Jason Hartman starts the show by discussing one powerful investment tool as an alternative to the 1031 exchange. He discusses unsecured loans and a qualified intermediary installment sale. These two combined allow you to start a new depreciation schedule. Then Jason discusses the Fed’s plan to keep the economy in shape. He ends with caution on elevators and population density issues.
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Welcome to the holistic survival show with Jason Hartman. The economic storm brewing around the world is set to spill into all aspects of our lives. Are you prepared? Where are you going to turn for the critical life skills necessary to survive and prosper? The holistic survival show is your family’s insurance for a better life. Jason will teach you to think independently to understand threats and how to create the ultimate action plan. sudden change or worst case scenario. You’ll be ready. Welcome to ballistic survival, your key resource for protecting the people, places and profits you care about in uncertain times. Ladies and gentlemen, your host Jason Hartman
Jason Hartman 1:00
Thank you for joining me today. I hope everybody is safe and well, and not going crazy cooped up in their home. We have listeners in 189 countries. And I never thought I’d see this or imagine anything like this. But most of the planet Earth is on a quarantine of some sort, whether government imposed or self imposed. These are truly amazing times in which we are living. And I don’t mean that in the typical sense, because you know, my somewhat moderately famous quote, which is, it’s an amazing time to be alive. Well, I guess it is an amazing time to be alive. This is not what I meant by it. But hey, we’ll get through it. We’ll get through it. So be safe. Take care of yourself. Take care of your family, and wash your hands 97,000 times a day. Yeah. Oh boy. This is a new world. Folks. This will change so many things. For so long, of course we’ll get through this, it may be a bigger or smaller deal than we might be imagining that remains to be seen. But either way, we’ll get through it and life will go on. We now live in the world, where the largest central bank on planet Earth, of course, the United States is a Federal Reserve, federal being in single quotes, because it’s not really that federal. They are now taking the role of Buzz Lightyear to infinity and beyond to infinity and beyond. The Fed has now said publicly, that they will provide unlimited asset purchases and unlimited stimulus to support markets, that they pledged that there is no limit to what they will do to prop up the economy. And some, you there’s a case for this no question. Some say, well, it’s not going to help very much. Well, that’s not true, it is gonna help. But it’s not everything. Okay? The Fed certainly has a lot of power, but they’re not omnipotent. They can’t solve the supply and demand shock problem. So one of my many predictions that has come out of this is that we will enter a phase of stagnation, where the misery index will be something that most people really suffer from sadly, where we will see relatively high inflation ultimately, and we will see a more stagnant economy now the question is always compared to what? Well, two things number one is compared to the rest of the world if we’re talking from a US perspective, and again, we have listeners all over the world in almost every country on Earth, but Since the US is the largest economy, and that’s where we’re talking about real estate investing, it matters in a big, big way. So, we will see this period of stagnation, it usually is infectious. And when the US has an economy a certain way, the rest of the world typically kind of follows it and to one degree or another. So that’s complicated, but the compared to what question is number one, compared to this economy, to all the other economies in the world, and then the global economy as a group, and then also compared to other people in the economy, other players, right? Because like I’ve taught you many times before, over the years, that economics is a relative game, and good old Charlie Sheen remember him when he embarrassed himself several years ago, and he said, winning,
Jason Hartman 4:51
winning, you know, Charlie Sheen, there’s hashtags all over social media winning, and here’s how you win. Okay? Look at it’s a relative game. It’s like the bear in the woods, right? You’ve all heard that story, probably where two people are hiking, and they encounter a bear. And the bear starts to run toward them. And they become very worried. And one of them tightens his shoe laces. And his buddy says to him, man, what do you what are you doing? tightening your shoelaces, you can’t outrun a bear. And he says, I don’t have to outrun the bear. I only have to outrun you. And that is true. That that I don’t want to say it’s a funny story, but sort of is. That is true. That’s the way economics works. All you have to do in this type of economy is get ahead a little bit, make incremental gains, or even tread water, and you will be ahead of most other players in the market. That means your neighbor your friends, Okay, you just want to get ahead of the relative pie. Okay. So you know, there’s that old saying a rising tide floats all ships, Well, not really. Okay, it floats, some ships that float better