First equity represents the hard-earned value that is yours in any property you own. So, if you take your gross selling price and subtract your closing expenses or closing costs, and then further subtract the amount of any debt, that remaining number which is left over will be your equity.
Now how about capital gain? Well in order to determine gain we need to know what is called your costs basis. And your cost basis is going to be informed by when you bought the property. So when you bought the property you had a purchase price correct? Well that will be the start of your cost basis, which actually changes over time. For instance, if you've done any improvements to the property that amount should be added. And likewise, if you've deducted any depreciation while you've owned the property that will be subtracted. Therefore, lets determine your cost basis and gain this way: Let's find our final cost basis or adjusted basis. That will be our original purchase price, plus any improvement, and then less any depreciation, that gives us our final adjusted basis. Now let's once again take that net selling price from our sale, deduct our final adjusted basis, and bingo, that's our capital gain.
One last thing. Here is a very simple rule that works in exchanges if you want to have a totally tax-deferred transaction. And that is …. do these two things and your exchange should be tax free. Number 1, buy a replacement property that is equal or greater in value than your net selling price, and 2) move all your equity from the old property into the new one. If you do those two things, plus replace your debt, your exchange should be completely tax deferred.
The IRS has set forth two rules and one exception for identification which can be found here.
Okay, first important time rule. You have a total of 180 days in which to sell your relinquished or exchange property and actually buy and close on your replacement property or properties. That is called the exchange period. Also, if you buy more than one, make sure the last one you close is still within that 180 day window or it won't qualify.
Now often you'll hear a qualifier or caveat regarding the 180 day exchange period which can be very important. And that is this: you actually have 180 days or whenever your tax return is due, which comes first. So what does that mean? This………. If you close your relinquished or exchange property late in the year, say for instance around Thanksgiving, you won't have a full 180 days between then and you're your tax return is due on April 15th correct? Okay, so if that is the case for your transaction, in order to get the full 180 days you will be needing to file an extension in order to include your exchange in your return. That's what that tax return qualifier really means.
Okay, second important time rule. In addition, after you close your relinquished or exchange property, you'll have 45 days from that closing in which to name candidate or targets properties in which to exchange. So that first 45 days out of the total of 180 is called the exchange period.
Also, this is important to remember. You must identify under some basic rules. The only time you don't really have to identify is if all your replacement property is already closed within that 45 day window. That's kind of de facto identification anyway isn't it?
There are two rules for identifying and one exception which we cover elsewhere, but let me give you the rule which is used 95% of the time. It is this. The three property rule. And it is this: You can name or identify any three properties of any value. But your identification must be in writing, and it must be transmitted or postmarked within that 45 day period. Now you can use our online identification tool if you prefer. It simply handles the transmission aspect electronically and the signatures are digital. But it is pretty convenient if you are on vacation, and today is your 45 day and all you have is a smart phone. And those are the basic time constraints.