Is a 1031 Exchange Really Worth It? After Three Months of Work, We’re Questioning It

Key Takeaways:

– Author is considering a 1031 exchange for a property they own in Brooklyn
– Concerns about the tax implications and potential benefits of the exchange
– Plan to invest in a multifamily rental property in a different state
– Running the numbers to determine if the exchange is worth it
– Consideration of investing in index funds instead of real estate
– Working with tax attorney to understand tax implications of the sale
– Setting criteria for the new property and target markets
– Seeking mentorship and guidance from Real Wealth company
– Goals for the month include increasing deal flow and prospecting efforts
– Using MLS, LoopNet, Facebook groups, and BiggerPockets forums to find potential properties
– Planning to document the 1031 exchange journey in a monthly series
– Seeking advice and feedback from the community
– Promotion of BiggerPockets resources for real estate investing success

BiggerPockets:

Is a 1031 exchange really worth it? That’s the question we asked ourselves as we ran property after property this month. 

If you’re new here, we are selling our spacious Brooklyn condo, which we’ve owned for almost 20 years and which has appreciated immensely. The plan is to 1031 exchange it into a multifamily rental somewhere out of state, in a growing market, with landlord-friendly regulations. 

Running the Numbers

The condo goes on sale in May, and we expect to walk away with $850,000 in cash from the deal. We also assumed we would easily be able to clear our cash flow goal of $5,000 a month with that investment, but as we ran the numbers, we started to realize that not all markets would support this. Are the hours of effort to flip our profit into more real estate really worth it?

What if we just sold our condo, collected the $975,000 sale price, paid off our remaining mortgage, took the capital gains hit, and threw the remainder into index funds, where we could count on a reasonable 8%-plus a year growth? 

We conferred with our tax attorney, who said: “A ballpark IRS, NY, and NJ tax on the sale, based upon a $975,000 sale price and assuming Realtor commissions and other closing costs of $40,000, is an additional tax of $250,000 to $300,000.” So that means, instead of walking away with $850,000, we would net $500,000 to $550,000.

Ouch. That’s a big bite. 

And since our plan is to use the rental cash flow to help pay for our kids’ college, we would likely need to withdraw the 8% gains every year, which means, after 10 years, instead of seeing a nice equity growth on a rental property, we would be left with the exact amount of money we put into the index fund in the first place. Not ideal.

That exercise at least helped me reframe the underwriting I’m spending so much time on. By figuring out our 1031 transition plan to another property, I was basically making $250,000-plus for a couple of months’ work. Worth it!

Where We Are Now

And we are making progress—-we just don’t have a slam dunk yet.

Last month, we successfully finalized our buy box:

  • Type of property: Multifamily
  • Budget: $1 million to $2.2 million ($850,000 down payment)
  • Neighborhood: A-B
  • Condition: Cosmetic updates only
  • Not in a flood zone
  • Must cash flow $5,000/month

And we also zeroed in on our five target markets:

  1. San Antonio, Texas
  2. Dallas, Texas
  3. Cleveland, Ohio
  4. Jacksonville, Florida
  5. Tampa/St. Petersburg, Florida

We still felt like we were boiling the ocean a bit with this list, and since we’re multifamily and out-of-state newbies, we were craving some mentorship. 

Like many of you, I am a BiggerPockets podcast junkie and religiously listen to the full suite of shows, from On the Market to Bigger Pockets Money and everything in between. I started to think about Kathy Fettke, one of the regular hosts of On the Market, who I always thought of as a straight shooter, and her Real Wealth company.*

I reached out to someone there, who explained their model: new homes, vetted, select partners in each city they represent, and they make money in referral fees. I liked the referral and the warm handshake to Realtors in each city who were used to working with investors and who were incentivized to keep Real Wealth referrals happy. Using these groups felt like a way to get vetted Realtor partners quickly. 

