Avoiding Capital Gain to Maximize Profit

This article is written expressly for the purpose of reading in the United States of America, since it is the American system upon which the article is based. Readers outside the US may find the system in their respective countries to be different or similar.

Investing in anything means putting capital into it, and hoping it will grow. When it does grow and the time comes to collect, you may soon find that you will not get the maximum amount due to taxes. If these assets become more valuable under your ownership, you could face capital gains. The tax applied to the sale of non-inventory assets like stocks, bonds, and real estate whose value has gone up from the time they were acquired is called capital gains tax. Simply put, if you buy stocks, bonds, or real estate and are able to sell them for more than what they cost you, you are required to pay a capital gains tax.

Now we understand that taxes are necessary to ensure better lives for everyone, but that does not mean it doesn't hurt to pay taxes. Capital gains taxes can be particularly difficult, since one may feel that they are entitled to the whole amount. There is a way to avoid capital gains taxes though, called a 1031 exchange. This refers to provisions made possible via the Internal Revenue Code section 1031, which specifies how capital gains and associated taxes can be deferred.

The gist of it is that you do not "sell" your assets, but instead "exchange" them for something else. There is a fundamental difference there, and that is why 1031 exchanges can help you get the max out of your investment's growth. To illustrate, perhaps an example is in order.

Say you own stocks in a mining company. That mining company has performed well for the past years, and has seen its value rise. Your stocks in turn grow to about 1.2 times the original size. Now, if you were to sell those stocks and cash out so to speak, you would lose some amount to taxes and not get the total 120% return of investment you wanted. Instead, you can reinvest that amount by exchanging your current stocks with stocks totaling a higher value from another mining company. This will not garner any capital gain, since no sale was made and so no tax could be placed against it. You retain your 120% return of investment fully, although it remains in stocks form and not cash. If you planned to invest the money anyway, then this is definitely worth a shot. This exchange of assets with no loss constitutes a 1031 exchange.

The application for a 1031 exchange is rather complicated, as is anything that has to do with finance and taxation. There are rules which identify eligibility to apply, as well as conditions to be satisfied for it to be considered legal. It would be best to turn to a qualified professional for advice, or to a Qualified Intermediary to actualize it.