Investing guide
Educational only. This page isn’t tax or legal advice. A 1031 exchange should be set up with a qualified intermediary and reviewed by your CPA or tax attorney before you sell.
Section 1031 of the Internal Revenue Code lets you defer recognizing gain when you exchange real property held for investment or business use for other like-kind real property. Since January 1, 2018, only real property qualifies. Most U.S. investment real estate is like-kind to other U.S. investment real estate, so a rental house can be exchanged for a fourplex or a commercial building. Property held mainly for resale doesn’t qualify, and U.S. property isn’t like-kind to property outside the U.S.
The two periods run at the same time. The IRS doesn’t extend them for hardship, except in presidentially declared disasters.
Treasury regulations allow you to identify replacement property under one of these rules:
Most buyers use the three-property rule and name backups in case the first choice falls through.
If you receive the sale proceeds, even briefly, the exchange can fail. A qualified intermediary holds the money from the sale and uses it to buy the replacement property. You can’t act as your own intermediary, and neither can people who have acted as your agent, such as your real estate agent or attorney, within the previous two years.
To defer all of the gain, exchangers generally buy replacement property of equal or greater value, reinvest all of the net proceeds and replace any debt that was paid off. Cash or other non-like-kind property you receive, often called boot, can be taxable up to the amount of your gain. Your CPA can tell you how this applies to your numbers.
Forty-five days goes quickly, especially if you need financing, inspections or a specific property type. Many exchangers start looking, and talk to a lender, while the relinquished property is still being marketed so they can identify with confidence once it closes.