GlobeSt.com: Please define a 1031 exchange and explain why timeliness is so important to it.

Travers: The 1031 exchange is part of the Internal Revenue Code 1031, which in its simplest terms provides for the sales of an existing property and then allows reinvestment of the sales proceeds into another replacement property within a specified timeframe for the purpose of deferring state and federal capital-gains tax. One major requirement in this process is the hiring of an independent third party—known as a qualified intermediary (“QI”)—to shepherd the 1031 exchanger through sale of original property, holding of sales proceeds and application into the purchase of replacement property.

There are several types of 1031 property exchanges, but the most common is the deferred 1031 exchange. This includes the engaging of a QI; selling the existing property and having the proceeds sit in escrow with the QI; enactment of the 45-day rule and 180-day rule, which are strict and not flexible (no extension); and the understanding that if these replacement rules are not met, then the property exchange is a failed 1031 exchange, and the original sale is subject to capital-gains tax and with potential penalties. Thus, there is benefit to the 1031 exchange, but also risk, so appropriate counsel and due diligence are advised. If all criteria are met and the sale of original property and purchase of replacement property is successfully executed within the appropriate timeframe, then the exchanger gets the benefit of deferring capital-gains tax.

GlobeSt.com: Can you explain the two rules and how they work?

Travers: The 45-day rule means the exchanger needs to identify a “like-kind” replacement property within 45 days of closing. There are three rules for identifying replacement property, but the most common rule is the “three-property rule”—that is, the exchanger may identify up to three potential replacement properties to purchase to complete the 1031 exchange. The 180-day rule means the exchanger must close within 180 days. Typically, they can close on one of the properties, and the other two can be back-up properties.

GlobeSt.com: How does the auction process fit in?

Travers: For the first phase of a 1031 exchange, the selling of the original property, an online auction platform provides a borderless network of potential buyers worldwide. Also, through Auction.com, the QI can evidence the buyer having proof of funds to bid on properties because the sales proceeds are held in escrow for the purchase of a replacement property. This is proof of a viable bidder.

Once sold, the next phase for the exchanger is identifying up to three assets as potential replacement properties. As the largest online market of commercial properties for purchase, Auction.com would allow sourcing and due diligence online to identify the replacement properties to complete the exchange. Finally, if the exchanger is successful in bidding on one of its identified properties, then there is a surety of closing through the auction since there is no re-trading or financing contingency requirements, which helps facilitate the exchanger's 180-day rule requirement.

However, the risk (and that goes with any 1031 exchange) is the closing on an “identified replacement” property or properties within the specified 180-day timeframe, and that is subject to market forces—and those are winning the bid and closing within the required timeframe, whether it be traditional brokerage sale or through an online auction. That is a major risk inherent with a 1031 exchange. The caveat is that the rules required to successfully accomplish a tax-deferred exchange are specialized and complex, and we suggest consultation with appropriate legal and tax professionals prior to engaging in this transaction.

GlobeSt.com: What trends do you see with respect to retail buys?

Travers: The triple-net space does well with 1031. If you have a gun to your head and a deadline to meet, the easiest property on which to do due diligence is a single-tenant, investment-grade property where you can see the tenant and their credit rating. That's what makes triple-net or single-tenant properties favorable for the 1031-exchange market. Of course, this depends on how transaction volumes are doing in general. In a market that's not as liquid, chances are you're not going to put yourself out there to sell property at a depressed price, even if it's triple-net. The 1031 exchange is a popular tax-planning tool, but it's not for the faint of heart.