A 1031 exchange allows real estate investors to swap one investment property for another and defer the capital gains or losses on the sale of a property by purchasing a like-kind piece of real estate.
You need to complete the entire process in 180 days. That means you have 45 days to find a replacement property and must close on the new property within the 180-day time frame.
This is generally handled with an intermediary.
What property qualifies for a Like-Kind Exchange?
Both the property you sell and the property you buy must meet specific rules.
Both of the properties have to be held for use in a trade, business, or as an investment.
In contrast, if you use the property mainly for personal reasons, like a main home, a second home, or a vacation house, it doesn’t qualify for a like-kind swap.
Both properties additionally, must be similar enough to qualify as “like-kind.” That means the properties are of the same nature, type, or class. The condition of the property doesn’t matter. Generally most real estate is like-kind to other real estate properties. For example, a property that’s a residential rental house is like-kind to vacant land.
Real estate property within the United States is NOT like-kind to property outside of the United States. Also, improvements that are conveyed without land are not of like-kind to land.
Real property and personal property can both qualify as properties you can swap under Section 1031. But real property can never be like-kind to personal property. Also, the rules for what is a like-kind property are stricter for exchanges of personal property. For example, cars are not like-kind to trucks.
Finally, these types of property are specifically excluded from Section 1031 treatment:
- Inventory or stock-in-trade
- Stocks, bonds, or notes
- Other securities or debt
- Partnership interests
- Certificates of trust
What is the role of the intermediary in a 1031 tax-deferred exchange?
The tax laws restrict the people swapping the properties from taking receipt of the money from the sales. Therefore they need to have a qualified broker, or middleman to manage the swap and hold the proceeds while it occurs.
The broker must be a third-party who is independent from the property owners. The middleman can’t be someone who works as an agent for either property owner. So that means it can’t be either party’s lawyer, real estate agent, accountant, relative, or employee.