2016 Tax Season: The Benefits of a 1031 Exchange


Over the last few days, I received some questions about the 1031 Exchange we mentioned in our blog post on taxes… I should first point out that when it comes to taxes, always have a knowledgeable CPA on hand. The last thing any of us can afford to do is make a mess of taxes… and deal with the always-enjoyable Internal Revenue Service.

They don’t have a very good sense of humor when it comes to money owed.

But when it comes to property taxes, the IRS will allow you to defer your payment of federal taxes on gains related to the exchange of property under Section 1031 of the U.S. Internal Revenue Service’s tax code, or what’s known as the 1031 Exchange.

It allows an individual to exchange one investment property for another with an ability to defer capital gains (or losses) that they would have to typically pay at the time of sale. However, it must be “like kind,” meaning real property can be exchanged for other real property.

As Section 1031 of the Internal Revenue Code states: “No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held either for productive use in a trade or business or for investment.”

As reported by Crain’s:

“If an investor is able to meet the criteria set forth in Section 1031 and reinvests the proceeds from a sale of commercial real estate into other property of ‘like-kind,’ then the investor is not considered to have received a gain or loss for tax purposes. Instead, the code treats the transaction as a change in the form of the investment as opposed to the sale of the investment.”

But there are restrictions when it comes to using a 1031. Again, this is where a knowledgeable accountant can help greatly.

To qualify, you must own the real estate.

You can only use a 1031 Exchange with investment properties and not with personal property.

If you exchange a property for cheaper property, you will owe taxes on the price difference.

There’s also a deadline. The property must be received and the exchange must be completed no later than 180 days after the sale of the exchanged property.

The 1031 Exchange offers great benefits. But execution and rules can be a bit tricky along the way. It’s why I always advise using a competent accountant with a background in real estate.