As a 1031 exchange facilitator, we often get questions about how seller financing affects a 1031 exchange. To put it simply, seller financing can complicate a 1031 exchange but it is still possible to proceed with one.
Seller financing occurs when the seller of a property acts as the lender and provides financing to the buyer. In a 1031 exchange, this can cause some issues as the IRS has specific rules that must be followed to ensure the exchange is valid.
One of the main concerns with seller financing is that it can create a boot. A boot is any cash or non-like-kind property received by the taxpayer during the exchange. If a boot is received, it can trigger taxable gain. This means that if the seller provides financing, they must ensure that the terms of the loan do not create a boot.
To avoid a boot, the seller may have to adjust the terms of the loan to ensure that the debt is equal to or greater than the adjusted basis of the relinquished property. If the loan is less than the adjusted basis, it will be considered a boot and the taxpayer will have to pay taxes on the amount received.
Additionally, if the seller financing extends beyond the end of the exchange period, it can also cause issues. The exchange period for a 1031 exchange is 180 days from the date of the sale of the relinquished property or the due date of the taxpayer's tax return, whichever comes first. If the seller financing extends beyond this period, it can cause the exchange to fail.
Overall, while seller financing can complicate a 1031 exchange, it is still possible to proceed with one. It's important to work with experienced professionals, like 1031 Exchange Place, to ensure that the exchange is structured correctly and all IRS rules are followed to avoid any issues.