Why Do a 1031 Exchange Instead Of Just Selling My Investment Property?

To save taxes, yes, but said more succinctly, to build your estate with pre-tax dollars. Using proper exchange techniques will result in what is effectively interest free money from the government. Taxes you owe can be paid later (or deferred indefinitely), allowing you the use of that money today to buy more, or more expensive, investment property.

Also:

• Increasing depreciable basis by acquiring property encumbered with a larger debt.
• Acquiring sheltered income by exchanging your unimproved land for improved property.
• Acquiring property without cash, when sales may be impossible.
• Consolidating assets by exchanging many properties for one larger property.
• Receiving nontaxable cash by exchanging and refinancing after and independent of the exchange.
• Diversifying holdings without tax consequence.

Example:
If you acquired an investment property for $100,000 and sold it for $300,000 you would have a $200,000 capital gain (that is not including the gain you would realize because of depreciation taken during the holding period of the property, which lowers the basis and results in higher realized gain). After taxes (28% for the purpose of example, state and federal), you would end up with $144,000 to do what you like with, but let's assume you will use it as a down payment on another investment property.

Sale Price	$300,000
Original Cost	$100,000
Capital Gain	$200,000
x 28% Tax (20% Fed + 8% State)	$56,000
Remaining Balance	$144,000

Taking that $144,000 and leveraging it 4 to 1 would result in a purchase of a $576,000 property.  If you received a 6% annual appreciation in year one it would result in an equity increase of $34,560.

If you structured the sale in accordance with section 1031, and did not have to pay the taxes at the time of the disposition (selling) of the first property (exchanging it instead of selling it), you could invest the entire $200,000 gain.  Leveraged at the same 4 to 1 ration would allow you to purchase a $800,000 property. At the same 6% rate of appreciation, your increase in equity in year one would result in a $48,000 increase.  Multiply this added $13,440 equity buildup over a 20 year investment horizon and the result is substantial.

Note:
Be sure to contact your tax advisor, legal advisor, Qualified Intermediary, or qualified Real Estate Investment Broker to assist you in your planning to create a successful qualified 1031 simultaneous or delayed exchange.