person, in practice the intermediary. Each property must be described unambiguously by address or legal description, within the three-property, 200 percent and 95 percent limits in the table above. An identification can be revoked and replaced in writing before the 45th day; after that, the list is fixed.
The qualified intermediary holds the money and signs the assignments. The regulations treat an exchange through an intermediary as a direct exchange rather than a sale followed by a purchase: the intermediary enters a written exchange agreement with you and transfers the properties by assignment of the contracts, and the agreement must bar you from receiving, pledging or borrowing against the money before the exchange ends (Treas. Reg. 1.1031(k)-1(g)(6)). If you or your agent touches the proceeds, the exchange fails. The regulations also bar anyone who has acted as your agent within the two years before the sale, including your attorney, accountant, real estate agent or broker, from serving as intermediary (Treas. Reg. 1.1031(k)-1(k)). That means we cannot be your intermediary, and the intermediary cannot be your adviser. Intermediaries are largely unregulated. The attorney's first job is to confirm that the one you choose holds funds in a segregated, qualified escrow or trust account and carries fidelity and errors-and-omissions coverage.
Before the sale closes, we add an exchange cooperation clause to the contract, review the intermediary's exchange agreement and the assignment, and confirm that the closing statement sends every dollar of net proceeds to the intermediary. Between closings we track the 45-day and 180-day dates and the identification letter. On the purchase side we draft the replacement contract with the same clause, confirm the loan amount covers the debt replacement, and reconcile both settlement statements so that the figures reported on Form 8824 match what actually happened. See the real estate hub for how the closings themselves work.
Reverse exchanges
Reverse 1031 exchanges
When the replacement property has to close before the relinquished property sells, Revenue Procedure 2000-37 provides a safe harbor. An exchange accommodation titleholder, usually a single-member LLC formed by the intermediary, takes legal title to the replacement property (or, less often, the relinquished property) and holds it under a qualified exchange accommodation agreement. Within 45 days after the parking you identify the property to be sold, and the parked property must be transferred within 180 days after the titleholder acquired it. Revenue Procedure 2004-51 denies the safe harbor for a replacement property you owned within the 180 days before parking it. The same structure allows an improvement exchange, in which exchange funds pay for construction on the replacement property while the titleholder holds it.
A reverse exchange costs more: the accommodation LLC must take title and be a borrower or co-borrower on any acquisition loan, which requires lender consent, and two sets of transfer taxes and recording fees can apply in Cook County unless the structure is designed to avoid them. We handle the entity formation, the parking agreement, the lease back to you during the parking period, and the lender's documents.
Boot is any consideration you receive that is not like-kind real property, and it is taxed to the extent of your realized gain. A worked example, with round numbers:
You sell a building for $800,000 with a $300,000 mortgage and $40,000 of closing costs, so $460,000 of cash goes to the intermediary. You buy a replacement for $700,000 with a $250,000 loan and $450,000 from the intermediary. Three things happened: $10,000 of cash came back to you (cash boot), you replaced only $250,000 of the $300,000 of debt (mortgage boot of $50,000), and the replacement cost $100,000 less than the sale price. The recognized gain is $60,000, assuming your realized gain is at least that much; adding $50,000 of cash at the second closing or borrowing $300,000 would have eliminated the debt boot.
Closing costs paid from exchange funds, such as commissions, title charges and the intermediary's fee, reduce the boot. Prorations, security deposits transferred to the buyer and rent credits paid from the proceeds are not exchange expenses and can create boot unless they are paid from outside funds; we structure the closing statement accordingly. A seller-financed note received at closing is also boot unless the intermediary takes it.
The tax deferred
Depreciation recapture and the tax you are deferring
The tax a 1031 exchange defers is larger than most sellers expect, because gain on a depreciated building has three layers: unrecaptured section 1250 gain (the straight-line depreciation taken) at a maximum federal rate of 25 percent; the remaining long-term gain at 0, 15 or 20 percent depending on your income; and the 3.8 percent net investment income tax once modified adjusted gross income exceeds $200,000 for a single filer or $250,000 for a joint return. Illinois adds its flat 4.95 percent to every layer, and because Illinois base income starts from federal adjusted gross income (35 ILCS 5/203), gain deferred on the federal return is deferred for Illinois too; the FAQ below covers out-of-state replacement property.
