Avoiding the Traps in 1031 Tenants-in-Common Exchanges

Abstract

Most wealth advisors have at least a rudimentary understanding of 1031 exchanges, named for the tax code section which allows clients to exchange business or investment real estate for other like-kind properties while deferring capital gains taxes on the appreciated value. When the IRS issued new guidelines in 2002, tenants-in-common (TIC) structures became more popular as a means for investors to buy interests in larger properties, traditionally the domain of institutional investors. TIC properties provide passive investors with fractional interests in properties often anchored by major corporations, retailers or developers. While the tax advantages are apparent, the obstacles to completing a 1031 exchange successfully—avoiding invalidation by the IRS —are not so evident. The transaction is a complex one with specific requirements and procedures that must be followed to the letter. There are many ways a 1031 can be disallowed, and once disqualified, timing restrictions usually preclude salvaging the tax benefits of the exchange.