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Improvement Exchanges

With a very limited inventory of available properties the

good ones are quickly snapped up. Properties that

languish on the market do so for a reason - many of them

have significant deferred maintenance. These properties

generate a lot of calls to our office. The primary question...

Can exchange funds be used to make the necessary

improvements?

Yes,with the following requirements:

1. The improvements must be identified, and

2. The work must be performed before the Exchanger becomes the owner.

If the Exchanger can't be the owner, who will be?

There are several options:

Option 1 - Seller Owns and Improves

The Exchanger negotiates with the Seller to have the Seller make the

improvements and increase the sales price. (Sellers seldom agree to do this.)

Option 2 - Seller Owns and Exchanger Improves

The Exchanger negotiates with the Seller to allow Exchanger's contactor on

the property prior to closing to make the improvements. The closing occurs

after the work is completed. This is most often utilized when the project is of

short duration, for example, installation of a new furnace. (The risk to both

Seller and Buyer would cause most attorneys to blanch at the thought.)

Option 3 - EAT Owns and Improves

Utilizing Revenue Procedure 2000-37 the property can be "parked" with an

Exchange Accommodation Titleholder (EAT), a service provided by the

exchange company. The work takes place while the EAT owns the property.

This revenue procedure permits the Exchanger to fully manage and control

the property and project.

There will be additional expenses associated with the parking arrangement -

extra closing costs, tax advisor expense, lender fees, EAT fees, etc. When all

these expenses are tallied the cost can be $10k, or more. Utilizing the EAT

can make financial sense when the improvements are $100k, or more.

What does not work?

A holdback in escrow or prepayment of vendors and contractors does not

work. With either of these arrangements the work will be performed after the

Exchanger owns the property and is viewed by the IRS as the receipt of

"goods and services" not like kind real estate.

What if the improvements cannot be completed within the 180-day

exchange period?

As long as the improvements, when completed, are substantially similar to

what was identified, the Exchanger will get credit for the value in the ground at

the point the property is transferred to them.

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Kelci Paiva