An exchange defers all three layers. Your basis in the replacement property is the basis of the property given up, adjusted for boot and additional cash, so the deferred gain and the depreciation history follow you into the new building. Sell the replacement in a taxable sale and the whole accumulated gain is recognized then; hold it until death and the beneficiary's basis is reset to fair market value (IRS Publication 551), which eliminates the deferred gain permanently. That end point is why exchanges belong inside an estate plan; see our estate planning and tax planning pages. Exchanging into a property you may later live in is possible, with the timing rules in the FAQ below.
Most Cook County investment property is held in a single-member LLC or an Illinois land trust, and both work in an exchange. A single-member LLC is disregarded for income tax, so the owner is the taxpayer. A land trust beneficiary with the power of direction is treated as owning the real estate and exchanges the beneficial interest. Multi-member LLCs and partnerships exchange as the entity. The partners cannot each take their share of proceeds and buy separately without first restructuring, and a restructuring done in the months before a sale invites IRS scrutiny. Where siblings or partners want different outcomes, the planning has to start before the listing agreement. Our business attorney page covers the entity side, and our article on commercial purchase and sale agreements covers the contract.
The difference
Why an attorney who is also a CPA
The decision is a tax calculation
Whether to exchange, pay the tax, or sell on an installment basis depends on the depreciation taken, the unrecaptured 1250 gain, the net investment income tax, your Illinois rate, and your estate plan. We compute the actual deferral before you commit to a strategy with hard deadlines.
Both closing statements and the Form 8824 figures are reconciled at one desk
The exchange cooperation clauses, the assignments and the boot analysis on each settlement statement are prepared by the same person, who gives your return preparer the reconciled numbers for Form 8824, so nothing is lost between the attorney who closed the deal and whoever files the return.
Privileged advice
Tax planning that stays inside an attorney-client engagement is protected in a way that advice from a separate accounting engagement may not be; the privilege covers the legal advice, not the return itself. See why one adviser for law and tax changes the advice.
Process
How it works
Call before you list
Before the listing agreement · about an hour · in person or by phone
We review the property's depreciation schedule, your basis and the likely sale price and tell you what a taxable sale would cost and what an exchange would defer.
Set up the exchange
Before the sale contract is signed · usually one to two weeks
We choose and vet the qualified intermediary, draft the cooperation clause, and calendar the 45-day and 180-day dates.
Close the sale
Day zero · the 45-day and 180-day clocks start
The sale contract is assigned to the intermediary and all net proceeds go to the exchange account; we review the settlement statement for boot.
Identify and buy
Identify by day 45 · close by day 180 or your return due date, whichever is first
We prepare the identification letter, negotiate the replacement contract, confirm the debt replacement with the lender and close within the exchange period.
Report
After the second closing · with the return for the year of sale
We prepare the basis schedule for the replacement property and the Form 8824 worksheet for your return preparer, and keep the file for the related-party and residence-conversion periods.
Questions
Questions we are asked
What are the 1031 exchange rules?
The property sold and the property bought must both be real property held for investment or for use in a trade or business, not a personal residence or property held for sale. Replacement property must be identified in writing within 45 days after the sale closes and received within 180 days after it, or by the due date of that year's return including extensions, whichever is earlier (Treas. Reg. 1.1031(k)-1(b)). Sale proceeds must be held by a qualified intermediary, never by you. To defer all gain, the replacement must cost at least as much as the property sold and you must reinvest all the equity and replace the debt paid off.
Do I need an attorney or a qualified intermediary?
Both, and they cannot be the same person. The regulations require a qualified intermediary to hold the proceeds and transfer the properties, and they disqualify anyone who has acted as your attorney, accountant or agent within the two years before the sale (Treas. Reg. 1.1031(k)-1(k)). The intermediary holds money and signs assignments; it does not give legal or tax advice. The attorney drafts the exchange language in both contracts, reviews the intermediary's agreement and the security of the funds, and makes sure the identification and closing deadlines are met.
What is a reverse 1031 exchange?