Over the past few weeks, we met with all the Real Wealth-vetted Realtor partners in our target markets, talked through our buy boxes, and started to review their inventory. Since we hope to be under contract on our Brooklyn condo in May, we still have a little time to get our bearings.

Goals This Month

Our one and only goal this month is more deal flow. We aren’t seeing real volume yet, so we need to increase our prospecting efforts. Here’s how we’re tackling:

MLS

Yes, sometimes there are gems lurking here. Especially in the multifamily space, since MLS is not usually where these things live in great numbers, we can find some properties that pencil out.

LoopNet

Since we are looking for multifamilies that may have more than four doors (making them technically commercial rather than residential properties), we are going to browse LoopNet. The trick with both MLS and LoopNet is that we’ll need to share anything we find back with our local real estate partners, who can help us vet the neighborhoods since we’re not local. 

The downside with LoopNet, in particular, is there is no “in contract” setting on the listings, so we may be getting excited about a property that’s basically already sold.

Facebook groups

I am bracing myself for the deluge, but we will post our buy box in various investor groups. We’ve set up a burner Gmail account so we don’t get buried by the inevitable spam.

BiggerPockets forums

Likewise, we’ll post our buy box in the BiggerPockets forums and link out to our newly created real estate gmail.

One thing we won’t be doing is direct mail. We considered, but just don’t have time for a campaign like this.

Final Thoughts

We’re doing lots of heads-down work narrowing our consideration list, but we hope to make enormous progress this month—including working with a few great Realtor partners around the country and many, many deals lined up to pick from.

This 1031 diary will be a monthly series through 2024, chronicling our journey to a (hopefully) successful and profitable 1031 exchange, kicking off in May. We’ll share everything—all the numbers, the analysis, the good decisions, what we wish we’d done differently, the big mistakes (hopefully not many), and everything in between.

Got questions? Got advice? What are we missing? Share in the comments below!

*We have absolutely no affiliation with Real Wealth, any of the hosts at BiggerPockets, or any other real estate group. We are regular investors who get no special treatment.

Ready to succeed in real estate investing? Create a free BiggerPockets account to learn about investment strategies; ask questions and get answers from our community of +2 million members; connect with investor-friendly agents; and so much more.

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.

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Property Chomp’s Take:

Is a 1031 exchange really worth it? That’s the question my partner and I have been asking ourselves as we navigate the process of selling our spacious Brooklyn condo and looking to invest in a multifamily rental property in a new market. The goal is to take advantage of the tax benefits of a 1031 exchange and potentially increase our cash flow with a new investment.

As we ran the numbers, we started to realize that not all markets would support our cash flow goals. We considered the option of selling our condo, paying off our remaining mortgage, and investing the remainder in index funds. However, after consulting with our tax attorney, we learned that the tax implications of selling the condo would significantly reduce our net profit. This made us reevaluate the potential benefits of a 1031 exchange.

We decided to focus on finding a multifamily property in markets like San Antonio, Dallas, Cleveland, Jacksonville, and Tampa/St. Petersburg. We reached out to Real Wealth, a company that connects investors with vetted Realtors in different markets. This helped us streamline the process of finding potential investment properties and working with experienced professionals in each city.

Our main goal this month is to increase our deal flow and find more potential properties that meet our criteria. We are exploring options like the MLS, LoopNet, Facebook groups, and BiggerPockets forums to find leads and connect with sellers. While direct mail is not in our current strategy, we are open to exploring other avenues to expand our search.

This 1031 exchange diary will be a monthly series documenting our journey towards a successful and profitable exchange. We will share our analysis, decisions, mistakes, and lessons learned along the way. We welcome any advice, questions, or feedback from the real estate community as we embark on this exciting new chapter.

Overall, the process of evaluating the benefits of a 1031 exchange has been both challenging and rewarding. While there are risks and uncertainties involved, we believe that with careful planning and strategic decision-making, we can maximize the potential benefits of this tax-deferred exchange. Stay tuned for more updates on our journey towards financial growth and success in real estate investing.