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1031 Construction Exchange: Build to Suit

A build to suit 1031 exchange, a type of a 1031 construction exchange, is used to make improvements to the replacement property. An example of a 1031 construction exchange is the sale of the commercial property and replacing it with another improved commercial building. Proceeds from the sale of the old property go towards the build out. 

A construction or a build to suit exchange implies that the replacement property is acquired prior or after the old property is closed. Improvements to the new property are made with title conveyed to the taxpayer either on or before the 180th calendar day post initial closing. As long as the value of the improvements plus the cost of the replacement property is equal to or greater than the old property, the construction exchange allows taxpayers to defer the capital gains tax and recaptured depreciation triggered when the old or relinquished property was closed.

The Internal Revenue Service requires that an Exchange Accommodator Titleholder (EAT) is created to park or take title to the property while it is being improved. The EAT is a single member limited liability company (smllc) with a non related party to the taxpayer as member. Traditional exchange time lines of 180 calendar days apply to complete the build out. Near the end of the exchange or sooner, the improved property is deeded to the Exchangor or ownership of the smllc holding title can be transferred to the Exchangor. In states where transfer taxes are levied, transferring the smllc is a recognized strategy of avoiding the transfer tax. Planning is important given the deed must be titled to the Exchangor within 180 calendar days post closing of the new property. The relinquished property must also be sold by the 180th calendar day. Otherwise, the Exchangor will own two properties and the tax on the sale won’t be deferred.  

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