A tax-deferred exchange allows you to defer federal capital gain taxes when like-kind real property within the exchange timeline. While most states with an income tax regime recognize a 1031 exchange and allow you to defer the state gain as well as the federal gain there is one state that does not. This Tuesday Tip looks at state requirements in a 1031 exchange.
Several states have no state income tax so there is no need to report the exchange on a state return. Those of us who reside in the Commonwealth of Pennsylvania or any non-resident who has property they are selling in the state of Pennsylvania should keep the following in mind:
- Pennsylvania imposes state income taxes on all resident and non-resident taxpayers who earn money within the state.
- Pennsylvania residents who sell property in Pennsylvania or anywhere else are required to pay Pennsylvania income tax.
- Non-resident taxpayers selling property in Pennsylvania are required to pay Pennsylvania income tax on the profits even if they complete a 1031 exchange or if there is no income tax in their home state.
Taxpayers who fall into one or more of the above categories are subject to state income tax at the current rate of 3.07%.
In recent years, many states have enacted mandatory non-resident withholding taxes that must be paid when the property is transferred to a buyer if the seller is not a resident of that state. The closing agents facilitating the closings in these states must submit a check representing the required withholding tax to the Recorder of Deeds in order to have the deed recorded. That said, if you are completing a 1031 exchange, it may be possible to obtain an exemption from the state. You must file for an exemption before closing on your relinquished property. Some of the states that have a non-resident withholding tax and allow you to file for an exemption include the following.
- California
- Colorado
- Delaware
- Georgia
- Hawaii
- Maine
- Maryland
- Mississippi
- New Jersey (does not require paperwork prior to closing. Sellers can complete the Nonresident Seller’s Tax Declaration at closing)
- New York
- North Carolina
- Oregon
- Rhode Island
- South Carolina
- Vermont
- West Virginia
Note additional states could implement a non-resident withholding tax so be sure to ask your closing agent if selling property in a state you are not a resident. The more time you have to file the paperwork, the greater the chance of having your exemption approved prior to closing.
Our Exchange Team communicates directly with your closing agent to address any state tax issues and exemptions. As your Qualified intermediary, we can draw attention to specific issues but we cannot provide tax or legal advice. 1031 CORP. recommends that you touch base with your professional advisors to discuss your tax situation and, together, we can help you maximize your tax savings.
