Calculate Tax Liability For Selling Your Investment Property

Even in a thriving seller's market, one aspect that concerns investment property owners is the burden of capital gains taxes. For instance, in California, owners of investment properties can face tax rates as high as 42.1% upon the sale of their property. Due to the substantial tax liability in various states, many investors are now exploring tax-deferral strategies. In this case, the property owner should consider utilizing a 1031 Exchange in California.

Comprehending Tax Liability

Tax Liability = Capital Gains Tax + Depreciation Recapture Tax

As an experienced 1031 Exchange professional, one of our primary tasks when assisting a client is to help them grasp their tax liability. Tax liability stemming from the sale of investment real estate encompasses more than just the federal capital gains tax.

It represents the total sum of taxes owed when an investment property is sold. Apart from Federal Capital Gains Tax (ranging from 15% to 20%), the property owner may also be subject to State Capital Gains Tax (ranging from 0% to 13.3%), Depreciation Recapture Tax (25%), and Net Investment Income Tax (3.8%).

Five Steps to Calculate Your Tax Liability

Young woman using calculator to manage business expenses highlighting the importance of a 1031 exchange in calculating tax liability

When estimating your tax liability after selling an asset, federal and state tax authorities consider the taxable gain rather than the gross proceeds from the property sale. To determine the total tax liability, follow these five steps:

Step 1: Estimate the Net Sales Proceeds

Begin by establishing the fair market value of the investment property or the listing price if you put the property on the market. There are various methods to calculate the sales price, but the two most common approaches are the income method and the comparable sales method.

For the income method, divide the current or projected net operating income (NOI) by the desired capitalization rate (cap rate).

For the comparable sales method, investors assess the value based on recent sales of comparable properties in the local area, considering factors such as size and quality.

Smaller properties and single-family rentals usually rely on the comparable sales method, while larger properties use the net operating income to determine value. Many investors seek the assistance of an experienced broker to establish a justifiable sales price.

Step 2: Estimate the Tax Basis

Tax basis, or remaining basis, represents the total capital invested and capitalized in the asset, which includes the purchase price, closing costs, and capitalized improvements, minus the accumulated depreciation. To calculate the tax basis, consider the following example:

Assuming you purchased the property for $850,000 and invested $200,000 in capital improvements. Additionally, you have claimed $750,000 in depreciation over the ownership period. In this case, your remaining basis would be $300,000. Note that there are certain limitations regarding which items can be included in the tax basis.

For instance, mortgage insurance premiums and routine maintenance costs are typically excluded. It is advisable to consult with a tax advisor to determine the current remaining basis of your property, taking into account adjustments for capital improvements and tax deductions.

Increasing the Tax Basis:

Property owners have the opportunity to increase their tax basis by making investments in the property through capitalized improvements. These improvements, such as a new kitchen, roof, or an addition, along with financing expenses, contribute to increasing the investment in the property. When selling the property, these capitalized improvements are subtracted from the net sales proceeds to determine the property's gain.

While certain costs like legal fees, management expenses, and small repairs are treated as operating expenses and not capitalized, expenses for capitalized improvements provide owners with flexibility to increase the tax basis of the asset, rather than deducting them as operating expenses in the current year. The costs of capital improvements can vary widely, offering owners the ability to adjust the tax basis accordingly.

Decreasing the Tax Basis:

Owners of investment real estate that includes a building or structure need to decrease the property's tax basis, which affects the calculation of the second form of gain known as "depreciation recapture." The primary method to decrease the tax basis is through an annual depreciation deduction. This deduction is subtracted from the tax basis each year and is treated as a tax expense that offsets income. However, it is important to note that depreciation is eventually recaptured at the time of sale.

Despite the initial decrease in tax basis and the subsequent increase in tax costs, the depreciation deduction reduces the investor's annual taxable income and lowers the income tax due during the ownership years. It's worth mentioning that annual depreciation is mandatory, and depreciation recapture is charged based on the total amount of available depreciation throughout the ownership period, regardless of whether depreciation expenses were recorded. Additionally, easements, certain insurance reimbursements, and other tax deductions like personal property deductions can also contribute to decreasing the tax basis.

Step 3: Calculate Taxable Gain

The taxable gain represents the realized return or profit from the sale of an asset. It is derived by subtracting the original tax basis (pre-depreciation) from the net sales proceeds. Tax authorities such as the IRS and Franchise Tax Board utilize the taxable gain figure to determine the capital gains tax. To calculate the taxable gain, subtract the original tax basis from the net sale proceeds.

Continuing with the previous example, assuming your original tax basis is $1,050,000 and the net proceeds from the property sale amount to $3,250,000, the taxable gain would be $2,200,000. The second part of the tax liability is calculated based on the amount of accumulated depreciation taken throughout the ownership period, referred to as accumulated depreciation. In the given scenario, this amount is $750,000.

Step 4: Determine Your Filing Status

Your capital gains tax rate is determined by factors such as your income, tax filing status, the state where you pay income taxes, and the location of the property being sold. Various tax authorities, including the IRS, state governments, and some local governments, impose capital gains taxes on investment property sales, thereby impacting the overall tax rate and increasing your tax obligation.

At the federal level, the capital gains tax rate is as follows: 0% for investors with an annual income (including gains from asset sales) below $40,000; 15% for investors with an annual income ranging from $40,001 to $441,450; and 20% for investors with an annual income exceeding $441,451.

Additionally, most state tax authorities also levy a capital gains tax, with rates ranging from 0% to 13.3%. California stands at the top with a 13.3% capital gains tax rate, while states such as Texas, Washington, and Florida do not impose state capital gains taxes.

Step 5: Calculate the Capital Gains Tax

Hand using a calculator with passbook and house model illustrating how a 1031 exchange can help defer tax liability

The capital gains tax is calculated based on the taxable gain, considering the tax rates determined by your income and filing status. There are four main categories of property tax: federal capital gains tax, state and local capital gains tax, depreciation recapture tax, and net investment tax.

For federal and state capital gains taxes, the taxable gain is subject to the applicable tax rates. In the example mentioned earlier, a California property owner with a taxable gain of $2,200,000 would owe 20% in federal capital gains tax and 13.3% in state capital gains tax, resulting in a total capital gains tax of $732,600.

Individuals with significant investment and rental income may also be subject to an additional 3.8% net investment tax, which is part of the Affordable Care Act and is added on top of the capital gains rate. Thus, the total capital gains tax bill in California would be 37.1% or $816,200 in the given example. It is important to note that this example specifically pertains to properties and taxpayers located in California, which has the highest capital gains tax rate in the country.

In addition to capital gains taxes, investors are also required to pay depreciation recapture tax. Depreciation deductions are taken annually to offset rental income. These deductions not only reduce the investor's annual tax liability but also decrease the remaining tax basis of the property. When selling the asset at a profit, the investor is required to repay those deductions, which is known as depreciation recapture.

At the federal level, the tax rate for depreciation recapture is a flat rate of 25%. It can also include up to 13.3% for state income tax and be subject to an additional 3.8% net investment income tax. While capital gains tax is calculated based on the taxable gain, depreciation recapture tax is calculated based on the accumulated depreciation during the investor's ownership. Based on the example with $750,000 of accumulated depreciation, the depreciation recapture tax in this scenario could be as high as $315,750.