than others, right. And I want to help you float better than the other ships. And that’s the purpose of what we do at Jason Hartman calm and on this show and with working with our investment counselors, by the way, our guest today is going to talk about 1031 tax deferred exchange alternatives. And many of you have been asking for me to do a show on this. So we’ll get off the topic at hand. We won’t talk about the surveys of sickness or you know, the China virus, that terms received a lot of criticism, and I’m not even going to call it what it is. Okay. So I’m just giving it some other names that are circling out there around. So the surveys of sickness, boy, people in Mexico must be really upset about that. That’s just so discriminatory to call it that or do you know by the way listeners that sales of Corona beer I read an article about this a few weeks ago this I don’t even know what the update is to it that sales of Corona beer have sharply declined because of the and I’m gonna say it now that Coronavirus Isn’t it weird that people would make that connection? Well, if I buy Corona beer, I might get the virus. Oh, people are weird. Okay. I mean strange connections but sad for Corona beer. You just don’t have the right name right now. Anyway, so our guest today will talk about the 1031 tax deferred exchange alternatives. I think you’ll find this to be really interesting. And we’re going to have a little follow up on it. Probably tomorrow to discuss one more aspect of the alternative. This is a great thing. Of course, check with your tax advisor. We always say that, and I have to now say because we’ve talked about some of the public health issues check With a medical professional about anything we say as well, if you need legal advice, check with an attorney. Okay. So that out of the way all my disclaimers, we have the no limit fed check with an economist, hey, maybe you’re listening to one, you be the judge. We have the no limit Federal Reserve, which is absolutely a crazy statement, that means inflation will have no bounds. My prediction is mass migration to lower density living styles that will benefit you who are following our plan, because we’ve been recommending that for years. By the way, Evan, our client, who’s been on the show a few times, shared with me a good quote from the New York Times, listen to this. You’re gonna like this. You’ve been following my plan. For the past 16 years, you’ve been investing where I tell you to invest. You’ve been going to Jason hartman.com slash properties. You’ve been talking with our investment counselors and buying up these great properties that already fit Right into this new migration trend that is going to benefit you in a huge way. All right, New York Times says density is really an enemy. In a situation like this, said Dr. Steve Goldman, an epidemiologist at Stanford University, quote with large population centers where people are interacting with more people all the time. That’s where it’s going to spread the fastest referring, of course to Coronavirus COVID-19. So, there you go, folks, after the quarantines blow over and they will, Trump says he wants to reopen America. I never thought I’d see a headline like this. He intends to reopen America in a matter of weeks, not months. reopen, like implying that America is closed and it really is. Strange Times we’re living in I never thought I’d see a headline like that in my entire life. Wow. Talk about a black swan event. We are in a black swan event right now. So there will be a mass migration from high density living to lower density suburban living, which is the investments we’ve been recommending all along, there will be a push toward digital currency. Remember, cash is dirty. And I’ve already read articles on how the Chinese are cleaning their money, cleaning the money, right? Money laundering, I guess that gives whole new meaning to money laundering, doesn’t it? Yes, it does. I guess the Chinese government is now money laundering. Okay, there you go. jokingly Of course, but yeah, cash is dirty. So we need a cryptocurrency. Now the cryptocurrencies is going to win the game is not going to be Bitcoin I hate to break it to you. But I’ve been telling you this for years. And remember, I host a podcast on this subject called the crypto cast, almost ought to be called the anti crypto cast because I’ve never been much of a believer, although I’d like to be wrong about that. But the cryptocurrency that’s going to win the game is the one that is backed by the US government and the Federal Reserve. And the same will be true in other countries that move toward digital currencies and cryptocurrencies. So that trend is going to happen, there’s going to be a trend toward universal basic income, there’s going to be a push for a nationwide section eight style Housing Assistance Program. There may be a baby boom, hey, everybody’s cooped up in the house. They don’t have much to do, they’re getting a little bored. So hey, why not visit the master bedroom? Okay, so there you go. And nine months later, what do you get, you get a little mini baby boom out of this, but you also might get a higher divorce rate, where people just you know, they’re together a little too much and they get on each other’s nerves and they decide to split up after this. So sadly, there might be an increase in divorce