SECTION 1031

SECTION 1031 - TAX DEFERRED EXCHANGES

Tax — Deferred Exchanges
A tax-deferred exchange allows an owner of business or investment property to exchange that property for new property without incurring income tax on the gain.

General Statutory Requirements
There are three general statutory requirements the taxpayer must meet in order to establish the transaction as eligible for non-recognition treatment under Section 1031.

Both the property relinquished and the property received by the taxpayer in an exchange must be held for productive use in a trade or business, or for investment.

The property relinquished in an exchange and the property received in an exchange must be LIKE-KIND properties.

The transaction must be a reciprocal transfer of properties, as distinguished from a sale and re-investment.

The Tax Reform Act of 1984
To qualify for a tax-deferred exchange, the owner must identify the new property within 45 days from the date the owner relinquishes the old property. The law also requires the owner to receive the new property by the earlier of 180 days from the date the Relinquished Property is transferred, or the date his income tax return is filed for the year in which the sale occurred.

Additionally, the owner must not have the right to receive the cash proceeds of sale of the Relinquished Property during the statutory period to complete the exchange.

Structuring Tax - Deferred Exchange
Tax-deferred exchanges are as advantageous for individuals and small businesses as they are for large corporations. But, regardless of size, exchanges are subject to numerous opinions, rulings, regulations and court decisions. While exchanges offer excellent tax advantages, they must be structured in accordance with all I.R.S. Regulations to realize a tax benefit.

The Treasury Department has issued final regulations for tax — deferred exchanges. The Regulations impose limitations on real property exchanges and provide long overdue guidance in an area of the tax law filled with traps for the unwary — or the ill-advised.

The Regulations define four "SAFE HARBORS" as mechanisms for structuring exchanges. These "safe harbors" define the edges of the envelope of safety. If a transaction is structured outside of these safe harbors, the owner will not automatically be denied non-recognition treatment, but the transaction will be closely scrutinized by the I.R.S.

The most important aspect of the Regulations is that many more taxpayers are now able to proceed with reasonable certainty that their exchanges will qualify for non-recognition treatment by taking advantage of the "safe harbors" created by the Regulations.

I.R.S. "Safe Harbors"
Chicago Deferred Exchange Corporation (CDEC) acts as a "Qualified Intermediary" under the I.R.S. Regulations in facilitating thousands of exchanges each year. The Qualified Intermediary structure eliminates the need for the purchaser of the owner's Relinquished Property to participate in the exchange and is the only "safe harbor" available for simultaneous exchanges.

The Owner enters into an Exchange Agreement with CDEC. Through an assignment of the contract from the Owner, CDEC is substituted as seller of the Owner's Relinquished Property. Proceeds from the sale are deposited into Qualified Exchange Trust Account with The Chicago Trust Company and used by CDEC to acquire the Replacement Property.

Within 45 days of the transfer of the Relinquished Property, the Owner must identify the Replacement Property to CDEC in writing. The Owner may identify up to three properties of any value or greater than three properties provided the total identified does not exceed 200% of the sales price of the Relinquished Property. Through an assignment of the contract from the Owner, CDEC is then substituted as the purchaser of the Replacement Property. "Direct Deeding" is utilized on both legs of the exchange, as authorized by the Regulations and Revenue Rulings.

Cash and Liabilities As Boot
In order for a taxpayer to fully defer his gain, the Replacement Property must have a fair market value equal to or greater than the Relinquished Property value AND the taxpayer must use all of his equity to acquire the Replacement Property. To the extent the taxpayer receives money or other property, he will have "recognized gain," commonly called "boot."

Boot Netting Rules
Rule #1. Cash paid on the acquisition of Replacement Property offsets cash received on the disposition of Relinquished Property.

Taxpayer (T) transfers Relinquished Property with a fair market value of $100 and acquires Replacement Property with a fair market value of $100. All the cash is used to acquire the Replacement Property. T fully defers his gain — he does not receive boot.

Rule #2. Cash paid on the acquisition of Replacement Property offsets debt relief on the disposition of Relinquished Property.

Taxpayer (T) transfers Relinquished Property with a fair market value of $100 and acquires Replacement Property with a fair market value of $100. T is relieved of a $20 liability on his Relinquished Property. He acquires Replacement Property with $80 cash and adds an additional $20 cash. He does not assume a new liability on the acquisition of Replacement Property. T fully defers his gain — he does not receive boot.

Rule #3. Debt assumed on the acquisition of Replacement Property offsets debt relief on the disposition of Relinquished Property.

Taxpayer (T) transfers Relinquished Property with a fair market value of $100 and acquires Replacement Property with a fair market value of $100. T is relieved of a $50 liability on his Relinquished Property. He acquires Replacement Property with $50 cash and assumes a $50 liability. T fully defers his gain — he does not receive boot.

Rule #4. Debt assumed on the acquisition of Replacement Property will NOT offset cash received on the disposition of Relinquished Property.

Taxpayer (T) transfers Relinquished Property with a fair market value of $100 and acquires Replacement Property with a fair market value of $100. T is relieved of a $20 liability on his Relinquished Property. He assumes a $30 liability on the acquisition of Replacement Property. $70 cash is used for Replacement Property, leaving T with $10 in cash. T has recognized gain, or boot, in the amount of $10.

Substitute Basis Computation
The basis of property received in an exchange is equal to the adjusted basis of Relinquished Property plus the net increase or minus the net decrease in debt, minus the net cash received or plus the net cash paid, plus the amount of gain recognized in the exchange. This is known as "substitute basis".

Investment Income
When the cash proceeds of a sale are deposited into the Qualified Exchange Trust, the Trustee invests the funds and the Owner receives interest income earned during the Exchange Period. The Chicago Trust Company offers maximum yields through the management of over $5 billion in assets and the security of a trust account — a safeguard no other major intermediary can offer.