Deferring Capital Gains Tax with a 1031 Exchange

Real estate investors have a valuable opportunity to defer, reduce, and potentially eliminate capital gains taxes through a strategy called a 1031 Exchange, also known as a "like-kind" exchange. This type of exchange, authorized under Section 1031 of the U.S. Internal Revenue Code, allows real estate investors to defer their tax liability when selling an investment property. In order to defer capital gains taxes, investors must reinvest the proceeds from the sale into like-kind investment property that has equal or greater value.

The term "like-kind" refers to any real estate that is of the same nature or class, rather than the same quality or property type. Essentially, this means that investors can exchange one investment real estate asset for another, as long as it falls under the category of like-kind property. It's important to note that personal residences do not qualify for a 1031 Exchange, as the exchange is limited to investment real estate assets.

The Rules for a 1031 Exchange

A 1031 Exchange is a powerful tool for deferring capital gains, depreciation recapture, and net investment income taxes after selling an asset. However, these exchanges can be complex transactions, and it is crucial to comply with the rules set forth by the IRS. Failure to adhere to these rules can result in a failed exchange or a partial exchange, leading to potential tax liabilities. Before proceeding with a 1031 Exchange, investors should familiarize themselves with the following primary rules:

Improving Cash Flow Potential with a 1031 Exchange

In addition to the tax savings, a 1031 Exchange offers the potential to enhance cash flow and appreciation by allowing the reinvestment of proceeds. Let's consider the example where the investor's total tax liability is $1,131,950. If the post-tax proceeds of $2,118,050 were reinvested and earned a 5% return, it would generate an annual income of $105,903.

However, by opting for a 1031 Exchange, the investor would have $3,250,000 available for reinvestment. Assuming the same 5% return, the exchanged proceeds would generate an annual cash flow of $162,500. This represents a significant difference in cash flow potential, exceeding $56,500. This is one of the primary benefits of 1031 Exchanges – the ability to keep all your equity working for you, generating income and potential appreciation.

By deferring capital gains tax and reinvesting the full sales proceeds into a new property, investors have the opportunity to leverage a larger amount of capital, potentially resulting in higher cash flow and increased investment returns. This enhanced cash flow potential is a key advantage of utilizing a 1031 Exchange as part of a strategic real estate investment plan.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. All investing involves risk of loss of some or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing. Any information provided is for informational purposes only. All scenarios provided for herein are hypothetical illustrations of mathematical principals only, not a promise of performance or success.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication. 

1031 Risk Disclosure: 

Is a 1031 Exchange Considered an Arm's Length Transaction?

In a 1031 exchange, investors can defer capital gains taxes by reinvesting the proceeds from the sale of one property into another. However, to qualify for the tax deferral, investors must follow strict rules, including the requirement for an arm's length transaction. An arm's length transaction means that the parties involved are unrelated and act in their own best interests.

To ensure compliance, investors use a Qualified Intermediary (QI) who holds the proceeds from the initial sale in a separate account. The QI must be an independent party and cannot have a relationship with the investor. Additionally, the IRS imposes restrictions on related-party transactions within a 1031 exchange, preventing the sale of acquired properties to related parties for at least two years.

This rule aims to prevent basis-shifting and the avoidance of capital gains recognition by trading low-cost basis properties for high-cost basis properties with related parties.

How Do Arm's Length Rules Impact 1031 Exchanges?

To maintain the arm's length nature of the transaction, investors must utilize a Qualified Intermediary (QI), also known as an Exchange Accommodator. The QI acts as an independent third party who facilitates the exchange, holds the proceeds from the initial sale, and ensures that the transaction adheres to the necessary rules and timelines.


One crucial rule in a 1031 exchange is the two-year holding period requirement. If either party involved in the exchange sells the property within two years of the exchange, the IRS will disqualify the transaction, resulting in the recognition of capital gains and potential tax liabilities. This rule is in place to prevent taxpayers from abusing the exchange by quickly selling the acquired property for immediate financial gains.

However, there are exceptions to the two-year rule. The IRS acknowledges that certain circumstances may warrant an early sale without disqualifying the exchange. These exceptions include:

●     Death of either party: If either the buyer or the seller passes away within the two-year holding period, the transaction will not be disqualified. The death of a party is considered an involuntary conversion and falls under an exception to the rule.

●     Involuntary conversion: In the event of an involuntary conversion, such as property damage or destruction by fire, natural disaster, or condemnation, the exchange may be exempt from the two-year rule. The taxpayer must prove that the sale of the property was a result of an unforeseen and involuntary event.

●     Non-tax avoidance motivation: If the taxpayer can demonstrate that the motivation for selling the property within the two-year period was not primarily driven by tax avoidance purposes, the exchange may still be eligible for tax deferral. The burden of proof lies with the taxpayer to establish a legitimate non-tax-related reason for the early sale.

It is essential to consult with a qualified tax professional or an experienced intermediary to ensure compliance with the arm's length rules and to navigate any exceptions that may apply. By following the guidelines and exceptions provided by the IRS, investors can effectively leverage the benefits of a 1031 exchange while adhering to the required rules and timelines.

The Impact of the Arm's Length Requirement on Fair Market Value in 1031 Exchanges

The determination of Fair Market Value (FMV) is crucial in any real estate transaction. FMV represents the value of a property as determined by the marketplace, where an objective purchaser is willing to pay. To ensure that a transaction meets FMV standards, it must be conducted at arm's length, meaning both parties are unrelated and act independently.

In real estate, FMV is typically determined by analyzing recent sales of comparable properties in the same area. This approach helps establish a fair and objective value for the property. If comparable sales data is insufficient, an expert appraisal can be used as an alternative method to determine FMV.

However, if you sell your property to a relative or someone with a personal or business relationship, there is a risk that the transaction may not reflect FMV. This can occur when the seller has an interest in selling at a lower price, and the buyer has an interest in paying less than the property's actual worth. Such considerations can jeopardize the qualification of a 1031 exchange for deferring capital gains taxes.

Complying with the arm's length requirement is essential in 1031 exchanges to ensure that FMV is upheld. When parties involved in a transaction have a non-arm's length relationship, the transaction may raise concerns about whether it truly reflects FMV. By ensuring that 1031 exchange transactions adhere to FMV principles, investors can mitigate potential challenges related to qualification, particularly in non-arm's length situations. Seeking guidance from tax professionals and experts in real estate valuation can help ensure compliance with FMV standards and the arm's length requirement in 1031 exchanges.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. All investing involves risk of loss of some or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing. Any information provided is for informational purposes only.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure:

·     There’s no guarantee any strategy will be successful or achieve investment objectives;

·     All real estate investments have the potential to lose value during the life of the investments;

·     The income stream and depreciation schedule for any investment property may affect the property owner’s income bracket and/or tax status. An unfavorable tax ruling may cancel deferral of capital gains and result in immediate tax liabilities;

·     All financed real estate investments have potential for foreclosure;

·     These 1031 exchanges are offered through private placement offerings and are illiquid securities. There is no secondary market for these investments.

·     If a property unexpectedly loses tenants or sustains substantial damage, there is potential for suspension of cash flow distributions;

·     Costs associated with the transaction may impact investors’ returns and may outweigh the tax benefits


Can a 1031 Exchange Defer Taxes on Rental Properties?

A 1031 exchange, also known as a Starker or like-kind exchange, is a powerful tax-saving strategy that allows real estate investors to defer taxes on the sale of a property by using the proceeds to purchase a similar "like-kind" property. This allows investors to reinvest their capital in new properties, without having to pay taxes on the sale of the previous property. However, many investors are not aware that 1031 exchanges can also be used to defer taxes on rental properties.