rates. And by the way, there already Seeing that in China where in some places, they’re coming out of quarantine, and the divorce rate has increased. Totally. So I’ve been predicting that one for a while. I’ve also predicted that roommates are going to realize they need to split up because they’re working at home, there’s not enough space. And families are going to realize that they need a bigger house with 10 extra bedroom or two, because they got the kids studying at home, and the parents working at home. So a lot of changes. And all of these changes other than the precarious nature of we don’t know what’s going to happen next. Okay, that is an issue. But the macro trend, the mega trend, if you will, is toward the things I’m predicting. And I feel extremely confident in my predictions. We’ll see if I’m right, look, if we go into the next great depression, and the death rate is into the millions and millions of people Let’s just pray to God that that does not happen. But, you know, in that kind of circumstance, all bets are off, at least for a while. But coming out of anything, whenever we come out of it, these trends will happen. I am pretty darn sure of myself. So it’s on. It’s recorded, as are my other predictions. I’ve been very good about predicting a lot of things, except of course, interest rates have been terrible on that one. Let’s see if this happens. You know, come back in 90 days and tell me if I’m right or wrong. Six months, a year, three years, whatever, whatever it takes, this stuff will happen. I really believe that. So there you go. Okay. Reach out to us. Jason hartman.com, one 800 hartman on the phone. Our investment counselors are available to you. And let’s get to our guests segment today, where we discuss 1031 tax deferred exchange alternatives. And until tomorrow, be safe be well, let’s go Our guest many of you who follow the show regularly have been listening to me talk about alternatives to the wonderful and traditional 1031 tax deferred exchange. I always say that income property is the most tax favored asset class in America. And that is definitely true. One of the wonderful benefits beyond depreciation and the beautiful tax benefit that offers is the 1031 tax deferred exchange. When you trade properties throughout your lifetime, you can reinvest pre tax gain from the sale of the prior property using the 1031 tax deferred exchange vehicle. It’s excellent, I love it done many of them and have recommended many of them and I know we’ve helped many of you listening to 1031 tax deferred exchanges. However, it’s not perfect and there is an alternative. Basically, if you were to sell a property that you have gained in, maybe it’s highly appreciated. Maybe you exchanged into that property from a prior deal or a couple of prior deals, and you’ve got a bunch of gain stored up in that property that could become taxable. There is another way to shelter it. Now, before I bring our guest on, I do want to of course, say that we are not tax advisers. And we are not attorneys, and talking so much about what’s going on in the news today. We’re definitely not medical professionals either. That’s a new one I have to say. But we do have firsthand experience, and that’s what we want to share with you today. Is that 1031 tax deferred exchange alternative. Tom, welcome. How you doing? I’m doing great. Thanks for having me. It’s good to have you on and you are a neighbor here with me in Florida along the kind of the Treasure Coast. I don’t want to say South Florida because we’re not that far down and you help To me through this process and helped me understand it, I appreciate that. And one thing that I alluded to in that little introduction was that you can pay tax slowly. When you relinquish a property when you sell a property that has gained in it. If you do an installment sale, then you’re basically in the position where you pay taxes on an annual basis as that those proceeds are paid back to you. And the IRS has installment sale rules. Do you want to speak to that first and then we’ll take it to the next step?
Tom 16:36
Well, you’re absolutely right. And I would take it to the next step. One of the issues with doing an installment sale that people forget about is the fact that any depreciation that you’ve taken, must be recognized in the year of the sale. Hmm. So if you’ve got a highly appreciated property yet, doing an installment sale is me It’s a great way to spread the taxes out over a while. But you are going to have the hit of all that depreciation or the tax on the appreciation that you’ve taken that first year.
Jason Hartman 17:09
Okay, so let’s talk about that for a moment. Sometimes people don’t realize that when they sell a property, they kind of think of it in this very linear fashion. Okay, I purchased the property for $100,000. And now I’m selling it for $110,000. I’ve had some good cash flow along the way, I’ve had some good tax benefits along the way. But the way they think is by the time they pay closing costs, they have very little or no game to pay taxes on. That’s not true. Because you have probably taken depreciation on that property. And you have to pay back what’s called depreciation recapture. And this comes as a surprise to people sometimes so be careful. And Tom, if you want to speak to that, and then talk about the solution that’s available.
