What Is House Swapping in Real Estate Investing?
While house swapping is not very common in real estate investing, it is an available tool for some investors and homeowners. There are actually two types of swapping methods available for sellers and buyers of properties.
The most common type of property swap is called a 1031 Exchange. In a 1031 exchange, two property owners come together with at least one party having a substantial capital gain or profit in the property. These exchanges are carefully controlled by IRS (Internal Revenue Service) guidelines. These exchanges have so many time and other parameter restrictions, that investors should not try these on their own. Have a company that specializes in these property transfers handle all the paperwork and compliance issues that are involved.
The purpose of a 1031 exchange is to effectively lock in a substantial profit on a property by trading for an asset of equivalent value or even more equity in some cases. The key to doing this transaction is to find a seller of a “like kind” of property at the exact time the first seller needs to trade for the second property. There are specialty real estate brokers who specialize in these transactions and work closely with 1031 exchange firms that facilitate these complicated transactions mostly in the commercial property arena.
There will be two complete closings with both the buyer and seller becoming a seller and buyer of each other’s property. For example, seller A will sell his property to buyer B and theoretically at the same time, buyer B will become seller B and seller A will become buyer A. In the end, each party will own the other’s property with no tax consequences of these sales (transfers). The closings are required so that both buyers get clear and marketable title on the purchase of their respective properties.
The more common type of house swap is between two homeowners that have for different reasons decided to move into the other’s neighborhood. This time the same double closings occur, but there are tax consequences on these transactions in the form of capital gains. If one or both parties take a loss on their property, this loss is not deductible from either seller’s income tax.
This may be important to know in case on seller has a large gain while the other may be taking a loss. If these properties are the homesteaded properties of the sellers, there are currently capital gains exemptions for a specific amount for single or married homeowners if they have lived in the property for a certain time period in the last five years.
Always consult with a tax professional before you commit to a 1031 exchange or a simple house swap because of the longer term ramifications of these transactions.