THE ESSENTIALS OF A 1031 EXCHANGE ROBERT G. HETSLER
You can easily see the power of a 1031 exchange in the following example. Both taxpayers sell a piece of
investment real estate for $200,000. Both also have an adjusted basis of $100,000 and they each plan to
acquire new investment real estate valued at $200,000 or more. Taxpayer 1 doesn’t take advantage of a 1031
Exchange, but Taxpayer 2 does. Who would you rather be?
Taxpayer 1 (no exchange)
Taxpayer 2 (with exchange)
Sale Price: $200,000 $200,000
Adjusted Basis: $100,000 $100,000
Gain Realized: $100,000 $100,000
New Investment Property: $200,000+
$200,000+
Gain Recognized: $100,000 0
Federal & State Tax: $ 20,000
0
What Property Qualifies for an Exchange?
Per the IRS code, “any property held for productive
use in a trade or business or for investment can be
exchanged for ‘likekind’ property.” The term “like
kind” refers to the purpose of the investment rather
than the form the investment takes. This means an
investor can trade an apartment complex for a
singlefamily residence, shopping center, raw land
or office building. The only requirement is that the
nature of the replacement property is similar to the
relinquished property.
However, the IRS specifically excludes certain
categories of property, regardless of its use in trade
or business. These categories include stocks,
bonds,
securities,
notes
and
interests
in
partnerships. Also excluded is property held
primarily for sale, such as those residential
properties purchased to “flip” and vacant land to be developed into a home. This means that flippers or private
developers cannot use a 1031 exchange for their business or traderelated properties. Finally, primary
residences are also excluded from 1031 exchanges.