In a reverse exchange you buy the replacement property before you sell the old one. Because you cannot own both at once and still exchange, an exchange accommodation titleholder takes title to one of the properties and parks it under Revenue Procedure 2000-37. Within 45 days you identify the property to be sold, and the parked property must be transferred within 180 days of the parking. Reverse exchanges cost more because the accommodation titleholder is usually a single-purpose LLC that must take title, and lender consent is needed if the parked property is financed.
Can I exchange a rental into a property I will later live in?
Yes, with two timing rules. The replacement must be held for investment when acquired; Revenue Procedure 2008-16 provides a safe harbor if you own it for 24 months after the exchange and in each of those two years rent it at fair rental for at least 14 days and use it personally no more than the greater of 14 days or 10 percent of rental days. If you later move in and sell, the principal residence exclusion under section 121 is unavailable for five years after the exchange (IRC 121(d)(10)), and gain attributable to depreciation and to the period of non-qualified use remains taxable.
Does Illinois tax a 1031 exchange differently?
No. Illinois base income starts from federal adjusted gross income (35 ILCS 5/203), so gain deferred under section 1031 on the federal return is also deferred for the Illinois 4.95 percent income tax (35 ILCS 5/201). Illinois has no separate exchange election and no provision that tracks and later taxes gain deferred into property in another state. When the deferred gain is eventually recognized, Illinois taxes it at the flat rate in effect that year.
What is boot?
Boot is anything you receive in the exchange other than like-kind real property, and it is taxable up to the amount of your gain. Cash boot is sale proceeds you take out or that the intermediary returns to you. Mortgage boot is debt on the old property that is not replaced by debt on the new one or by added cash. Non-qualifying property, such as equipment included in a sale, is boot. Certain closing costs reduce boot; prorated rents and security deposits paid to the buyer can create it. A partial exchange with boot is still valid; it simply defers less.
Can an LLC or a land trust beneficiary do a 1031 exchange?
The taxpayer that sells must be the taxpayer that buys. An LLC can exchange in its own name; a single-member LLC is disregarded for tax purposes, so its owner can sell in the LLC and buy individually or through a new single-member LLC. A land trust beneficiary who holds the power of direction is treated as the owner of the real estate and can exchange the beneficial interest. Partners in a multi-member LLC who want different outcomes face a harder problem; splitting the entity before a sale is scrutinized by the IRS and must be planned well ahead of the listing.
Related
Related services
Tax planning
What is tax planning, and how is it different from tax preparation?
Tax preparation records what already happened. Tax planning changes what will happen, which only works before the decision is made.
Before the decision, not after itBusiness
What does a business attorney in Chicago do for a small business?
A business attorney and CPA in one office for Chicago-area small businesses: Khatib Law LLC helps owners in Chicago and the southwest suburbs form, run, buy, sell and hand down their companies, with the legal document and its tax result worked out together.
Formation to successionAttorney and CPA
What is the difference between a tax attorney and a CPA?
Hani H. Khatib is licensed as an attorney and as a Certified Public Accountant and holds an LL.M. in Taxation. This page explains what a CPA attorney changes for you, and where the advantage ends.
Khatib Law
Your attorney
Hani H. Khatib
Attorney at Law · CPA · LL.M. (Taxation)
Founder and managing attorney of Khatib Law LLC, established in Palos Heights in 2017. An attorney licensed in Illinois and a Certified Public Accountant, he concentrates his practice in estate planning, real estate, tax controversy and small-business matters. About Hani Khatib
Request a consultation
Tell us what you are facing.
A sentence or two is enough to start. We will tell you what the first meeting involves, and whether there is a charge for it, before you commit to anything.
(708) 722-2222
Monday to Friday, 9:00 a.m. to 5:00 p.m. · 6600 W College Dr, Ste 207, Palos Heights
What happens next
Your message goes to the firm’s office, not a call centre.
If you mention a deadline, it is read first.
We run a conflicts check and, if we can help, call or email you to set a time.
We confirm the kind of matter and what the first meeting involves, including whether there is a charge for it.
If we go forward, you receive a written engagement letter.
Scope and fee basis in writing before any work begins. Please do not email documents until we have confirmed an engagement in writing.
What to bring to the first meeting
- The property's most recent depreciation schedule or tax return
- The deed and the mortgage statement
- Any listing agreement, letter of intent or offer you have received
- The entity documents, if an LLC or land trust holds title
- A description of the replacement property you have in mind