Rental properties can be an excellent investment, but they also come with a significant tax burden. When a rental property is sold, the investor must pay taxes on any gain from the sale. This can greatly impact the overall return on the investment. A 1031 exchange can be used to defer taxes on the sale of a rental property, allowing the investor to reinvest the proceeds into a new rental property without paying taxes on the sale.

This guide will explore how 1031 exchanges can be used to defer taxes on rental properties, including the rules and regulations that must be followed, the tax benefits, and strategies for successful exchanges. By the end of this guide, readers will have a solid understanding of how to use 1031 exchanges to defer taxes on rental properties and maximize their returns.

II. How 1031 Exchanges Work for Rental Properties

To qualify for a 1031 exchange, the property being sold and the property being purchased must be used for investment or business purposes. This means that primary residences do not qualify for a 1031 exchange, but rental properties do. Rental properties that generate income, whether it is residential or commercial, can be exchanged under a 1031 exchange.

When an investor wants to sell a rental property and acquire a new one through a 1031 exchange, they must comply with the rules and regulations set by the IRS. One of the most important rules is the 45-day identification period, during which the investor must identify up to three potential replacement properties.


The investor must provide a written identification of the replacement properties to a qualified intermediary within 45 days of selling the original property. Additionally, the investor must complete the exchange and acquire one of those properties within 180 days of selling the original property.

It's important to note that there are restrictions on the type of transactions that qualify for a 1031 exchange. For example, related party transactions, where the buyer and seller have a relationship, are not eligible for 1031 exchanges. Additionally, cash boot, which happens when an investor receives cash or other non-like-kind property as part of the exchange, is not allowed. This is why it's essential to work with a qualified intermediary who can assist with the exchange process and ensure compliance with the IRS regulations.

Another important aspect to consider is the mortgage assumption. In a traditional sale, the buyer usually takes over the existing mortgage, in a 1031 exchange, the mortgage doesn't get transferred and has to be paid off at the closing of the sale. The new property has to be financed separately.

In summary, 1031 exchanges can be used to defer taxes on rental properties, but the investor must comply with the rules and regulations set by the IRS. By working with a qualified intermediary, investors can ensure compliance with the 45-day identification period, the 180-day exchange period and the restrictions on related party transactions, cash boot and mortgage assumptions.

III. Tax Benefits of 1031 Exchanges for Rental Properties

One of the most significant benefits of a 1031 exchange for rental properties is the ability to defer paying taxes on the sale of the property. When an investor sells a rental property and uses the proceeds to purchase a similar "like-kind" property through a 1031 exchange, they can defer paying taxes on the sale until they sell the replacement property. This can significantly increase the investor's cash flow and overall returns.

Another benefit of 1031 exchanges for rental properties is the ability to diversify and expand the investment portfolio. By using the proceeds from the sale of a rental property to purchase multiple properties or different types of properties such as multifamily or commercial, investors can spread risk and increase potential returns. Additionally, 1031 exchanges allow investors to defer taxes on property appreciation and to use leverage to acquire new properties, which can increase the potential for profit.

It's important to keep in mind that the Tax Cuts and Jobs Act of 2017 placed some limits on 1031 exchanges and investors should consult with a tax professional to ensure compliance and maximize the benefits of a 1031 exchange. However, with proper planning and execution, 1031 exchanges can provide significant tax benefits for rental property investors.

In summary, 1031 exchanges can provide significant tax benefits for rental property investors. It allows them to defer taxes on the sale of a property, diversify and expand the investment portfolio, defer taxes on property appreciation and use leverage to acquire new properties. By understanding the rules and regulations and working with a qualified intermediary and tax professional, rental property investors can properly execute a 1031 exchange and maximize their returns.


IV. Strategies for Successful 1031 Exchanges on Rental Properties

When it comes to executing a successful 1031 exchange on rental properties, there are a few strategies that investors can use to maximize the benefits of the exchange.

First, it's important to identify replacement properties that align with the investor's goals and objectives. This means looking at properties that have the potential for strong cash flow, appreciation, and good location. It's also important to have multiple options for replacement properties, in case one falls through.

Another strategy for successful 1031 exchanges is to structure the exchange in a way that maximizes the benefits. This can include using a reverse exchange, where the replacement property is acquired before the original property is sold, or using a build-to-suit exchange, where the investor can construct a new property to their specific needs.

Special considerations for commercial rental properties include, paying attention to zoning laws, making sure the property is in good condition and ensuring that the property meets the needs of the business operating on it.

Finally, it's essential to work with a qualified intermediary and consult with a tax professional to ensure compliance with the rules and regulations and to help structure the exchange in a way that maximizes the benefits.

In summary, successful 1031 exchanges on rental properties require proper planning and execution. Investors should identify replacement properties that align with their goals and objectives, structure the exchange in a way that maximizes the benefits, and work with a qualified intermediary and tax professional to ensure compliance and to maximize the benefits of the exchange.

V. Conclusion

1031 exchanges can be a powerful tax-saving strategy for real estate investors, including those who own rental properties. By using a 1031 exchange, investors can defer paying taxes on the sale of a rental property and reinvest the proceeds into a new rental property without paying taxes on the sale. This can greatly increase cash flow and overall returns.

It's important to keep in mind that 1031 exchanges have rules and regulations that must be followed to ensure compliance with the IRS. This includes the 45-day identification period, the 180-day exchange period, and restrictions on related party transactions, cash boot and mortgage assumptions. Working with a qualified intermediary and consulting with a tax professional can help ensure compliance and maximize the benefits of the exchange.

In conclusion, 1031 exchanges can be a valuable tool for rental property investors looking to defer taxes and increase returns. However, it's important to understand the rules and regulations and to work with professionals to ensure compliance and maximize the benefits of the exchange.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. Information herein is provided for information purposes only and should not be relied upon to make an investment decision. All investing involves risk of loss of some, or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure:

Where to Start When Planning Your Finances?

The question of identifying the initial move when it comes to planning your finances can be quite complex and may not have a one-size-fits-all answer. In fact, a group of financial experts were asked this very question by Forbes' Finance Council and they provided a variety of responses. Some of their suggestions include:

●     Having a clear understanding of what your final objective is.

●     Keeping a detailed record of your financial inflow and outflow.

●     Gaining insight into your overall financial income and expenses.

●     Adopting a diverse approach when it comes to managing your banking accounts.

●     Starting to invest in various options as soon as possible.

●     Keeping a close watch on your credit score.

Get yourself paid.

One of the age-old principles of financial management that has been advocated by many experts, is the idea of paying yourself first. While it may not be the initial step when it comes to financial planning, (there are arguments to be made for both understanding your current financial position and also having a clear vision of where you want to end up) paying yourself first is seen as an essential step towards achieving financial stability and reaching your financial goals.

This method involves prioritizing saving and investing by putting some money aside from your income before allocating the rest for expenses. It helps in creating a buffer and ensuring you have enough resources to save and invest, which are necessary for reaching your financial goals.

Start with the fundamentals.

A critical initial step in financial planning is identifying and defining your goals. We all have short-term and long-term aspirations, and your objectives may vary depending on

your current financial situation. Elaborating on your goals, therefore, should include an assessment of your present financial position.

For instance, consider a 35-year-old, recently married person with a combined income of $200,000, $50,000 in student loans, a car loan balance of $25,000, and no mortgage. This snapshot puts your present financial situation into perspective and enables you to evaluate how much you can currently allocate towards savings and investments.

Once you have established your current position, you can then begin to identify and prioritize your financial goals. Whether it be saving for retirement, paying off debt, saving for a down payment on a home, or building an emergency fund, setting specific and measurable financial objectives will help you focus on the steps you need to take to achieve them.


