Using a 1031-Exchange Loan for Your Investment Property

Toy house with invested money and overlay text

If you are a property investor, you need to understand the benefits of a 1031 exchange. With this option, you defer capital-gains taxes when you sell a property and immediately purchase a new investment.

By deferring taxes, your potential profits are enhanced, but you need to understand how to use the 1031 tax code, and you’ll need to find a lender who can provide financing for your 1031-exchange purchase.

Why Use a 1031 Exchange for Your Loan?

A 1031 exchange is simply a way to defer capital-gains taxes when you sell a property and immediately purchase a new one. By deferring taxes until you completely cash-out your investments (presumably at retirement, although that doesn’t have to be the case), you are able to maintain higher levels of working capital, allowing you to grow your investment profile at a greater rate.

Let’s look at a simplified example of the 1031 exchange and the benefits of deferred taxes:

Suppose you have a property that was recently sold, bringing a profit of $100,000, which you will then roll into a new investment property. If the taxes are deferred, the net profit from the sale is $100,000. However, let’s say it’s not deferred and (for simplicity), you have a tax rate of 25%. In this case, the net profit is $75,000.

Now let’s say you invested that net profit into a property that, when sold just a few years later, brought a return of 15%. In this case, the tax-deferred income brought a profit of $15,000, while the non-deferred payment brought in $11,250, which you again pay a 25% tax rate, bringing a net profit of $8,437.50.

Of course, once you finally cash-out your investments, you will have to pay taxes. (“Deferred” does not mean no taxes, it just means you pay later.) By paying taxes upfront (no 1031 exchange, non-deferred), you ended up with a total net profit of $83,437.50. ($75,000 + $8,437.50 = $86,250) By not paying taxes, you sit on $115,000 in profits, but, you have likely noticed, you still need to pay taxes when you realize the profits.

If you were to defer the payments, you would pay when you finally sell, don’t roll into a new property, and pocket the earnings. Assuming you’re done, you would have a total profit of $115,000 ($100,000+ $15,000), on which you’ll need to pay 25% capital-gains tax (assuming same rate as before). In this case, you would end up with a total net profit of $86,250, which is $2,812.50 more than you would have had in the first place.

Okay, just over $2,800 may not seem like much, but imagine if using the 1031 exchange over dozens of transactions throughout your investing career; imagine if the profits were in the millions. You can see how deferring taxes, growing the profits, and paying taxes at the end can result in hundreds of thousands in tax savings over a lifetime.

Here’s how our example breaks down:

1031 Exchange (Deferred Taxes)

No 1031 Exchange

(Taxes Paid at Sale)

Profit

$100,000

$100,000

Taxes

0%

25%

Net Profit

$100,000

$75,000

Next Investment Growth

10%

10%

Next Investment Profit (15% Growth)

$15,000

$11,250

Taxes on Next Investment

0%

25%

Net Profits from Next Investment

$15,000

$8,437.50

Total Profits

$115,000

$83,437.50

Final Taxes

25%

0%

Final Net Profits

$86,250

$83,437.5

 

Closing a 1031-Exchange Loan Through the Use of an Entity

Limited Partnerships

A limited partnership is when two or more partners come together to conduct or invest in a business, but a partner is only liable to the amount that they invested. This limits the total liability and risk of investing in the company, but also limits the total role played by the limited partners, also known as “silent partners.” If the entity is sued, the limited partner is protected because they have only (in most cases) invested money and not necessarily participated in the business.

General Partnerships

With this type of partnership, all individuals investing in the company share the same liability, as well as profits, that come from the business. This means that any of the partner’s personal assets could be at risk if the entity is sued.

Corporations

A corporation is simply a legal entity that is separate from the owners. They enjoy many of the same rights and responsibilities of individuals, including the ability to enter contracts, borrow money, own assets, and pay taxes. Corporations are generally owned by people who purchase shares, and usually have a board of directors that oversee the business operations.

Limited Liability Companies

Money LLC graphic
An LLC is a wise strategy for business owners to protect personal property.

A limited liability company, or LLC, is an important entity that is often used by small businesses. Essentially, this legal status provides protections against lawsuits, as well as other benefits, that reduce the risks of business ownership. 

Inter-Vivos Revocable Trusts

This is simply a fiduciary relationship that is used in estate planning. It is created during the lifetime of a trustor, and is sometimes called a “living trust.” The trust can own property and distributes assets to the beneficiary during or after the trustor’s life. The primary purpose of this legal entity is to easily transfer assets without significant legal proceedings or financial burdens.

1031 Exchange: Your Loan Options from SDPL

If you have property that is held in any of the above entities, you can work with San Diego Purchase Loans to get a 1031-exchange loan. Unfortunately, Fannie Mae and Freddie Mac will not allow these types of loans, but we have access to investors who will over excellent financing so you can sell your current property and purchase a new one, all while deferring the taxes and increasing your financial strength.

Our 1031-exchange loans have the following terms:

  • 30-years timeframe
  • Fixed interest rate
  • No points required
  • No pre-payment penalty
  • Personal guarantee required

Get the 1031-Exchange Loan You Need to Increase Longterm Profitability

If you want assistance with a 1031-exchange loan from one of the entities discussed above, contact our helpful staff today. We have the knowledge and experience to help you secure a 1031 exchange, increasing your longterm profits and enhancing your overall investment portfolio!

Testimonials

“We’re loving our new place and we’re very pleased with how smoothly everything went through closing. Thanks for keeping us up to date on the possibility of refinancing at a lower rate; we trust your judgement as far as waiting until the rate is around 5% lower before we refinance. We’re very interested in pursuing that if rates drop to that level. Thanks so much for all your help and personal attention!”

Chad and his team are fantastic!

Chad and his team assisted me with the financing of my condo. Every member of Chad’s team was extremely professional, highly competent, super responsive, and friendly. They realize that financing a home can be a stressful experience and they do their best to alleviate that stress by keeping you in the loop on everything. They were great about giving me frequent updates on the status of my application. In addition, they happily answered my questions. At one point, when I felt like I was pestering Chad with questions, his response was a friendly, “keep them coming!” And he meant it!!! Likewise, Maria and Karina were just a pleasure to work with as well! This team is like a fine-tuned machine. Thank you so much for all of your help!!!

“Juliann – Thank you very much for your patience and help with everything. I can say 150% that we could not have gotten through this without you. I have been through this process before a few times BUT never have received this type of care/attention. This process is intense and you managed to humanize this life changing experience for us – rather than being a loan number. If you or Home Point ever need an official recommendation from us, you can count us in.”