What is Boot in a 1031 Exchange?
Posted by Andy Gustafson on Tue, Jun 22, 2010
In a 1031 exchange, additional cash infused into the transaction offsets debt, but additional debt does not offset cash received. Boot is a term used to describe the benefit received. For example, a partial 1031 exchange is when the replacement value does not exceed or is less than the value of the debt and equity in the old or relinquished property. This often happens and the difference is taxable.
A partial exchange is when cash is received at the relinquished property closing. Clearly, the cash received is taxable in the year it is received, though it represents an alternative to leaving the cash in the tax deferred exchange until the 181st calendar day.
A typical question is "Can I be reimbursed for the earnest money deposit (EMD) or cost of improvements?" Yes, you can be reimbursed, but the IRS views the first dollar out of a 1031 exchange as taxable. Yes, the EMD and capital required for improvements is being taxed twice.
Equity and Mortgage Boot
There are two types of boot: equity and mortgage boot. If either the net equity and or mortgage is greater in the replacement property, there is no boot. If either is less then a tax is triggered.
Conclusion
Always watch to use all your proceeds and replace all the debt retired if the objective of the 1031 exchange is to defer the entire capital gain and recaptured depreciation.