More than one adviser suggests simply cutting back on everyday expenses to increase the amount of money you can divert to your goals. For example, we are all aware of how much it costs to buy coffee at a fancy café compared to making it at home. But, we don't often consider the cumulative effect of that daily expense over the course of a month or year, especially when compounded with investment.

In fact, small changes such as this, when implemented consistently over time, can make a significant difference in the long run. Additionally, it's a good idea to review your expenses on a regular basis to ensure that you're not overspending on non-essential items, and that you're allocating your resources in a way that aligns with your financial objectives.

Once you have set your goals and identified areas where you can cut back on expenses, you can then begin to explore different saving and investing options that align with your goals and risk tolerance. This may include traditional savings accounts, mutual funds, stocks, bonds or real estate investments. It is important to remember that building wealth takes time and consistency, and your plan should be reviewed and adjusted as needed.

Ultimately, by taking the time to identify your goals and start with the basics, you will be well on your way to creating a solid financial plan that will serve you well in the years to come.

Be adaptable.

As you progress in your financial journey, your circumstances may change, for better or for worse. To stay on track, you need to be able to adjust your budget and your plan accordingly. This can include responding to external changes, such as changes in your income or expenses, as well as re-evaluating and updating your goals as they evolve over time.

For example, consider a young couple with a good income but limited investments, their immediate goals likely included buying their first home, saving for retirement, and other milestones, as well as establishing an investment portfolio.

However, as time goes by, their situation and goals may change. They may have children and want to assist with their future educational plans. They may need a larger home and decide to turn their primary residence into a rental property, and buy a new home. They might have received an inheritance that they want to invest.

All these life changes will influence their goals and their ability to invest towards them. Therefore, it's essential to stay flexible and ready to make changes as needed.

Seek assistance.

Obtaining professional guidance for your finances can be beneficial for many individuals. There are a variety of experts available to help, such as financial advisors, financial planners, investment advisors, lawyers, CPAs, and more. It is worth considering seeking their help during significant life events, or if you don't already have someone you regularly consult. Some of these instances include:

●     Getting married

●     Going through a divorce

●     Becoming a parent

●     Inheriting money

●     Starting or selling a business

Another indication that you need professional direction is if you feel uncertain or uncomfortable making investment decisions or if you and your partner disagree on strategy. In this case, a neutral third party, especially one with a fiduciary responsibility, can help resolve any disagreements and develop a plan that works for both of you.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. Information herein is provided for information purposes only and should not be relied upon to make an investment decision. All investing involves risk of loss of some, or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure:

Retail Property Investing

Retail real estate is a subsector of the commercial real estate industry. While the commercial sector comprises properties such as land and buildings, the retail property is more specialized. Commercial real estate comprises of shopping, entertainment, and dining establishments. Historically, these properties have been favored by investors because they offer higher chances for big profits than multifamily properties. A well-connected or inventive investor may be able to uncover hidden value in retail assets that others cannot, so presenting investors with the possibility of outsized returns.

Consider the Existing Commercial Rent Roll

When first considering the purchase of a retail property, an investor must assess the quality of the current tenants. Exist any quality tenants with an institutional-grade corporate guarantee on the lease, or is the property occupied with little "mom-and-pop" shops? A corporate tenant is always more valued since future income is assured if the corporation continues to operate. If the property does not have institutional- or corporate-grade tenants, it is the responsibility of the prospective purchaser to do additional due diligence on the current tenants.

Investors should consider the current financial health of the operating businesses, the future viability of the business, and their confidence in the business's owner/manager. If an investor purchases a property only to discover that their new tenants cannot pay their lease rents, the investor faces a major problem. A comprehensive analysis of the historical rental payments and the financials of the tenants is essential for ensuring the stability of the asset. In addition to forcing their tenants to sign a personal guarantee on the lease, commercial retail property owners can reduce their investment risk by requiring renters to sign a personal guarantee committing them to timely rent payments.

An investor must also consider the effect of an anchor tenant. An anchor tenant, also known as a prime tenant, a draw tenant, or a major tenant, is a prominent, well-known business that leases a significant amount of retail space in a specific retail complex. Anchor tenants are intended to attract customers to your retail space, hence increasing sales for your other tenants. Occasionally, the anchor tenant will receive a significantly reduced lease rent to increase the overall success of the retail mall. Properties with a high-attraction anchor tenant, such as a Whole Foods Supermarket or Apple Store, are typically more valuable since the anchor attracts tenants to the spaces surrounding it, hence raising the asset's total value.

Analyze the Retail Property's Future Potential

A retail property investor must evaluate the current in-place rent for all in-place leases, prospective lease escalations, CAM reimbursements, unoccupied space, current market rent, and market projections. Valuing the existing rent roll is crucial since it determines how much debt may be obtained against a property. Typically, while utilizing conventional finance, a lender will only lend based on the existing cash flow. Experts in real estate recommend that investors acquire properties with a Debt-Service Coverage Ratio (DSCR) of at least 1.2. If the business goal is to increase rents on existing tenants, lease unoccupied space, or construct new space, the investor should wait until this income is realized before obtaining more debt financing for the property.

When determining the projected return on a property, future lease increases must be accounted for. For instance, if a property's leases do not expand and remain steady, an investor could lose money as running expenses and property taxes rise over time. Therefore, the investor should pay a lower initial price for the property to compensate for the loss of future income.

Leasing unoccupied space is one of the primary ways to create significant profits on retail property. An investor must conduct market research and determine the market rent per square foot for their property based on comparable signed leases in surrounding buildings. The future development surrounding a retail area can also significantly boost the property's value, and timing might be crucial. If an investor learns that a highly desirable tenant is moving into a space adjacent to a property they own, it may be advantageous to delay leasing until the neighboring tenant is in place. As a new tenant often increases the desirability of an area, more retailers may be interested in your site.


Plan Appropriately for Future Leasing Expenses

Depending on the business strategy, some items, such as deferred maintenance, tenant improvement budgets, broker fees, free rent periods, and interest reserve, must be budgeted in advance for successful execution. Depending on the condition of the property, various transactions will have varying capital expenditure requirements. Some homes may require roof replacement, HVAC system improvements, elevator renovations, façade repairs, etc. This is work that must be performed regardless of the building's occupancy status and is designated as an immediate requirement.

Costs associated with tenant leasing will vary from market to market and depend on whether the market favors landlords or tenants. If a new buyer is funding a transaction that entails leasing unoccupied retail property to a new tenant, they will negotiate the appropriate scope of work for the new tenant. This may consist of as little as a "white box," which is simply a blank canvas for the tenant's own improvements. Tenant enhancement funds can also be negotiated such that the landlord pays for any new construction for the use of the future tenant.

Additionally, the new tenant may negotiate an initial rent-free period to help them get their firm off the ground. The landlord must account for the downtime and have sufficient funds budgeted to cover the tenant's new expenses and debt payment obligations. In addition to these costs, landlords typically employ a leasing agent to find a tenant. Leasing costs range from 2% to 5% of the entire lease value and are negotiated prior to the broker commencing work. Before purchasing the property, the astute investor will know just how much each of these items will cost in order to collect sufficient funds to cover the Capex, operational expenditures, and debt payment.

Optimize Profits with the Best Lease Option

As an investor signs new leases with new tenants, he or she must critically consider how the terms will be written. The lease arrangement can be significant in deciding the viability of an investment. There are numerous methods for preparing an egg, and establishing a retail lease is no different. There are three primary types of retail leases, including gross, net, and modified gross leases.

