Closing Costs & 1031 Exchanges
Understanding how closing costs are treated in a 1031 Exchange is crucial, both for properties sold and purchased. Some costs are allowable and not subject to tax, while others are disallowed and subject to tax. It's important to note that your Qualified Intermediary should only send money to a closing agent for closing a purchase or sale, never to third-party vendors like contractors or appraisers, as this would prevent the payment from being accounted for on the settlement statement
Allowable Costs
Typically, items that can be paid for with exchange proceeds include one-time customary charges required to close a transaction. Paying these items at close will reduce the required purchase value dollar for dollar. Here's a summary list (not exhaustive):
Earnest Money Deposits (for acquiring suitable replacement property)
Escrow / Title / Attorney / Closing Agent Fees
Accommodator Fees
Legal Fees
CPA / Advisor Fees
Realtor/Broker Commissions
Buyer concessions (when exchanger is the SELLER)
Liens recorded against the property
Excise or Transfer Taxes (when exchanger is the SELLER)
Appraisal and Inspection Fees (when exchanger is the BUYER and required by buyer, not by lender)
Disallowed Costs
Items typically not allowed to be paid for with exchange proceeds include costs not associated with closing the transaction or those resulting in purchasing anything other than Real Property as part of the exchange. These items include, but are not limited to:
Appraisals/Inspections ordered by a lender as part of acquiring a loan
Points, fees, closing costs related to acquiring a loan
Alta Title insurance for the benefit of a lender
Property Taxes
Insurance Premiums
Prepaid HOA, Insurance, Tax, Utilities, or other similar costs
Personal Debt, regardless of its use (including credit cards and Equity Lines against other property)
Security Deposits or Prepaid Rents
Return of cash to the exchanger as a refund of costs associated with preparing the property for sale
Money or benefit provided to buyer from seller when buyer is the exchanger (seen as a return of proceeds)
Note: The exchanger may bring new cash to close to cover costs associated with items not allowable as part of the exchange to ensure they are not subject to tax (if purchasing equal or greater value than property sold)
1031 TES is not in the business of providing tax, legal or investment advice. When considering an IRC section 1031 Exchange matter, you should seek ultimate counsel from your tax, legal or investment advisors who are familiar with all of your tax and financial matters.
