Section 1031 of the Internal Revenue Code: Like-Kind Exchanges

Section 1031 of the Internal Revenue Code, also known as a “like-kind exchange” or “1031 exchange” is a significant tax planning tool for businesses and real estate investors across the country. When an owner sells real property, they will typically recognize gain on the excess of the amount the owner receives in exchange for the property over their basis in the property, which may equate to significant tax implications on the proceeds of the property. However, through a 1031 Exchange an individual may be able to defer capital gains taxes in certain property transactions if specific requirements are met. The result of such an exchange is shifting the basis in the owner’s old property to their new property, deferring capital gains.

While there are different types of 1031 Exchanges (simultaneous, reverse, improvement, etc.) this article, while by no means is extensive, will focus specifically on outlining two of the more common forms of a like-kind exchange, a delayed like-kind exchange, and a reverse exchange of real property.

Delayed Like-Kind Exchange

 Qualifying Property

  • For a property to qualify for a 1031 Exchange, the property must be held for either investment purposes or for the productive use in a trade or business, but in no case will foreign real estate qualify for a like-kind exchange under this section. Previously, tangible property, such as machinery, equipment, security instruments, etc. could qualify, but as of 2018, with the implantation of the Tax Cuts and Jobs Act, that is no longer the case. Only real property will qualify under this section, whether improved or unimproved. However, as a general rule, real property held as inventory, your primary residence, or for resale purposes will not qualify.
  • All real estate owned for investment or business use in the United States will be like-kind with all other real estate in the United States, even if the properties differ in grade or quality.

Value Requirement

  • The value of the property being purchased (the “Replacement Property”) must be equal to or greater in value to the property being sold (the “Relinquished Property”) and the net proceeds from the sale of the Relinquished Property must be invested into the Replacement Property. However, an exchange may include more than two properties, for example, exchanging one property for three smaller properties or vice versa.
  • The property owner may identify up to three potential Replacement Properties without regard to Fair Market Value. The owner may identify more than three properties if the total value of all the properties does not exceed 200% of the Fair Market Value of the Relinquished Property.


  • The timing of the transaction is also important as the Replacement Property must be identified within 45 days of the sale of the Relinquished Property and received within 180 days of closing on the Relinquished Property. Due to the timing requirements, if possible, it is advisable to have the Replacement Property or properties identified prior to selling the Relinquished Property.

Ownership of the Real Property

  • The ownership structure of the Relinquished Property and the Replacement Property must be the same. For an individual property owner, this is relatively straightforward. Yet, for many like-kind exchanges where there are multiple investors and varying interests in the property, this can be much more complex and may require the use of a drop down or a Tenancy in Common (“TIC”) structure to satisfy the 1031 requirements. A TIC structure may allow individual partners of an investment the option to cash out of a particular investment or utilize a 1031 Exchange to defer tax.

Structural Overview of a Delayed 1031 Exchange

  • It is important that the proceeds of the Relinquished Property do not pass to the owner. Therefore, the owner must enter into an Exchange Agreement with a Qualified Intermediary (“QI”). A QI is a person or entity that is a neutral third party, such as a title company, and cannot be the owner of the Relinquished Property or a disqualified person under the IRS tax rules. The QI will hold the proceeds from the sale of the Relinquished Property in escrow to ensure compliance, take assignment of the purchase and sale agreement on behalf of the owner, and transfer the Replacement Property to the owner to complete the transaction. In addition to an Exchange Agreement there are various other legal documents that will be needed to ensure compliance.

Reverse Like-Kind Exchange

In real estate investing, it is common for a taxpayer to identify Replacement Property prior to identifying Relinquished Property, which may cause timing issues for a taxpayer when it comes to fulfilling the requirements for a Section 1031 Exchange. To combat this, the IRS has allowed the process of what has come to be known as a reverse exchange. As a result, when a taxpayer is under contract to purchase a property (the Replacement Property) prior to selling their Relinquished Property, they may still use and experience the advantages of Section 1031 but will require the taxpayer to take an additional step. This process, called a Reverse Exchange, allows the taxpayer to acquire property first and relinquish property at a later date while remaining in compliance with IRS regulations.

Exchange Accommodation Titleholder and Qualified Exchange Accommodation Agreement

  • For a Reverse Exchange, the replacement property is purchased, typically through an assignment of the Real Estate Purchase and Sale Agreement the taxpayer has entered, by a special purpose entity called an Exchange Accommodation Titleholder (the “EAT”). The purpose of this step is to ensure that the taxpayer does not hold possession of the replacement property prior to completing the exchange. When the EAT takes possession of the property, the property will remain parked with the EAT until the relinquished property is sold.
  • This Exchange Accommodation Titleholder will enter into a Qualified Exchange Accommodation Agreement that outlines the specifics of the agreement between the Buyer, the Exchange Accommodation Entity, and the Qualified Intermediary.


  • Similar to the time requirements listed above, the Relinquished Property (i.e. property to be sold) must be identified within 45 days after the EAT acquires the Replacement Property and the sale of the Relinquished Property must occur within 180 days. When the relinquished property is ready to be sold, the remaining process will follow that of the Delayed Like-Kind Exchange as identified above.

While this is in no way intended to be an expansive or exhaustive list of considerations regarding like-kind exchanges, the team at Eldridge Brooks is qualified and experienced in handling all aspects of Section 1031, and we are here to assist you with all your property needs.

Tyler McKay
Associate Attorney

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