In a gross lease, all property operating expenditures are covered by the tenant's rent. These costs may include property taxes, electricity, upkeep, etc. These expenditures are covered by the tenant's rent, which is paid by the landlord. As a result, the tenant's only outlay is typically the high base rent. Tenants tend to favor this sort of lease because they are not required to participate in the day-to-day operations of the building and the rent is fixed even if expenses fluctuate. For instance, throughout the summer, rent will remain unchanged despite the increased energy expenditures associated with air conditioner use.

The net lease is a commercial real estate lease that is extremely adjustable. A net lease has a lower base rent than a gross lease, but the tenant is responsible for fixed operating expenses such as property taxes, insurance, and common area maintenance. In a single net lease, tenants pay a fixed rent in addition to a portion of the property tax that would normally be negotiated with the landlord. The landlord pays for construction expenses, but the renter pays directly for utilities and other services. A double net lease is similar to a single net lease, except that the tenant also pays a portion of the property tax and property insurance. The landlord is responsible for maintaining the common areas, but tenants are responsible for their own utilities and trash removal. The renter pays for some or all of the costs of property taxes, insurance, and common area maintenance in addition to their base rent under a triple net lease. It is one of the most prevalent types of leases.

The modified gross lease (or modified net lease) is the third major type of commercial real estate lease and provides a fantastic compromise for both renters and landlords. The modified gross allows for greater flexibility in operating expenditure discussions. As with the gross lease, the base rent will be subject to the terms agreed upon by both parties. The distinctive characteristic is that the lease payment is fixed, regardless of whether expenses rise or reduce.

Want to learn how Perch Wealth can assist you in evaluating your 1031 exchange real estate options? Call us right away.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. Information herein is provided for information purposes only and should not be relied upon to make an investment decision. All investing involves risk of loss of some, or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure:

The History of Delaware Statutory Trusts

Commercial real estate, which has been regarded a "alternative" asset sector for a long time, has historically presented substantial entrance barriers. Due to the expense, inaccessibility of property information, and danger connected with purchasing properties individually, only the wealthy could enter the market. This comprises institutional investors such as life insurance companies, endowments, and pension funds, in addition to family offices and individuals with an extraordinarily high net worth. DSTs, or Delaware Statutory Trusts, have begun to level the playing field.

Today, DSTs enable individuals to invest fractionally in a trust's assets, which may include one or more pieces of commercial real estate. The sponsor of the DST is then responsible for the day-to-day management of the trust's properties on behalf of the investors.

Moreover, unlike investing in a syndicate or fund, DSTs have been considered "1031 Exchange eligible," meaning that people can sell their own investment property and reinvest the proceeds into a DST to defer capital gains tax. Thus, it is not surprising that DSTs are rapidly gaining favor.

But DSTs did not merely appear suddenly. Their arrival was a lengthy process. This article examines the history and origin of Daylight Saving Time.

The History of DSTs

Historically, wealthy Americans have utilized trusts to transfer property from one generation to the next. Using a trust provides tax and security advantages that would not otherwise be available.

The majority of these trusts are housed in Delaware, a state renowned for being business-friendly and tax-friendly. Since at least 1947, Delaware common law has recognized business trusts. This is why a large number of Fortune 500 firms put their headquarters in the state. Trust income, including capital gains, has been exempt from taxation for decades, even trusts controlled by non-residents. In other words, out-of-state residents can take advantage of Delaware's trust tax laws just as easily as Delaware residents.

In 1988, Delaware formalized its common law on trusts and became the first state to establish an effective and judicially protected legal entity: the Delaware Statutory Trust (DST). The Delaware Business Trust Act of 1988 provides specific guidelines for the operation of trusts. This gave investors the assurance they required to invest with confidence in DSTs.

Several other states have since enacted legislation governing trusts, but Delaware remains the jurisdiction of choice for trustees due to the breadth and clarity of its corporate entity rules. In addition, the Court of Chancery and the Supreme Court of Delaware have gained a reputation for excellence due to their extensive familiarity with commercial matters, which results in the efficient, fast, and equitable resolution of disputes. Today, there is a vast body of Delaware case law from which people seeking trust-related assistance might draw.

The Delaware Business Trust Act (DBTA) was renamed the Delaware Statutory Trust Act (DST Act) in 2002. (Title 12, Ch. 38 of the Delaware Code). The DST Act expressly authorizes the establishment of DSTs and stipulates rules governing their internal operations. The DST Act recognizes DSTs as distinct legal entities that may engage in any legitimate business or activity. The regulations further indicate that a DST will not terminate or dissolve due to the death, incapacity, dissolution, termination, or bankruptcy of a beneficial owner, unless the Trust Agreement specifies otherwise. DSTs are also permitted to obtain funding in their own name as opposed to in the names of their individual trustees.

The DST Act also specifically limits the trustee's obligation. The Act provides that a trustee "must not be personally accountable to any person other than the statutory trust or a beneficial owner for any act, omission, or obligation of the statutory trust or any trustee thereof," unless otherwise expressly stipulated in the trust's governing instruments. This provision provides trustees with great protection; they can rest easy knowing that the possible liabilities they may face as a result of investing in a DST are strictly limited, whereas indemnity affords them extensive protections.


DSTs vs. TICs

The DST Act of 2002 effectively provides the necessary advice and protections for persons interested in fractional investments in commercial real estate. Prior to this, the majority of co-investors in real estate utilized a tenant-in-common (or "TIC") structure.

Those who invest in a TIC hold a partial interest in the property's title. As a result, each owner is personally accountable for any debt incurred to acquire or enhance property held by a TIC. TICs can have up to 35 individual co-owners, therefore the procedure of underwriting each individual investor might make financing a TIC more difficult than financing DST investments, because the loan is backed by the DST itself and not by individual investors.

Moreover, each major investment decision involving TICs requires unanimity among co-investors. Even in the best of times, this makes decision-making difficult. Important decisions required to develop the TIC's business plan and investment strategy can be halted by a single holdout.

Despite the obvious benefits of investing in a DST as opposed to a TIC, many continued to favor the latter until the middle of the 2000s. This is because industry groups, including some of the nation's top commercial real estate sponsors, urged the IRS in the early 2000s to adopt criteria that would allow TIC real estate to qualify for 1031 exchanges (IRS Revenue Procedure 2002-22). Those who sold their own investment property could then reinvest the sale proceeds into a TIC to delay paying capital gains tax (sometimes, indefinitely).

This led to a record number of people investing in TICs. 2007 marked the peak of the TIC business, when about $4 billion of equity was invested using TIC structures. Nonetheless, many of these investors quickly realized the flaws of the TIC framework.

DSTs gained popularity at the same period, partly due to the inefficiencies of the TIC paradigm. The IRS implemented comparable 1031 exchange standards for DSTs in 2004. Revenue Ruling 2004-86 permitted the use of the DST structure for the acquisition of real estate where the beneficial interests of the trust would be recognized as direct interests in replacement property for purposes of a 1031 exchange. Investors in the United States rejoiced.

Co-Investment in Real Estate During the Great Recession

When the Great Recession struck in 2008, both TICs and DSTs suffered a severe blow. The investment in syndicated real estate plummeted. TICs were hit worse than DSTs. In 2009, less than $250 million was invested in TICs, which represents approximately 6.25 percent of the equity contributed just two years previous. In general, lenders grew more prudent. Due to the necessity to evaluate each investor's creditworthiness, a minuscule number of people desired to invest in TICs. The effort required by banks to establish loans on TICs (which, again, might have up to 35 individual investors) simply became too burdensome.

