The exchange 'bubble'?

The major quest on in the real estate world today would ,be is this market a real estate "bubble? How can these prices be sustained? Aren't they due to collapse? Ask Greenspan! He certainly doesn't know. Demand, easy financing and low interest rates certainly are fueling the price surge. A somewhat overlooked contribution to the market price "rise" is taxes, or rather tax avoidance or deferral. Investment real estate brokers are almost under siege with investors who have literally hundreds of thousands, if not millions of dollars, to invest generated from their recent sale or potential sale of investment property. They are searching high and low for a property into which they can make a 1031 Tax Deferred Exchange.

Not only are there huge amounts of cash around, but because of a shortage of properties for sale, the deals have become much more complicated. We recently completed a four month $6,000 000 exchange escrow that involved on the upleg, eleven sellers, two trusts, seven cash outs, two ground leases and four exchanges. The upleg exchange involved an office building sale, an LLC, a Trust and cash. The transaction involved people from San Diego, Glendale, Pasadena, San Jose and a number of other locations. The deal was executed through an all-encompassing escrow and the use of OREXCO, a Title Company as Accommodator.

This was a very complicated transaction, but not wholly unusual. The demand for an exchange property has added to the price inflation. If a real estate investor has a $1,000,000 gain in the relinquished property, that investor stands to pay at least 24% to 34% income tax on the sale or $250,000 to $350,000. Almost readily, the investor will pay a substantial price over fair market value to save the tax, and at least still be in the real estate market, rationalizing that the government is actually paying the over market segment of the purchase price.

Of course, the hope is that the acquired property will appreciate over time, even if purchased at an over-market price. Comparable sale data today cannot be based just on sale price but must be examined carefully to learn what other ingredients went into the "sale." A "sale" is not just a "sale" as it was in years past. Talk about convoluting the market place! Exchange volumes have probably increased ten or fifteen times over what it used to be just a few years ago. Today, real estate inflation is much more tax driven than commonly recognized.

This article was provided by Stevenson Real Estate Services. Far more information, visit www.stevensonrealestate.com.