Several years ago, and many years before I became a real estate broker, my younger brother and I inherited a small tract of farmland after my grandfather’s passing in the fabulous state of Ohio. Being born and raised in Florida, and not being farmers ourselves, we initially were not sure what to do. My grandad had kept the land in the family for many years intentionally, and it was now up to us youngsters in our mid-thirties to either keep it and lease it, or to dissolve the business operations part and sell the land. Not only did we not understand the cost basis for the land (how much my grandad paid for it), but we also did not know how to get an estimate of the market value of an acre of farmland in that part of the country. So, we consulted a local real estate professional who had deep ties in the community and knew of definite buyers.
Needless to say, what we also did not know at the time was that we would need to pay a substantial amount of capital gains taxes when tax season rolled around due to the sale. When consulting the CPA at tax time, I remember trying to find the cost basis of the land that we sold so we could write down the gain we realized and only pay taxes on the gain. I ended up coughing up something like thirty percent of my part of the land sale in taxes to the IRS. Ouch! Then, about 3 months later I received a letter from the IRS saying I owed more due to proceeds from the land sale. Double ouch! I am not nor have I ever been a CPA or a tax professional, but it was several years later after I became a real estate professional in Florida that I learned about something called the 1031 Exchange.
In hindsight, we should have done a 1031 Exchange with the proceeds from the land sale in Ohio. We could have taken the proceeds from the farmland sale and found an equal or greater valued investment property of “like kind” and deferred ALL capital gains taxes. I could have bought a rental property in Florida, a small duplex, a small, leased office condo, or any other non-primary residence type of other real estate somewhere and kept the taxes from the IRS. I would have needed to go through a qualified intermediary (QI) to complete the 1031, but I had never heard of this at the time. Now that I work in real estate, I regularly refer clients to qualified intermediaries, CPAs, and tax professionals for 1031s out of a current investment situation and into a different and hopefully better like-kind investment. For those that qualify, there are also Delaware Statutory Trust (DST) investments that are possible to get into through a 1031 Exchange. I am not an investment advisor, nor am I permitted to act as one, but these options would have saved me from coughing up so much tax to the IRS unnecessarily just because I decided I did not want to hold farmland in Ohio anymore.
They say hindsight is always 20/20 vision. Seeing clearly now what I did not see at the time makes a tremendous difference. What a lesson learned!