Investment in TICs and DSTs remained stagnant over the most of 2013. As the economy began to recover, DSTs became the favored form for co-investment. By 2015, DST investment had regained its pre-recession level and has risen steadily since then. In 2020, around $3.20 billion in equity was raised for DST investments, a surprising amount given the remaining anxiety among investors caused by COVID.

Future Prospects for DSTs

Investing in DSTs could continue to be robust in the future. There is a backlog of investors who are eagerly awaiting the end of the pandemic before selling their property. Many of these investors may use 1031 exchanges to avoid paying capital gains tax, and many of them may invest in DSTs to do so. Cash investors are diversifying their portfolios by expanding their DST investments. DSTs are a fantastic alternative for accredited investors wishing to invest in fully passive real estate due to the variety of associated potential benefits, including asset and geographic diversity.

Already, it appears that 2021 will be a good year for DST equities investments. This could continue throughout the coming months and years, barring any unforeseen occurrences.

Are you curious to find out more about DSTs? Contact us immediately to learn more about our investing strategy, 1031 exchanges, and DSTs.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. Information herein is provided for information purposes only and should not be relied upon to make an investment decision. All investing involves risk of loss of some, or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure:

Identification Rules for a 1031 Exchange

So you've decided to perform a 1031 exchange after selling or considering selling your investment property. Anyone selling investment property is given 45 calendar days to find a replacement property or properties under Internal Revenue Code (IRC) 1031. But are you aware of the identification rules, 45-day alternatives and other regulations?

The new property or properties do not have to (yet) be under contract; nonetheless, you must identify them to your accommodating/qualified intermediary during the 45-day period. Following the close of the property that you just sold, the 45-day countdown begins. You have a total of 180 days starting from the closing date of the property you gave up to close on the new property or properties you chose.

Some people find the 1031 identification process potentially more easier and simpler to comply with in reference to their investment property exchange, which is one of the reasons why many people opt to use Perch Wealth's DST platform.

What then are the different choices that investors have when identifying?

Three-property rule

The investment taxpayer may list up to three properties under the three-property rule, regardless of the fair market value of the assets. If you apply this criterion, you are not required to buy all three of the properties you mention, but you must close on at least one of them.

The three-property rule should not be relied upon if you wish to diversify your real estate investment dollars, for instance by investing in DSTs, and you want to find more than three potential assets.

200% rule

A 1031 exchange investor is allowed to find and close on any number of properties as long as the total fair market value of the properties found during the 45-day period does not exceed 200 percent of the total fair market value of the relinquished property at the time it was sold, according to the 200% rule. If you sold your home for $1,000,000, for instance, you may name as many properties as you wanted as long as their combined fair market value did not exceed $2,000,000.

95% rule

As mentioned in the alternatives above, if an investor finds that they need to identify more than three properties and more than 200% of the total value, they can rely on the 95% rule. However, exercise caution because the 95% rule might be difficult to follow because it calls for the investor to close on at least 95% of the selected properties. Since it is nearly impossible to achieve the 95% criteria, the three-property or 200% requirements will often apply to almost all investors.


What details must you give your accommodation provider or certified intermediary (QI)?

The street address, assessor parcel number, and/or legal description can all be given to your QI. Ensure the accuracy of this. Be as explicit and clear-cut as you can.

Remember to pay special attention to the aforementioned guidelines since failure to do so may result in the IRS and/or state tax agency disallowing your exchange in the event of an audit. Beginning to consider your DST replacement properties before you sell your relinquished property will significantly help in potentially minimizing any stress generally associated with adhering to the 1031 exchange laws. Early planning is crucial.

Work with a DST investing firm that is well-versed in how to advise you through this procedure as well as an experienced and knowledgeable qualified intermediary. You can get assistance from the Perch Wealth experts with your 1031 exchange. Perch Wealth might potentially aid in making sure that your 45-day ID period goes easily and effectively by employing and investing in the DST structure.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. Information herein is provided for information purposes only and should not be relied upon to make an investment decision. All investing involves risk of loss of some, or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure:

Are There New 1031 Exchange Regulations in 2022?

Investors have questions about the future of 1031 exchanges every year. Politicians have long disagreed about the option to use a 1031 exchange to postpone capital gains. The answer to the question of whether this real estate investing tool has recently undergone alterations is no. Instead, investors all around the country are becoming more interested in 1031 exchanges, and new queries have arisen. The most frequent queries from today's curious investors are shown below.

What occurs when a property used in a 1031 exchange is sold?

An investor can transfer one investment property (the "relinquished property") for another (the "replacement property") through a 1031 exchange while deferring the capital gains taxes they would have to pay at the time of sale of the "relinquished property." The Internal Revenue Service (IRS) asserts that the two properties must be of "like-kind," which is defined as any property held for trade, business, or investment purposes under Section 1031 of the Internal Revenue Code.

Unrealized capital gains explained

Unrealized capital gains are gains achieved on an asset that hasn't yet been sold, according to investors and real estate experts. Unrealized capital gains are not subject to tax. In contrast, these gains only exist on paper. Taxes on capital gains are only due when an investor sells the asset.


When can a real estate investor use a 1031 exchange?

Anytime properties are swapped, a 1031 exchange may be employed as long as the new properties are of like-kind according to the IRS. Commercial assets, such as apartment buildings, hotels, and motels, retail assets and single-tenant retail properties, offices and industrial complexes, farms and ranches, and undeveloped land are examples of properties that are frequently traded in a 1031 exchange. Investments in Delaware Statutory Trusts (DSTs) and residential properties held for investment reasons are additional transactions that qualify as like-kind exchanges.

Can a shareholder avoid capital gains by purchasing a second home?

Property owners frequently inquire about their ability to use a 1031 exchange to sell one home and buy another. Sadly, the response is no. Primary residences and second houses are not eligible for a 1031 exchange, according to the IRS; only residential properties held for investment purposes for at least a year are.

Can a shareholder withdraw money from a 1031 exchange?

The entire worth of the property that was given up, including any investor ownership and debt owed on the asset, must be replaced in order for capital gains to be postponed. As a result, if an investor sells a $1 million asset that is 50% leveraged, the investor will need to buy a $1 million replacement property and either use personal funds or leverage a loan for the remaining $500,000 in the transaction. Any money withdrawn from the transaction is subject to taxes.

But there are exceptions to every rule. Investing in a DST is one exception. A legally accepted real estate investment trust that enables investors to purchase fractional ownership interests is known as a Delaware Statutory Trust. Investors can choose how much money to put into a DST and how much debt they want the DST sponsor to attach to them when trading into a DST. A property owner could profit financially from this investment by selling the property.

How do 1031 exchanges operate?

Investors are obligated to adhere to the IRS's stringent timeframe for a 1031 exchange. Taxes are typically required on the property that has been given up when a 1031 deadline is missed.

When the sold property closes, a 1031 exchange's time frame begins. The owner of the property has 180 days to close and 45 days to find replacement properties. One of three requirements outlined by the IRS must be met by the replacement properties.

Do I require a third party to complete a Section 1031 exchange?

Yes! The involvement of a qualified intermediary (QI) or exchange facilitator is required by the IRS for 1031 exchanges. All revenues from the sale of the property that was given up are held by the QI, who will disburse them towards the purchase of replacement homes. The sale will not be eligible for a 1031 exchange if funds are retained with the seller or any other person that is not a QI, and the seller will be liable for paying capital gains if this occurs.