Tom 18:00
I think you’ve, you’ve covered the depreciation recapture. The solution for it is to do what’s called a Qualified Intermediary installment sale. So, to do that you would use an intermediary similar to what you use when you do a 1031 exchange.
Jason Hartman 18:17
Right, right.
Tom 18:18
And now whenever you want to get too complicated, but the rules surrounding a 1031 exchange allow for the intermediary, to not have to pay that depreciation recapture, because it’s an installment sale for them. And again, we’re not tax advisers. So not not tax advice. Right, right. Right. Okay, good. Good to know. So that’s an important thing to know. And whenever you do a 1031 tax deferred exchange, we’ve referred companies that can act as your intermediary. Sometimes it’s called an accommodator, but mostly a Qualified Intermediary that can perform that 1031 exchange with you and let’s talk about for that For a moment, why is that needed? And I think that helps set up this whole discussion a little bit better, because basically, the Qualified Intermediary is actually buying the property from you or or your entity that’s entering into the exchange, right? You’re not really selling it to the buyer directly. Is that the case? That is correct. If we can make an analogy to to the 1031 exchange, maybe it’ll help make it a little bit more clear for your listeners. You know, in a 1031 exchange, most people think that you’re simply rolling the gains forward into another property. And if the installment or I’m sorry, the installment if the exchange fails, you have to pay the taxes. Well, there’s actually a little bit more to it than that. The reason why you don’t have to pay the taxes in a 1031 exchange is that you the owner, the seller never gets their hands on the sales proceeds under the hood. What’s really happening? Is the seller is selling to the Qualified Intermediary on basically 180 day sales contract. So it’s an installment sale. And then the intermediary is turning around and selling the property to the buyer that you’ve already identified. So during that hundred 90 day time period, the Qualified Intermediary is hanging on to that money. And if the seller finds a new property, the funds are distributed, to escrow to close on that new property. And if the exchange fails, now, the intermediary has to complete the 180 day sales contract. So they have to basically make that payment to the seller. And that’s what triggers the tax on any gains. Does that
Jason Hartman 20:44
make sense? It does, and I hope it makes sense for listeners. So the way that tax is deferred is by selling the property to the intermediary than the intermediary essentially sells it to who many people think of as their buyer. Would that be a fair way to say that? Exactly. Okay. Now, that intermediary could if you arrange it with them, instead of paying you all those proceeds at once could pay you in installments. Would that be right?
Tom 21:15
That is exactly true. So instead of being 180 day contract, there’s there’s no reason why it could not be a 30 year interest only installment sale,
Jason Hartman 21:24
right? So So there, if you have $100,000 in gain, for example, and I’m just using that it could be a million could be 10 million, whatever the number is, right? And it may be you make the deal where it’s 7% interest, so that would be $7,000 a year or on $1,070,000 a year in interest, that you would actually have a tax liability on each year, right on those installments. Correct. Okay. Now, to take it to the next step, and then we’ll kind of wrap this up. One strategy that can be used is to, instead of taking those installments to essentially finance them. But you got to do this very specifically in a very specific fashion. Right, right. Talk about that a little bit.
Tom 22:21
Well, if you couple a non secured loan with the Qualified Intermediary installment sale, it’s a way to structure your sale like you so that you can defer the taxes for 30 years, and yet still receive funds at closing. Now those funds will be coming from the loan that you’re receiving. But those loan proceeds can be used to finance any future investments. So if you want to stay in real estate, you can stay in real estate, if you want to hold on to the cash for a little while and wait to market out like that would be prudent right now, in today’s climate, but you can do whatever you want with the money.
