Using a 1031 Real Estate Exchange to Fund Retirement: An Example

Many well-off people find themselves “asset rich but cash poor,” especially near retirement. A common cause for the imbalance is too much investment real estate (with restricted shares of stock in a company not far behind). Say you own 100 acres of farmland or an old apartment building in the city, worth much more than you paid but producing relatively little income. What to do? Consider a 1031 Real Estate Exchange, the rules for which I described in this previous blog post.

A 1031 exchange lets you sell property you no longer want or need, defer taxes on the profit, and then invest in real estate that makes more sense for you. This strategy is especially advantageous if you own investment property in a pricey market, such as the Seattle area, and want to maximize your income for retirement or some other reason. Here’s an example of how this can work:

Let’s say Mary and Bill are in their late-50s, with a primary residence in Seattle plus two rental houses in Renton, WA. Both rentals are leased at below-market rates — $1,800 a month each (net $1,500) — because they’re in need of major updating and repairs. Estimates are that each house can sell for $450,000, a big gain from the $100,000 they paid.

Problem: Bill and Mary want more income for their retirement years, and not to worry about repairing rental houses.
Solution: With the help of a property manager, they look nationally and find new-construction homes in Memphis, Tenn. priced at $200,000 each. They hire an intermediary to do a 1031 Exchange, and then sell their two houses in Renton for a total of $900,000 tax-deferred. The net proceeds from the Renton sale, roughly $800,000, are then invested in four new houses in Memphis. Each of those four is then leased for $1,500 a month, or $5,000 total, after management and maintenance.

Result: A 67% increase in Bill and Mary’s net monthly rental income: to $5,000 a month (up from $3,000). And they now own new rental houses that will require little updating.

The above is just a hypothetical example. If you own investment or business real estate that is not working for you, it’s worth exploring a 1031 Real Estate Exchange. Our advice, as always, is that an exchange should be done in context of an overall financial plan that takes into account where you are now and where you want to be years from now. Without a financial plan in place, you risk selling yourself short (pun intended).

Nadia Reynolds
Nadia Reynolds
Nadia, a senior client analyst at Laird Norton Wealth Management, truly enjoys helping clients align their finances with their needs, goals and aspirations. They can then make the best possible decisions, she says, and move on with confidence.