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Take Care When Making 1031 Exchanges Outside of the U.S.

As a real estate investor, you probably are aware of the advantages of a 1031 exchange over outright sale of a property. An exchange defers your capital gains taxes, keeps your money working for you, and helps to build equity and maximize your returns. But 1031 exchanges are allowed not only for the good of the investor; by allowing investors to move their capital to the most advantageous investments, section 1031 stimulates the U.S. economy.

The fact that 1031 exchanges are intended to boost the U.S. economy raises the question of whether one can exchange a property for one located overseas. The short answer is no. The taxes you can save by using a 1031 exchange as appose to selling without one, is a deferment, which indicates that even though you are temporarily pardoned from having to pay federal capital gains taxes, the U.S. government will still expect payment for your capital gains taxes if sell investment property at some point. It is difficult and sometimes impossible for the IRS to collect taxes on the sale of foreign property.

If 1031 exchanges are limited to the U.S. so that the economy will benefit and the IRS will be able to collect capital gains taxes in the future, then you may be wondering what rules apply to U.S. areas like Guam, the U.S. Virgin Islands, and Puerto Rico. A private letter ruling has stated that the IRS requires a property in the Virgin Islands can only qualify as a like kind property for an exchange with another.S. property if it is income-producing, which is more restrictive than the normal requirements for a like-kind exchange, which merely state that the property must be held for your trade or business or as an investment.

So if you are considering making an exchange outside of the fifty states (and Washington D.C.), make sure that the replacement property will be considered to be like-kind to the property that you are exchanging it for. In order to be absolutely sure, you may even want to request a private letter ruling on your particular case.

Investors in the U.S. can save a lot of money by utilizing 1031 tax exchanges to defer all of their capital gains tax on the sale of investment property. A 1031 exchange is like an interest free loan from Uncle Sam..

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