Jason Hartman 22:57
Okay? And what happens on On a 1031 exchange, and it’s a pretty great vehicle for sure. But what happens, one of the pitfalls is, and I’ve had this happen to me is that all have started this sort of series of 1031 exchange, and maybe you look at it like generations and a family tree almost right up, I’ll do this 1031 exchange that I started, you know, 15 years ago, and then I’ll sell a property, I’ll have gain rolled into the 1031 exchange and depreciation rolled into it. And then I’ll do another one, sell the property again, and maybe buy multiple properties with those proceeds. And all inside of this 1031 tax deferred exchange. One of the pitfalls there is that as real estate investors, we love depreciation, because it’s a phantom write off, it’s a non cash write off. So you sort of get this wonderful tax. benefit, and in a way, you don’t really directly pay for it. Whereas, in the rest of the world, in the real world, if you want a tax benefit, you need to if you have a business, spend more money on your business, you know, hire more people, buy some equipment, spend some money on marketing, and you can take a deduction, or donate money to charity, and you can take a deduction for that charitable donation, you know, assuming all of this qualifies, of course, but in all of those instances, you’re actually paying to get the write off. And you know, the government is sort of your partner where they will partner with you and and share some of that expense based on your tax bracket and such. But with the 1031 exchange, this depreciation is non cash write off this Phantom write off. He kind of runs out after a while after you’ve built exchanges into it over time. You don’t get as much depreciation benefit. Right?
Tom 25:02
Exactly. you point out one of the biggest problems with doing a 1031 exchange, and that’s once the property is fully depreciated, depreciated you? There’s no more game, you know, when you roll forward into the next property, you’re rolling forward your current basis. So if you’ve fully depreciated, you don’t have any basis. So there’s nothing left to be appreciate right now. Yeah, no, I guess Third, the great thing about coupling, non secured loan with a Qualified Intermediary installment sale, is that when you get back into real estate, you start with a brand new property and a new fresh depreciation schedule.
Jason Hartman 25:37
And that is a beautiful thing. It’s a really beautiful thing. So basically, if you have that 27 and a half year depreciation schedule, you get to start over, which is exactly what you want. Right?
Tom 25:55
Exactly. Yeah. I mean, I as a finance guy, I would argue The present value of the depreciation that you can take is greater than the present value of the of deferring your taxes in perpetuity with a 1031. Exchange. Okay, clearly it’s it’s deal dependent. Yeah, I think if you ran the numbers, you would find that to be true. Okay, dive into
Jason Hartman 26:16
that one a little bit more, of course, present value analysis takes into account the time value of money. Okay. So just take us through, do you have an example you can share of that? Or maybe it’s too complicated, but let’s elaborate on that one a bit.
Tom 26:32
So there’s going to be multiple savings from doing this type of transaction. You know, one is you get to use the government’s money for 30 years, because if you’re deferring the tax on a Qualified Intermediary installment sale, you’ve got 30 years before you have to pay the government the money that they were due. And that amount doesn’t change. I mean, whatever the taxes on that game, they’re going to calculate the same game 30 years from now. It’s there’s no inflation. So you’re paying the same dollar amount of taxes, but 30 years out in the future.
Jason Hartman 27:07
So, if you think about the inflation, if you owed me a million dollars, would you rather pay me today or pay me in 30 years, like I’ve said to my listeners for years as I teach them about inflation induced dead destruction, my trademark technique for getting this incredibly cheap 30 year fixed rate debt, and then paying it back and cheaper dollars over the time. I jokingly say that I learned about the benefit of net present value analysis and inflation through a cartoon character on Popeye’s cartoon it was wimpy and wipies famous line was, I’ll gladly pay you Tuesday for a hamburger today. And, and so he always wanted to pay later, which was brilliant because if he pays later, the value those dollars will be lower through inflation. So just remember folks, the greatest economist is wimpy, I’ll gladly pay you Tuesday for a hamburger today. Or maybe it was, might have been a cheeseburger? I’m not sure. But
Tom 28:16
he was great. Yeah, let me use a good example that I use with with people. You know, I’m sure your listeners are familiar with the rule of 72. If you can take the interest rate that you’re making on your money and divide it into 72. That’s how long it takes to double your money, right? So if the tax bill were $200,000, for example, in today’s dollars, and you took that $200,000 and invested it at 7.2% 7.2 and 272 is 10 times, you know, theoretically, you would double your money three times during that 30 year period. So your $200,000 10 years from now, if it was growing at 7.2% would be worth 400,000. And in eight years, it would be worth 800,000 And then in 30, in 30 years ago, it would be 1.6 million. And yet in 30 years, your tax bill is still going to be $200,000.
Jason Hartman 29:11
Well, you’re assuming tax rates stay the same, which you can’t assume that right?
