What is a 1031 exchange?

How a 1031 exchange works

In a typical delayed exchange, the investor sells the relinquished property, and the sale proceeds go directly to a Qualified Intermediary rather than to the investor. The investor then has 45 days to identify potential replacement properties in writing, and 180 days from the sale to close on one or more of them. The QI uses the held funds to buy the replacement property, and the tax on the gain is deferred.

Both properties must be held for investment or for productive use in a trade or business. Since 2018, Section 1031 applies only to real property. Personal residences and property held primarily for resale don't qualify.

The key 1031 exchange rules

• 45-day identification rule: replacement properties must be identified in writing within 45 calendar days of the sale.
• 180-day exchange period: the purchase must close within 180 calendar days of the sale, or by the due date of the tax return for that year (including extensions) if earlier.
• Three-property rule: identify up to three properties of any value; or use the 200% rule (any number of properties up to 200% of the relinquished value) or the 95% rule.
• No constructive receipt: the investor can't touch the proceeds, which is why a Qualified Intermediary is required.
• Equal or greater value: to defer all of the tax, buy replacement property of equal or greater value and reinvest all net proceeds. Cash or debt relief left over ("boot") is taxable.
• Same taxpayer: the entity that sells must generally be the entity that buys.

Types of 1031 exchanges

Delayed exchanges are the most common. Reverse exchanges let an investor buy the replacement before selling, using an exchange accommodation titleholder. Improvement (build-to-suit) exchanges use exchange funds to improve the replacement property. Investors also use Delaware Statutory Trusts (DSTs) as passive, fractional replacement property.

Common mistakes

The most expensive errors are missed 45-day or 180-day deadlines, receiving the proceeds directly, identifying properties incorrectly and buying less than the relinquished property's value. State rules matter too: some states require withholding or claw back deferred gain when property is exchanged out of state.

How professionals manage 1031 exchanges

Qualified Intermediaries, exchange attorneys and wealth managers use a 1031 exchange platform like DeferAlly to track every deadline, escrow balance, identification and document, and to keep investors informed through a branded client portal. If you're an investor, ask your QI how they track your deadlines. If you're a professional, see how DeferAlly can run your practice.

Frequently asked questions