Cash Available from 1031 Exchange

[Snaggletooth]

After a tax-free exchange, taxpayer invades equity to withdraw cash. Sorta defeats the "boot" definition.

Maybe an example can paint the picture, with simplified fictitious numbers.

Taxpayer owns Property 1 with a basis of $250,000, but FMV of $1,000,000 and existing mortgage of $85,000 which does not transfer to the buyer. He buys Property 2 for $1,000,000 and borrows $150,000 in the process. The sale/purchase goes through a qualified intermediary within the prescribed time limits, so BINGO! Tax free exchange!

Taxpayer sits on Property 2 for awhile, but six months later, he takes out a loan from the equity in the new property in the amount of $500,000, and doesn't use the money for improving Property 2 at all.

Does this scenario result in taxation?? Keep in mind that he had this same equity in the original property so it would appear he has the right to do this. But also, he is walking away from this tax-free transaction with a bunch of money...

[DoubleO]

I think borrowing the $150000 might create an issue in the Exchange. Your post is short on specifics, but property 1 was given up for property 2, correct? You used the term “buys,” not “exchanged,” so we are having to assume facts based on the rest of the post.

Was the $150000 paid out to him, i.e., as an equity loan, or to the seller of property 2 as part of the exchange agreement?

[DoubleO]

And if he is exchanging $1000000 property for $1000000 property, why the need for the loan of $150000 “in the process” anyway?

Wouldn’t they just close on the transaction, then he borrow against the equity later as he did with the $500000 loan?

[Snaggletooth]

Thanks for responding OO -

The $150,000 loan is made outside the exchange transaction, so I think it falls into the same category as the $500,000 loan drawn out on equity.