Tom 29:15
Well, tax tax rates could change, but you’re still multiplying the funds by a factor of eight. Mm hmm. So even if they change if to the tax rate to 100% of the game, you’ve already grown that money to be well beyond that. That makes sense. Yeah.
Jason Hartman 29:35
Okay, so the benefit of restarting the depreciation clock. Huge. That’s a big one. I really like that feature. The other opportunity is that if you want it to go to use the sports analogy, you know, sit on the bench, and you know, for this inning, for example, right, and you wanted to wait to buy back in later right now. Now listen, you know, any financial advisor will tell you, including Warren Buffett, that timing the market doesn’t work very well. Okay, but yet, as humans, we all think we can do it. So Fine, okay, gold yourself. But, you know, you could maybe maybe at the time you sell a property, you think that it’s a really good time to sell a property. But you can’t quite meet that 45 day deadline on the 1031 tax deferred exchange to identify a replacement property from for the relinquished property. And then of course, you’ve got to close within 180 days, there could be marketplace issues, there could be financing issues, property inventory issues, maybe you find a property, you identify it, and you’ve done everything right. And for some reason, you can’t make the deal close. The seller backs out of the deal. You know, in a really hot market. You have that is problem where sellers back out of deals and sometimes you got to just sue them because they cause you damage by backing out of the deal, right? Things are tricky in real life, okay? It’s never that simple in, in real life in the in the real world. So this can be a form of a rescue opportunity as well. And I guess you can do it one of two ways you can either plan to do it, or you can use it as a rescue operation if an exchange fails, right, why would that be a fair statement?
Tom 31:31
That is true. I’m just keeping in mind that you have to identify a property before the 45 day mark. And this has to be done before the 180 days is up one once 180 days up, that original 180 day contract is done. It needs to be satisfied and there’s there’s no rescue at that point.
Jason Hartman 31:50
Okay, so just to recap those rules on the General 1031 tax deferred exchange. You sell a property and you put special language in into the contract identifying that you’re planning to do a 1031 tax deferred exchange. And then within 45 days, you must identify a replacement property and or properties. And there are three different rules by which you can do that. And I don’t remember them all offhand, but there’s like the 200% rule. And, you know, basically what that does is it keeps people from identifying every property in the country, okay, but you can’t do that. Okay. But you you do have some leeway, so that if he can’t do one deal, you can do another deal, potentially. But say that that all falls through and you just can’t make another deal work. This can be an option to rescue you from a 1031 exchange that just isn’t working out. And again, we want to say be sure you check with your qualified tax professional. You may also want to consult an attorney on this or really a tax attorney would probably be the idea source. These things are complicated. 1031 exchanges can be complicated. There are attorneys who literally just specialize in 1031 exchanges. They don’t all do other areas of law that’s like their specialty. Everything in life is there’s a lot of depth to it. There’s a lot of law in the United States. And you know, that’s one of the great things about it is a nation of laws. And these laws have nuances, including tax law, of course. So be sure you check with a good qualified tax professional, you know, many it’s, it’s pretty frustrating. Well, I guess it’s just because the tax code is so long and overcomplicated. Many tax professionals, they don’t necessarily even know about a lot of real estate, you know, they all sort of they know what a 1031 tax deferred exchange is right, but they don’t really understand how to necessarily optimize things. So you really got to get a person who who understands relevant Estate Investing?
Tom 34:01
Well, if I can interject here, there’s no need to reinvent the wheel. I’ve assisted probably close to a dozen clients with these types of transactions. Mm hmm. And I’ve got the contact information on the lawyers who work with those clients. Right? Good. Oh, there’s no need to pay an attorney to learn something brand new. On your dime. Yeah,
Jason Hartman 34:23
yeah. And you referred me to one of those. I I had a long talk with him, and he was very insightful. Good, good stuff. All right, well, listeners reach out to us and we’ll be happy to help you with this. It’s a good alternative. And many of you have been asking me about it. So we finally did a show on it. And we will be glad to connect you with Tom. He can connect you with other advisors that you may need and we can connect you with a Qualified Intermediary and help you get all this going. Okay. So thank you so much for joining me and bringing this to our listeners. We appreciate it. Thanks.
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