How are reverse exchanges different from forward exchanges?

Unlike a forward exchange, a reverse exchange requires the EAT to take legal title to the property or "such

other indicia of ownership."  The EAT is treated as the beneficial owner of the property for federal income tax purposes and file federal tax returns as necessary.

Reverse exchanges are more costly than forward exchanges because the EAT, as owner of the parked property, has greater risks and liability associated with the burdens of ownership.  In addition, in order to isolate the liability of the individual properties owned by the EAT, a separate single member LLC is formed for each property.  The EAT is also responsible for maintaining accurate books and records for the property and reporting the activity on federal tax returns while in ownership.  In addition to the costs passed to the taxpayer by the EAT, other costs incurred by the taxpayer when completing a reverse exchange may include bank fees, state and local transfer taxes, closing fees and title insurance.

Reverse exchanges tend to be difficult to finance as the taxpayer, who is the applicant for the financing and personal guarantor of the loan, will not be the title holder while the property is owned by the EAT.  This generally eliminates most traditional government backed mortgages.  In order to provide sufficient funds to the EAT to purchase the parked property, the reverse exchange process generally requires a commercial loan, equity from other properties, funding from related parties or cash availability.

Given the added exchange costs and difficulties obtaining financing, reverse exchanges should be viewed as an alternative, but only after all other avenues have been exhausted.  The taxpayers first approach should be to re-negotiate the settlement dates of both the relinquish and replacement properties so they occur in a forward order.

For FREE information on "Like-Kind" exchanges or discuss how "Like-Kind" exchanges relate to your real estate investments, please contact us.