Although 1031 Exchanges are primarily used to shift our equity from one property to another, there are ways of recovering some of that equity for use as leisure or further investment purposes.There are two ways to recover money from your property before or after the 1031 Exchange is completed. However, there are two ways to usurp this premise and cash out some of your equity: pre-exchange refinancing, and post-exchange refinancing. To be tackled first is the pre-exchange financing.

To keep in line with the 1031 rationale, all of the proceeds from the sale are supposed to pass to the qualified intermediary - this prevents you from receiving any cash benefit from the sale. This prevents you from receiving any cash benefit from the sale; there may be times, however, when you would like to use some of your equity for your own entertainment or investments. So, you decide to refinance your property shortly before the 1031 exchange and use that equity for your desired luxury item. A smart move? Probably not, according to IRS v. Garcia.

Garcia was a taxpayer who decided to refinance his property in anticipation of the 1031 exchange.Garcia tried to avoid the tax and ran afoul of the 1031 rationale and the IRS.In order for you to avoid the Garcia issue, you may decide to refinance the replacement property. It can be acceptable to pay taxes or cash out the equity otherwise known as 'boot'. Garcia tried to avoid the tax and ran afoul of the 1031 rationale, and the IRS.

If you don't want to encounter the Garcia issue, you should decide to refinance the replacement property. This is a good way for you to take some of that equity out of the replacement property and buy more real estate. In post-exchange financing, taxpayers may not want to leave all of their equity in the replacement property some want to take out that equity and buy more real estate. But, how long should you wait after completing the 1031 exchange before you take out the equity in the replacement property? Most people would wait a nanosecond.

The nanosecond refinance is waiting just long enough after the 1031 to show the IRS, through the closing statement, that you’ve re-invested all of your equity into the replacement property. In a separate transaction, a new settlement statement is used to show that the replacement property was encumbered with new debt via a loan or mortgage, then there is a cash payment from the lender to you. Thus, there is a pool of money you can access after the tax exchange.

Whether the nanosecond exchange is legal is debatable. There are risks in the nanosecond interpretation since there is no definitive IRS rule regarding how long you have to keep the equity in the replacement property. A more prudent approach would be to keep the money in the replacement property in order to avoid the Garcia trap. In this case, keep the equity in the replacement property until the following tax year, or until two years have passed from the 1031 exchange to the ultimate refinance.