How does a 1031 exchange operate when there is seller financing?

Although it is legal to employ seller financing in a 1031 exchange, it is not frequently done.

However, this does not exclude them from IRC section 1031, which specifies that an investor must replace the total value of the relinquished property. Seller financing limits the immediate capital available to an exchanger. As a result, while extending seller financing, an investor must specify how they plan to buy their replacement homes. The easiest fix is to provide short-term funding.

However, most buyers' issues are not resolved by this. Instead, to raise the money for the exchange, the exchanger can cooperate with a qualified intermediary (QI) to sell the promissory note they obtained from the buyer. The note can be bought by the exchanger or sold to the lender or another party. Regardless of the choice made, all money must be transferred to the QI by the end of the 180-day period in order to keep the proceeds from being taxable. When money is available, the investor can exchange it for a specific like-kind property.

Can an investor still submit a 1031 exchange after a property closing?

No, since every penny from the sale of the property must be deposited with a QI, a seller cannot submit a 1031 exchange after the closing. Therefore, the proceeds cannot be allocated effectively for a 1031 exchange if the exchange is not preplanned. Before selling their property, investors interested in a 1031 exchange should choose a QI.

If investors reinvest, may they avoid paying capital gains tax?

Property owners can postpone capital gains through a 1031 exchange as long as they reinvest according to the IRS's guidelines. Reinvestment enables investors to take advantage of the many advantages a 1031 exchange has to offer, including portfolio diversification and capital gains deferral. Reinvestment through a 1031 exchange also resets the investment's depreciation schedule, giving owners access to further tax benefits.


What are the most popular real estate investment markets for 2022?

Depending on an investor's investment plan, they might choose the hottest real estate markets. Are they risk-averse and primarily interested in stable assets on primary markets? A value-add asset, a secondary market, or a tertiary market are some other options if they are willing to take on some risk in exchange for larger profits.

Contact a skilled 1031 exchange consultant to better understand which asset and market are appropriate for you. The Perch Wealth team can help you through the process and connect you to properties that are 1031 qualified and fit with your financial and investing goals.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. Information herein is provided for information purposes only, and should not be relied upon to make an investment decision. All investing involves risk of loss of some or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure:

BD vs. RIA: Who to Consider for a 1031 Exchange

Investors looking to speak with a qualified professional about their 1031 exchange investment options can opt to work with a broker-dealer (BD) or registered investment advisor (RIA). While both BDs and RIAs can typically offer similar services, the scope of their expertise and fees can vary drastically. In this article, we define the difference between a BD and an RIA in the hopes of helping you determine which professional is a better fit for you.

What’s the difference?

RIAs are individuals or firms that typically focus on offering general financial advice, managing clients’ accounts, and executing stock trades for clients. RIAs generally charge an annual fee equal to a percentage of the assets they manage on behalf of their clients. 

BDs, on the other hand, primarily work to facilitate investment transactions for their clients. Fees are generally commission-based, meaning BDs typically charge a one-time fee for each transaction they facilitate rather than an ongoing fee.

The Relevance of a 1031 Exchange

Investors looking to sell their real estate and trade into a like-kind alternative investment should work with a qualified professional – either a broker-dealer or a registered investment advisor.

Today, one of the most common examples of a 1031 exchange is trading from a real estate property into a Delaware Statutory Trust (“DST”).

A DST “is a legally recognized real estate investment trust in which investors can purchase ownership interest. Investors who own fractional ownership are known as beneficiaries of the trust – they are considered passive investors. … Properties held in DSTs that are considered ‘like-kind’ include retail assets, multifamily properties, self-storage facilities, medical offices, and other types of commercial real estate.”


These one-time transactions enable investors to sell their real estate and buy into a qualified investment while deferring capital gains. Furthermore, by trading into a DST, investors can access institutional quality assets they otherwise may not be able to purchase, leverage excellent financing obtained by a DST sponsor, access passive income potential that is management free, and limit their liability in the investment.

To better understand how trading into a DST works, it’s best to compare a DST to a real estate exchange rather than an equity purchase – there is a significant difference between the two when determining how much an investor should pay in fees.

Avoiding Potentially False Claims

Why is this important when deciding who to work with – an RIA or BD?

Today, many claims are often presented in an effort to win business from investors in a 1031 exchange or from those looking to place cash into a DST. Many RIAs claim it is cheaper to work with them than a BD because their commissions are waived. However, this claim ignores the fact that RIAs typically charge clients an ongoing annual fee. This fee has the potential to cost you more over time. It’s important to do your research to find out what the ongoing fee is, as well as what, if any, additional services you are receiving for that fee. Of note is the fact that the ongoing fee is typically calculated as a percentage of the value of the assets. That means that if the asset appreciates, you will be paying more, and if the asset depreciates, you'll be paying less.  As a result, it isn't possible to determine the exact cost of the advisory fee over time.

Let’s look at an example.

Say that an investor trades out of a retail property into a DST, an investment that will generally last for five to ten years before the investment is sold and the investor can do another exchange. Assume the investor puts $1 million into the DST. Now, let’s look at how much a BD would cost versus an RIA. If the BD charges a 6% commission on the investment, that results in a commission of $60,000 on the transaction. An RIA, on the other hand, charges a percentage of the assets under management (AUM) – in this scenario, the AUM is $1 million. Now, let’s say the RIA fee is 1.5% of the Assets Under Management (“AUM”). An investor would then pay $15,000 per year to the RIA for the investment (assuming the asset value remains stable). Based on the average holding period of a DST (five to ten years), the investor would pay between $75,000 and $150,000 for the exchange! Of course, in the event the DST sponsor exits early, or you are presented with an opportunity to liquidate/exchange early, that could result in a potentially lower fee.


Broker-Dealers May Cost Less than Registered Investment Advisors

The above model simply shows the cost difference between working with a BD and an RIA and outlines how working with a BD may be less expensive than working with an RIA. In the above scenario, the investor pays 50% to 250% more to work with an RIA than a BD. Imagine if an investor had millions to invest.

Don’t Pay Annual Fees on Passive Investments like DSTs and Other 1031 Exchange Investment Options

DSTs and other 1031 exchange investment options are set up as management-free investments, meaning no management responsibility is required of the investor or the one representing the investor in the transaction. Instead, sponsors manage these alternative investments on behalf of their investors completely; therefore, they are entirely passive. Why pay an RIA to “manage” your DST investment when it is already being managed for you?

Understanding the Options in a 1031 Exchange

Before jumping into any investment, an investor should conduct due diligence to fully understand the available options and associated fees. If an investor is choosing between an RIA and a BD, they should ask themselves who has more knowledge about the investment and whose fees align with the type of investment they are considering. These questions may help investors protect themselves and their capital in future investments. 

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. Information herein is provided for information purposes only, and should not be relied upon to make an investment decision. All investing involves risk of loss of some or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure:

How Real Estate Investing May Shield You From Inflation

The term "inflation," which refers to the slow increase in the cost of products and services over time, has recently appeared in the headlines of all of the main business news outlets. Everyone was only interested in discussing how dramatically and finally the U.S.'s historically low inflation rate was coming to an end. Used car prices were breaking records, timber costs were skyrocketing, petrol prices appeared to be moving up, and food prices were higher than they had ever been.

Although the precise reason for price increases is still up for debate, it is no longer a secret that the cost of necessities like food and shelter is growing. Inflation is presently influencing the life and job of the typical American, and, while it stays genuine that we have encountered a lucky and broadened time of low inflation, it seems like all beneficial things do, as a matter of fact, reach a conclusion - - and presently is essentially the finish of inflation 's record lows.

