One of the key concepts behind the 1031 exchange process is that a real estate investor cannot draw any cash benefit from the funds resulting from the sale of a 1031 property; any cash removed from the sale is seen as boot, and this means subject to capital gains taxes. As a result of this, the practice of refinancing for the purpose of removing stored value from the 1031 property enters into a very gray area with regard to acceptability under Section 1031.

In a court case involving a real estate investor by the name of Garcia, the court made it clear that any benefit received by a taxpayer as a result of the refinance of a piece of property in anticipation of selling it in a 1031 tax exchange will be deemed to be taxable boot. This court decision represented the establishment of a standard for the way in which these sorts of issues. Currently, a more popular tactic is waiting until after the replacement property has been closed on, and to refinance at some point afterward. This practice, however, brings up some questions about how long one ought to wait before refinancing and taking value from a property.

The old guard among investors will likely tell you not to refinance until a considerable time after closing (maybe even as long as 2 years after), to make absolutely sure that you are complying with the intent of Section 1031. The popular mindset amongst more liberal minded school of investors, however, is to assume that closing on your replacement marks a definitive end to the 1031 exchange process, and so one need not worry about the substantiation of an exchange from there onward. For a property investor who sees the 1031 process from this perspective, it does not matter how long one waits before refinancing one's 1031 replacement property, and many do indeed choose to do so directly after the closing has occurred.

If you're expecting any clear-cut maxim as to when it is safe to refinance your replacement property, then you are destined to be disappointed, at least in regard to this article. The 2 perspectives described above are just the opinions of a few, and they represent only a few of the viewpoints an investor adopt. Property investors vary a good deal in how they look at these sorts of legal gray areas, and the most helpful suggestion that I am able to impart is simply to look to qualified tax adviser or other legal expert in formulating your ultimate decision, and to work together with him or her in order to figure out the path that will work best in the context of your specific situation.