Defer Tax Liabilities with 1031 Exchanges
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Swapping like-kind assets could allow you to defer capital gains taxes.

Sometimes it makes sense to defer certain tax liabilities — to reduce your tax bill during your peak earning years when your income and tax rate are typically higher. Section 1031 of the Internal Revenue Code contains special rules for transactions involving the swap of one business or investment asset for another.  By meeting certain IRS requirements, these "1031 like-kind exchanges" allow the capital gains taxes to be deferred.  

The definition of "like-kind" property is broad. "For example, you can sell an apartment building and purchase raw land," says Julz Burgess, Senior Vice President and Head of Corporate Trust at Regions Institutional Services in Atlanta.

Other types of property that qualify for a 1031 exchange include single and multifamily rentals, office buildings, and other commercial real estate. In addition, personal property, such as collectibles, airplanes, and yachts, can qualify for a 1031 exchange, as long as the property is of the same nature, character, or class. Your tax professional and financial advisor can help determine if an asset is like-kind, Burgess adds.
What’s not eligible under 1031 exchange rules? Stocks, bonds, partnership interests, and inventory, along with vacation homes and personal residences.

Why Choose a 1031 Exchange?

"The 1031 exchange allows a person to defer associated capital gains for investment or business-type property," Burgess says. "Usually that would be something that has increased significantly in value because that’s when you incur the capital gains tax."

A 1031 exchange offers three benefits:

  • First, there can be minimal or no tax obligation, depending on the details of the transaction.
  • Second, there can be potential improvement of cash flow by deferring capital gains tax.
  • And third, there can be an increased ability to diversify investments.

The Ins and Outs of 1031 Exchanges

You can identify up to three other properties for one 1031 exchange. "If you have $100,000 in fair market value, you can identify three other replacement properties. Another option is to identify any number of properties provided that the combined fair market value does not exceed 200% of the property being exchanged," Burgess says.

You need to be careful, though, if mortgages or other loans are involved in the sale or purchase of the property. "Broadly speaking, you want to have an equivalent exchange in terms of value," she says. "So if you need a loan or you are paying off a mortgage, this can trigger tax implications. That is where you should consult a tax professional to determine how that would affect a 1031 exchange."

One important caveat requires that you not take possession of the sale proceeds. "If you as an investor take receipt of the proceeds from the sale of the property at any point in the transaction, you may have invalidated your 1031 exchange. A qualified intermediary, such as a financial institution, can help avoid that type of misstep," Burgess says.

Learn more about investing beyond the stock market.

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This information is general in nature and is provided for educational purposes only. Information provided and statements made by employees of Regions should not be relied on or interpreted as accounting, financial planning, investment, legal, or tax advice. Regions encourages you to consult a professional for advice applicable to your specific situation. Information provided and statements made by individuals who are not employees of Regions are the views, opinions, or positions of the individual who made the statement and do not necessarily reflect the policies, views, opinions, and positions of Regions. Regions makes no representations as to the accuracy, completeness, timeliness, suitability, or validity of any information presented.