The ramifications of high, or rising, inflation costs for financial backers is that high inflation can influence the worth of a future stream of income. Consequently, financial backers need to accomplish returns that are higher than the pace of price inflation. This implies that now, like never before, financial backers ought to get ready to change their venture techniques pushing ahead and carefully plan to support against inflation.

In this article, we'll define inflation, examine how it tends to be a headwind for financial backers, and foster one center thought: that land money management is possibly the support expected to safeguard yourself from inflation, as well as the deficiency of buying influence that outcomes from it.

What is inflation?


inflation is the slow inflation in the cost of labor and products after some time. It is estimated by observing changes in the Consumer Price Index, which is based on a record of normally bought goods and services. The U.S. Central bank is liable for setting financial approach, and inflation is quite often one of its essential worries.

The Federal Reserve for the most part attempts to oversee inflation to a specific objective (around 2-3% every year), however it saves the capacity to go to activity when price inflation lengths above or underneath this reach.

The most recent report from the U.S. Department of Labor Statistics shows that the Consumer Price Index (CPI), which is one proportion of inflation, has increased 5% throughout the last year alone. That is the most noteworthy increment beginning around 2008, which was, uncoincidentally, the last time the nation was in a monetary emergency.

How could inflation be a headwind for financial backers?

Inflation can be harming to financial backers' capital since they need to accomplish returns that are higher than the pace of economic inflation.

A model can be utilized to all the more powerfully come to this meaningful conclusion.

On the off chance that inflation is running at a pace of 3% yearly, and a financial backer keeps her capital in a currency market account that pays a proper pace of revenue at 2% yearly, she is really losing 1% of her buying power every year - - comparative with inflation. Over the long haul, the financial backer's capital can buy less on the grounds that the expense of labor and products has risen quicker than her speculation returns.

To stay away from a circumstance like this, financial backers ought to consider searching out inflation fences or resource classes that are exceptionally situated with the possibility to perform well in times of high economic inflation.

Real estate-centered financial planning may be the hedge you really want to shield yourself from inflation.

For what reason is real estate viewed as a decent hedge against inflation?

There are various reasons. As far as one might be concerned, one could analyze the impact of inflation on obligation. As a home's cost ascends after some time, it brings the credit down to worth of any home loan obligation, going about as a sort of regular markdown. Thus, the value on the property increments, yet your fixed-rate contract installments continue as before.

Inflation can likewise possibly help land financial backers who procure pay from investment properties, explicitly property areas with momentary rent structures, as multifamily lodging networks, on the grounds that higher home costs frequently compare to higher lease structures. In the event that a land financial backer can change her/his lease up while keeping the home loan something similar, this sets out the freedom for expanded cash in the financial backer's pocket.

At last, land might possibly be a decent support against inflation since property estimations after some time will generally stay on a consistent vertical bend. The vast majority of the homes that hit absolute bottom when the land bubble burst in 2008 returned to their pre-crash costs in under a solitary 10 years. Land speculations can likewise turn out expected repeating revenue for financial backers and can keep speed or even surpass inflation with regards to appreciation.

Since the proof gives off an impression of being supportive of land, and it being a resource class that has generally held its own when confronted with increasing inflation rates, we should now direct our concentration toward a couple of procedures commonly used to endeavor to fence land ventures against inflation.

How might you possibly involve real estate as a hedge?

Potentially one of the most mind-blowing ways of utilizing land to support against inflation is to put resources into a multifamily property. Different kinds of properties, like business structures (like retail locations), have their inhabitants sign long term business leases. Multifamily lodging for the most part recharge rents exclusively with each occupant one time per year. The more units a structure has, the more regularly you're given sufficient chances to change the lease. The equivalent is valid for self-capacity.

What's more, multifamily properties, for example, apartment buildings are a one of a kind resource class in that they are commonly consistently popular, particularly while lodging costs take off. Furthermore, because of late inflations in labor and material expenses, there is a restricted stock of structures or new improvement projects, which can make an ascent in rental rates and property estimations. Together, these two elements equivalent a property that can possibly not be empty for significant stretches of time and various openings to restore or begin leases at market-changed rates.

Another thing to consider is that cost repayments, another rent part, is an extra way land money management can possibly pace inflation. Leases pass some type of a property's ongoing working costs down to their occupants, no matter what the kind of building structure. As utility and support costs ascend because of inflation, landowners or building proprietors can be undoubtedly somewhat protected from the impacts on the property's income.

It is clear, then, at that point, that real estate investing - - especially putting resources into multifamily lodging properties - - might possibly be a decent fence against inflation that our ongoing business sector brings to the table. Land effective money management is in many cases thought about a way towards reserve funds safeguarding in an inflationary and capricious economy.

It's very simple to see the reason why financial backers have rushed to real estate in the midst of monetary vulnerability. No matter what, lodging will continuously be required, and hence, probable sought after. A speculation property that is bought and clutched for the long haul can possibly be a safe method for developing the first interest into something more significant not too far off.


On the other hand, in the event that financial backers can't - - or just don't have any desire to - own and deal with the venture property themselves, they can consider land trusts (REITs), intuitional land assets, and Delaware Statutory Trusts (DSTs). How one chooses to go about land money management is completely dependent upon them; it is, and ought to be, an individual monetary choice. In any case, it very well may merit your time and energy to educate yourself pretty much all regarding your choices and survey from that point - - or talk with a learning experience master like the group at Perch Wealth.

Why putting resources into a DST can be an alluring choice

In the event that your main concern is to look for abundance safeguarding during an inflationary financial period, then, at that point, putting resources into a Delaware Statutory Trust, or DST, is possibly a very appealing land venture choice. A DST is an ordinarily involved structure for those looking to partially put resources into land.

A DST is a way for financial backers to possess land with the chance of procuring recurring, automated revenue and zero administration obligation. Most financial backers don't commonly consider whether they are keen on dynamic versus aloof responsibility for domain property, and thusly, get into circumstances that they believe they aren't equipped for, intrigued by, or profiting from in the ways that they might want to be. For a first-time frame or moderately new financial backer, putting resources into a DST is an incredible prologue to a possibly recurring source of income and collection of uninvolved riches.

There are two essential ways that an individual can put resources into a DST. The first is through an immediate money speculation. For instance, perhaps you're new to land effective money management and just need to secure your opportunity; you could hope to put $50,000 in a DST to acquire a traction in the land business. The second is by using a 1031 Exchange.

Numerous financial backers are really ignorant that they can use a 1031 Exchange to put resources into a DST, however there are numerous potential advantages to doing as such. By doing a 1031 Exchange, you can probably expand the ongoing level of the housing market and differentiate your assets into various DSTs that are geologically shifted and in particular resource classes, assisting with moderating and conceivably limit the general gamble to your capital. Assuming that you're keen on finding out about 1031 Exchanges, DSTs, or more elective land speculation systems, you can talk with one of Perch Wealth's financial experts today.

General Disclosure

Not an offer to buy, nor a solicitation to sell securities. Information herein is provided for information purposes only and should not be relied upon to make an investment decision. All investing involves risk of loss of some, or all principal invested. Past performance is not indicative of future results. Speak to your finance and/or tax professional prior to investing.

Securities offered through Emerson Equity LLC Member: FINRA/SIPC. Only available in states where Emerson Equity LLC is registered. Emerson Equity LLC is not affiliated with any other entities identified in this communication.

1031 Risk Disclosure: