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EXCHANGE EXCHANGE by yaofenjin

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									                                      T H E          E     X     E    T     E      R


                        EXCHANGE
           The Newsletter for Customers of Exeter 1031 Exchange Services, LLC                    Volume One Issue 1




Choosing the                          Look Before
Right Qualified
Intermediary
    The 1031 exchange
Qualified Intermediary (often
                                      YOU LEAP
                                          Because tax-deferral and tax-exclu-          liabilities are merely deferred — and
referred to in the real estate        sion strategies are plentiful, it’s impor-       can be continually and indefinitely
industry as an Accommodator           tant for you to consider all available           deferred — into like-kind replace-
or Facilitator) plays a critical      options before proceeding with a spe-            ment properties acquired as part of a
role in a successful 1031             cific tax planning strategy. Here’s an           series of 1031 exchange transactions.
exchange transaction. You             overview of what’s available:                        A 1031 exchange allows you to
should, therefore, choose your
Qualified Intermediary, or QI,
with care.
    The QI is authorized
under Section 1.1031 of the
Department of Treasury
Regulations and is responsi-
ble for: (1) preparing the 1031
exchange legal agreements
and related transactional
documents in order to
properly structure the 1031
exchange transaction; (2)
receiving, holding and safe-
guarding your 1031 exchange                 Section 1031 — Exchange of                 sell, dispose or convert real property
funds throughout the transac-              Property Held for Investment                without reducing your cash position
tion; and (3) advising you                                                             by paying capital gain or deprecia-
regarding the implementation              Section 1031 of the Internal                 tion recapture taxes. This provides
of your 1031 exchange trans-          Revenue Code provides that property              the liquidity necessary to increase
action to ensure compliance           held as rental or investment property            your real estate portfolio by trading
with applicable Internal              or property used in your business                up in value and ultimately increasing
Revenue Codes, Department             ("relinquished property") can be                 your net worth by improving cash
of the Treasury Regulations           exchanged for like-kind property also            flow and capital appreciation from
and related Revenue Rulings           held as rental or investment property            the portfolio.
and Procedures.                       or property used in your business                                       Continued on Page 3
                                      ("replacement property") allowing you
Qualified Intermediaries Are          to defer your Federal, and in most
       Not Regulated                  cases, state capital gain and deprecia-
                                      tion recapture income tax liabilities.
    QIs are not licensed, regu-       This applies to real and personal
lated, audited or otherwise           property.
monitored by any regulatory               Note that 1031 exchange transac-
body. In addition, they are not       tions are tax-deferred exchanges —                       1031 Exchange Services LLC
required to be bonded or              not tax-free exchanges — as many
insured, nor are they required                                                             National Corporate Headquarters
                                      speakers, authors and advisors fre-
                                                                                             402 West Broadway, Suite 400
              Continued on Page 2     quently refer to them. Capital gain                     San Diego, California 92101
                                      and depreciation recapture income tax            Call 866.393.8377 for the office nearest you
2
                                          THE EXETER EXCHANGE




Choosing an Accommodator Continued from Page 1
to maintain any other form of         but often do not know what to         city records for criminal convic-
minimum equity capitalization.        look for when reviewing your          tions, civil liens or judgments,
    Anyone can become a Qualified     transactional documents, or will      credit or collection problems, and
Intermediary and begin adminis-       not review them out of concern for    more. Prospective employees
tering tax-deferred exchange          their own liability.                  should also be screened for illegal
transactions. You should always          You should ensure that the         substance abuse issues.
perform a thorough due diligence      employees of the Qualified                In addition, members of the
review of a QI’s qualifications       Intermediary have sufficient tech-    Federation of Exchange
before making a final decision.       nical depth, knowledge, experience    Accommodators (FEA) also require
Never pick your QI based solely       and expertise to assist with struc-   employees that control, manage or
on their 1031 exchange fees and       turing your 1031 exchange, review-    otherwise handle or have access to
charges. Choosing the wrong QI to     ing your transactional documents      clients' assets to be fingerprinted.
administer a 1031 exchange can be     for potential problems, and in the    The FEA also performs another
costly due to critical fiduciary      drafting of your 1031 exchange        criminal background check when
responsibilities and obligations                                            the fingerprint cards are submitted
throughout your 1031 exchange                                               for processing.
transaction.                                                                    Institutional QIs will have
                                                                            sophisticated internal audit
      Due Diligence Process                                                 controls to ensure the safety of
                                                                            1031 exchange funds. They include
   There is very little written or                                          checks and balances, including a
published guidance or reference                                             requirement that multiple parties
material available regarding safe                                           initiate any disbursement of funds,
business practices for 1031                                                 processing of checks, wire transfers,
exchanges and safeguarding your                                             daily balancing and reconciliation
1031 exchange assets.                                                       of all fiduciary bank accounts.
   Often, investors focus on issues                                         In addition, 1031 exchange
such as exchange fees, interest       agreements. When interviewing         administration processes should
rates paid, turn-around times and     prospective 1031 exchange             be segregated from operational
branch office locations when          advisors, ask lots of questions and   functions such as cash management
interviewing potential Qualified      compare their answers and             and balancing.
Intermediaries. While many of         technical depth of experience in
these are important considerations    order to separate the true 1031         Safety of 1031 Exchange Funds
and should not be ignored or          exchange experts from the rest.
overlooked, there are other more                                               Qualified Intermediaries hold
important criteria when evaluating         Internal Audit Controls          significant 1031 exchange funds
a QI.                                                                       on behalf of multiple clients with
                                         Sophisticated internal processes   no regulatory oversight or require-
    1031 Exchange Technical           and internal audit controls will      ments for insurance, or bonding.
    Capability — Knowledge,           minimize the risk of loss to your     Most investors never ask how
    Expertise, and Experience         1031 exchange assets while being      their 1031 exchange funds will be
                                      held, managed and safeguarded by      protected or if they are insured.
   The most frequent problem          your Qualified Intermediary.          We recommend you investigate
encountered in the 1031 exchange      Internal controls monitor and         the methods and structures used
industry is that many Qualified       safeguard 1031 exchange funds         to protect your 1031 exchange
Intermediaries do not have the        during the administration of your     funds. Ensure that the QI maintains
technical depth, experience and       1031 exchange transaction.            appropriate levels of bonding
expertise necessary to review the        Sound internal processes and       and insurance coverage and is
transactional documents and catch     controls begin with employee          adequately capitalized to cover
problems before the transaction       recruiting. Hiring should always      any losses due to administrative
closes. Many QIs know how to          include a complete background         mistakes, errors or omissions.
process 1031 exchange transactions    check of Federal, state, county and                    Continued on Page 4
3
                                                THE EXETER EXCHANGE




 Considering the Options                                               Continued from Page 1

     Section 1032 — Exchange of                                                      ment property is contributed into a
    Corporation Stock for Property                                                   REIT in exchange for shares of stock
                                                                                     in the REIT under Section 721.
   Section 1032 of the Internal                                                          The 721 exchange does not have
Revenue Code provides that no                                                        to be processed in conjunction with
gain or loss shall be recognized to a                                                a 1031 exchange. You can simply con-
corporation on the receipt of money                                                  tribute rental or investment property
or other property in exchange for                                                    you already own directly into the
stock (including treasury stock) of                                                  REIT as part of a 721 exchange.
such corporation.                                                                        Section 721 can provide you an
                                                                                     excellent exit strategy by enabling
      Section 1033 — Involuntary                                                     you to exchange out of your invest-
    Conversion (Eminent Domain or                                                    ment real estate portfolio and into
           Natural Disaster)                                                         shares of a REIT. The REIT should
                                                                                     provide more liquidity once it
    If your property is the subject of a                                             becomes publicly traded and listed
compulsory or involuntary conver-                                                    on a securities exchange. In addition,
sion from condemnation via an emi-                                                   you gain complete control and flexi-
nent domain proceeding by local,                                                     bility over the recognition of the
state or Federal government, you                                                     capital gain tax by determining the
may qualify for Section 1033 of the            Section 1035 — Exchange of            timing and the quantity of shares
Internal Revenue Code. This section            Life Insurance, Endowment             sold in the REIT.
provides that real property can be                or Annuity Contracts                   The 721 exchange eliminates your
exchanged by you on a tax-deferred                                                   ability to exchange back into real
basis for "like-kind" real property that      Section 1035 of the Internal           estate and defer your capital gain
is similar or related in service or use    Revenue Code allows you as owner          taxes by using a 1031 exchange
to the property that was involuntarily     of a life insurance policy, endowment,    because you own securities instead
converted.                                 or annuity contracts or policies to       of a real estate interest.
    You have up to two years to            exchange or swap these contracts for
replace property destroyed by a            other life insurance, endowment, or           Section 453 — Capital Gain
natural disaster, sometimes referred       annuity contracts or policies and           Deferred with an Installment Sale
to as an Act of God, and up to three       defer the income tax consequences.                  Carry Back Note
years to replace property converted
because of a condemnation via emi-              Section 721 — Exchange of                Section 453 allows you to defer
nent domain proceeding.                         Property into A Real Estate          your capital gain income tax liabili-
                                                 Investment Trust (REIT)             ties when you carry back a promis-
  Section 1034 — Rollover of Gain                                                    sory note on the disposition, or sale
 from Sale of a Primary Residence             Section 721 of the Internal            of your property. This is often
                                           Revenue Code allows you to                referred to as seller carry-back financ-
    Section 1034 of the Internal           exchange your rental or investment        ing or installment sale treatment.
Revenue Code was repealed and              real estate for shares in a Real Estate       When you sell your property and
replaced by Section 121 of the             Investment Trust (REIT). This is          carry back a promissory note to help
Internal Revenue Code. Still, it is        called a 721 exchange — also known        the buyer finance the acquisition of
important to understand the origin         as an up-REIT or 1031/721 exchange.       your property, you can defer the
of Section 1034, what changed with            You would typically utilize the        recognition of your capital gain
its repeal and the differences between     up-REIT when you sell relinquished        income tax liabilities until you receive
the old and new laws.                      property and acquire like-kind            principal payments over the term of
    Section 1034 allowed an owner          replacement property pursuant to          the promissory note.
of real property used as a primary         Section 1031 of the Internal Revenue          Depreciation recapture cannot be
residence to sell or otherwise dispose     Code. Once held as rental or invest-      deferred with an installment sale and
of the primary residence, deferring        ment property for 12 to 18 months or      should be recognized in the year in
100% of the capital gain tax liability     more to demonstrate your intent to        which the disposition (sale) occurs.
by acquiring another primary               hold the property and qualify for
residence of equal or greater value.       1031 exchange treatment, the replace-                           Continued on Page 4
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                                              THE EXETER EXCHANGE




    Choosing                            Exchange Options
    Continued from Page 2               Continued from Page 3                       the $250,000 or $500,000 exclusion lim-
                                                                                    itation.
        Bonding and Insurance
                                         Section 121 — Exclusion of Capital             For example, your primary resi-
                                            Gain on the Sale of Primary             dence could be converted to rental or
        Errors and Omissions
                                                     Residence                      investment property and then sold as
    insurance is perhaps the most
                                                                                    part of a 1031 exchange after it has
    important insurance coverage
                                            The Taxpayer Relief Act of 1997         been rented for a sufficient amount of
    for a Qualified Intermediary to
                                        repealed and replaced the tax defer-        time in order to demonstrate your
    maintain — even more impor-
                                        ral "rollover" provisions contained in      intent to hold the property as rental
    tant than Fidelity Bond coverage
                                        Section 1034 with a tax-free capital        or investment property. This would
    — because human error is more
                                        gain exclusion provision pursuant to        allow you to dispose of your primary
    likely to occur than theft or
                                        Section 121 of the Internal Revenue         residence, defer all of the capital gain
    embezzlement of funds. Most
                                        Code ("121 Exclusion").                     tax liability, and diversify and allocate
    institutional Qualified
                                            You can sell real property held         the capital gain tax liability pro rata
    Intermediaries have Errors and
                                        (owned) and used (lived in) as your         over a number of rental properties,
    Omissions insurance coverage
                                        primary residence and exclude from          clearing the way for further financial,
    limits between $2 million to
                                        your gross income up to $250,000 in         tax and estate planning opportunities.
    $5 million.
                                        capital gains if you are single, and up         There are special rules applicable
        Inquire about the Fidelity
                                        to $500,000 in capital gain taxes if you    to real property initially acquired as
    bond insurance coverage
                                        are married and filing a joint return.      replacement property through a 1031
    maintained by the Qualified
                                            You are required to have owned          exchange transaction and then subse-
    Intermediary to ensure that the
                                        and lived in the property as your           quently converted to your primary
    insurance coverage is in force
                                        primary residence for at least 24 out       residence and sold pursuant to
    and effect, and that coverage is
                                        of the last 60 months. The 24 months        Section 121 of the Internal Revenue
    sufficient for the size and scope
                                        need not be consecutive and there are       Code.
    of the 1031 exchange operation.
                                        certain exceptions to the 24 month
    Most institutional Qualified
                                        requirement when a change of                     Other Tax-Deferral and Tax
    Intermediaries maintain Fidelity
                                        employment, health or other unfore-                 Exclusion Strategies
    bond insurance coverage limits
                                        seen circumstances has occurred.
    between $20 million to $30 mil-
                                            Section 121 is effective for disposi-       Charitable Remainder Trusts
    lion. Request a copy of the
                                        tions (sales) of real property held as a    (CRTs) permit you to transfer your
    insurance binder to verify the
                                        primary residence after May 7, 1997.        highly appreciated property or asset
    insurance underwriter, the poli-
                                        You can complete a 121 exclusion            into a trust for the benefit of charities
    cy limit, and policy term/expira-
                                        once every two years.                       you designate.
    tion date. Ask for the insurance
                                            As a taxpayer, you should careful-          The CRT provides you an immedi-
    agent’s contact information and
                                        ly monitor the amount of “built-up”         ate income tax deduction for the
    verify that the Fidelity bond
                                        capital gain in your primary resi-          donation of a property or asset into
    insurance information contained
                                        dence. You may want to seriously            the CRT and allows you to immedi-
    on the insurance binder is accu-
                                        consider selling your primary               ately dispose of the property or asset
    rate, complete and up-to-date.
                                        residence before the capital gain           without incurring any depreciation
                                        tax liability exceeds the $250,000 or       recapture or capital gain income tax
       Invest the Time Up Front
                                        $500,000 limitation.                        liabilities.
                                            Capital gain tax liability in excess        You can then reinvest the net sales
       Qualified Intermediaries are
                                        of these exclusion limitations will be      proceeds into investments providing
    more than administrators. They
                                        taxable. A sale of your primary             better cash flow. There are different
    advise on exchange structures
                                        residence will preserve the tax-free        types of CRTs, so you should discuss
    and guidelines for compliance
                                        exclusion of the capital gain and will      your options with your legal, tax and
    while controlling proceeds from
                                        allow you to acquire another primary        financial advisors.
    the sale and purchase of
                                        residence and start all over again.             In the past there was significant
    property. Be sure you choose
                                            Special legal, tax and financial        discussion regarding Private Annuity
    your QI with care because of the
                                        planning is needed in circumstances         Trusts (PATs); however, the IRS effec-
    important role they play.
                                        where you already have a significant        tively eliminated PATs as a tax-defer-
                                        capital gain tax liability in excess of     ral option in late 2006.

								
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