What is a 1031 exchange?
A 1031 exchange is a like-kind exchange of real property held for business or investment: gain is not recognized when it is traded for like-kind real property. In a deferred exchange, the replacement must be identified within 45 days after the old property transfers and received within 180 days or by the tax return due date, whichever is earlier. Cash received causes gain to be recognized to that extent.
The count starts the day the land you are giving up transfers
Picture the morning the deed to your investment tract is signed over to a buyer. In a deferred like-kind exchange, that transfer is day 0, and two deadlines start running from it at once: one at day 45 and one at day 180.
Section 1031 of the Internal Revenue Code is the rule behind the name. Since January 1, 2018, the IRS says like-kind exchange treatment applies only to exchanges of real property held for use in a trade or business or for investment. The land given up is the relinquished property; what comes back is the replacement property.
When the sale of one property and the purchase of the other happen at different times, the exchange is a deferred one. The IRS instructions for Form 8824 say that when a deferred exchange uses a qualified intermediary, the transfer of the property given up and the receipt of the like-kind property are treated as a like-kind exchange. Which intermediary to use, and how the sale contract and the settlement are set up around it, belongs to a CPA or tax attorney before day 0 arrives, not after.
An exchange changes how gain is treated, not how it is measured. How gain on land is figured, the one-year holding line and the home-sale rules are on whether you pay capital gains when you sell land.
Forty-five days to name the replacement property
The first deadline is short. The Form 8824 instructions say the replacement property for the exchange "must be identified within 45 days after the property being given up is transferred."
Forty-five days is less than it sounds when the replacement is itself land or a commercial building that has to be found, walked and priced. An owner who expects to exchange has every reason to start looking at replacement property while the relinquished tract is still under contract rather than after it closes. The form the identification takes is set by the IRS rules, and a CPA or tax attorney applies them to a given exchange.
Day 180, or the return's due date if that comes first
The second deadline is for actually receiving the replacement. The Form 8824 instructions say it must be received "within 180 days, or by the due date of your tax return (including extensions), whichever is earlier."
The "whichever is earlier" clause is the one to watch. A transfer late in the tax year can put the return's due date ahead of day 180, which shortens the window unless the return is extended.
Money or other property received
If the exchange also delivers money or other property that is not like-kind, gain is recognized to the extent of that money and other property.
A loss
A loss is not recognized in the exchange.
Reporting
The exchange is reported on Form 8824, filed with the tax return for the year the property is transferred as part of the exchange.
So cash that comes out of the sale and is not reinvested is not sheltered by the exchange. Whether a planned structure leaves any of the gain recognized is a CPA's calculation.
Raw land for a building can qualify; a residence and lots held for sale do not, and equipment generally does not
Only after the calendar comes the question many owners start with: what may be traded for what. The IRS answer turns on how the property is held, not on what it looks like.
| Generally can qualify | Does not qualify |
|---|---|
| Real property held for use in a trade or business or for investment | Real property held primarily for sale |
| Improved real property for unimproved land, or the reverse | U.S. real property traded for real property outside the U.S. |
| Land and generally anything built on or attached to it | Machinery, equipment, vehicles and other personal or intangible property, which generally do not qualify |
| Certain exchanges of mutual ditch, reservoir or irrigation stock, which the IRS says are still eligible | Real property used solely as a personal residence at the time of the exchange |
For land in this footprint that sorting shows up in three situations. An investor trading wooded acreage for an income building is in the table's first column, since the IRS gives the example that an apartment building would generally be like-kind to unimproved land. Lots held primarily for sale, such as a developer's inventory of finished lots, are in the second column. And on a farm, machinery and equipment are the kind of personal property the IRS says generally does not qualify; what happens to them in the sale is on selling a farm.
Commercial ground held for investment is the kind of property the rule describes; how that kind of listing is marketed is on selling commercial property. An operating business sold with its real estate is a different sale again, covered in how an inn or lodging property sells. Leases of land raise their own questions, set out in what a ground lease is.
Where an exchange changes the land sale itself
An exchange is worth raising before the land is listed, not at the closing table, because the 45-day clock starts at the transfer and the intermediary question belongs with a CPA before then.
- How the land was held. Investment or business use is the starting test; a home or lots held primarily for sale fall outside it.
- How it was acquired. Land that came through an estate has its own starting basis, explained in stepped-up basis on inherited land, and a CPA weighs that before recommending any structure.
- What comes out in cash. Money or other property received that is not like-kind causes gain to be recognized to that extent.
Selling investment land you may pair with a replacement property?
Send the tract you would give up. Lowell can put an opinion of value on it, while the exchange structure stays with your CPA or tax attorney. No cost, no obligation.
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Questions this raises
Can I take some cash out of the sale and still do a 1031 exchange?
The exchange can still go forward, but the cash is not sheltered. The Form 8824 instructions say that if you also receive money or other property that is not like-kind as part of the exchange, gain is recognized to the extent of the money and other property received, and a loss is not recognized. A CPA works out what that means for a specific exchange.
Where is a 1031 exchange reported to the IRS?
On Form 8824, Like-Kind Exchanges. The IRS says taxpayers file it with their tax return for the year they transfer property as part of a like-kind exchange. A deferred exchange through a qualified intermediary is treated as a like-kind exchange, and the form reports it; a CPA prepares it with the rest of the return.
Can a house I rented out be exchanged for land?
Possibly, because the test is how the property is held. The IRS limits exchange treatment to real property held for use in a trade or business or for investment, says improved real property is generally like-kind to unimproved land, and excludes property used solely as a personal residence at the time of the exchange. Whether a particular rental meets that test is a question for a CPA or tax attorney.
Where this page's facts come from
Every rule, office and figure above traces to one of these. Rules change; check the office before you act on one.