What Is a 1031 Exchange in Commercial Real Estate?

A 1031 exchange allows a property owner to exchange qualifying real estate for other qualifying real estate while potentially postponing recognition of some or all of the taxable gain.

The name comes from Section 1031 of the Internal Revenue Code. Under current federal rules, this treatment generally applies to real property held for investment or productive use in a trade or business—not property held primarily for resale or personal-use property.

A 1031 exchange does not necessarily eliminate tax. Instead, it may defer recognition of gain by carrying the tax basis of the relinquished property into the replacement property.

Because the rules and deadlines are strict, property owners should involve their CPA, tax attorney, and qualified intermediary before completing the sale of the original property.

In a typical delayed exchange, an investor sells one qualifying property and acquires another through a structured exchange process.

The basic sequence generally includes:

1. The investor decides to pursue a 1031 exchange before closing the sale.
2. A qualified intermediary is selected and the necessary exchange documents are prepared.
3. The original property, called the relinquished property, is sold.
4. The proceeds are transferred to the qualified intermediary rather than directly to the investor.
5. Potential replacement properties are identified within the required period.
6. The investor completes the purchase of qualifying replacement property within the exchange deadline.

The transaction must be structured as an exchange of qualifying property rather than simply receiving sale proceeds and later using the money to purchase another property.

Both the relinquished property and the replacement property must generally be real property held for investment or used productively in a trade or business.

Potential examples may include:

“Like-kind” does not necessarily mean the properties must be identical.

For example, an investor may be able to exchange an industrial property for an apartment building, commercial land, or another type of qualifying real estate. The character of the property and the purpose for which it is held are generally more important than whether the buildings have the same use or appearance.

Real property located in the United States is not considered like-kind to real property located outside the United States.

The investor must identify potential replacement property within 45 days after transferring the relinquished property.

The identification must be made in writing, signed by the investor, and delivered to an appropriate party involved in the exchange. The replacement property must be described clearly, typically by its street address or legal description.

The 45-day deadline includes weekends and holidays. Because the period is relatively short, investors often begin searching for replacement property before the original sale closes.

The IRS generally permits an investor to identify:

The identification rules can become more complicated when several properties are involved, so investors should obtain guidance from their exchange and tax professionals.

The replacement property must generally be received by the earlier of:

The 45-day identification period is included within the 180-day exchange period; it does not create an additional 45 days.

These statutory deadlines are strict. Missing one can prevent the transaction from qualifying for the intended tax treatment.

A qualified intermediary helps structure and facilitate the exchange.

The intermediary enters into a written exchange agreement and handles the transfer of the relinquished property, the exchange proceeds, and the acquisition of the replacement property as required by the agreement.

The seller generally cannot receive or control the proceeds from the original sale. Directly receiving the money may cause the transaction to be treated as a taxable sale rather than a qualifying exchange.

A real estate broker helps identify, evaluate, negotiate, and acquire property, but does not replace the qualified intermediary, CPA, or attorney.

An investor seeking full tax deferral will commonly plan to reinvest all net exchange proceeds and acquire replacement property with sufficient value.

However, acquiring a lower-value property, retaining some proceeds, or reducing certain debt may result in a portion of the gain being recognized.

Cash or other nonqualifying value received in an exchange is often referred to as “boot.” Receiving boot does not necessarily invalidate the entire exchange, but it may create a taxable component.

The tax consequences depend on the complete transaction, including property value, adjusted basis, debt, closing costs, and the amount reinvested. These calculations should be reviewed by a qualified tax professional.

A properly structured exchange may allow an investor to reposition real estate while postponing recognition of taxable gain.

An investor may use an exchange to:

The replacement property should still be evaluated as an investment on its own merits. Tax deferral alone does not make a property a sound acquisition.

An improvement exchange may allow exchange funds to be used toward qualifying construction or improvements on replacement property during the exchange period.

This can be useful when an investor cannot find an existing property that meets the required value, configuration, or intended use.

These transactions are more complicated than a standard delayed exchange. The investor generally cannot take ownership of the replacement property before the qualifying improvements are completed and included in the exchange. An exchange accommodation titleholder may need to hold the property during the improvement period.

Planning, construction, permitting, financing, and exchange deadlines must all be carefully coordinated.

In a standard delayed exchange, the investor sells the relinquished property before acquiring the replacement property.

In a reverse exchange, the desired replacement property is acquired first and temporarily held through a qualifying arrangement while the investor prepares to sell the relinquished property.

A reverse exchange may be considered when:

Reverse exchanges involve additional documentation, costs, ownership arrangements, and deadlines. They should be planned with experienced exchange, legal, tax, lending, and real estate professionals.

One of the most important steps in a 1031 exchange is beginning the process before the relinquished property closes.

Early planning gives the investor time to:

Waiting until after the sale has closed may be too late to structure the transaction as a qualifying exchange.

Replacement property should support the investor’s broader financial and operational goals.

Important considerations may include:

The deadlines involved in an exchange can create pressure to make a quick decision. Establishing clear investment criteria before the original property sells can help prevent the tax timeline from driving an unsuitable purchase.

A like-kind exchange is generally reported to the IRS using Form 8824. The form requests information about the properties, important transaction dates, related parties, value received, adjusted basis, and gain that may need to be recognized.

Investors should retain complete records from the sale, intermediary, replacement acquisition, financing, and closing process.

A commercial real estate broker can assist with the property-related parts of the exchange, including:

The broker does not determine whether an exchange qualifies for tax deferral and should not replace advice from a CPA, tax attorney, or qualified intermediary.

A successful exchange requires both careful tax planning and the selection of replacement property that supports the investor’s long-term objectives.

Eugene Commercial Real Estate assists property owners and investors with the sale and acquisition of commercial, industrial, multifamily, and investment real estate. Based in Eugene, our primary focus is Eugene, Springfield, and Lane County, with additional work in Bend, Redmond, and other Oregon markets.

John Erving and Brent McLean, CCIM, assist clients with the property-related aspects of standard, improvement, reverse, and reverse-improvement exchanges. Our role is to help clients evaluate available properties, investigate intended use and permitting concerns, navigate practical transaction issues, and coordinate the real estate process with their qualified intermediary and professional tax advisers.

Contact Eugene Commercial Real Estate before selling an investment property to begin discussing potential replacement-property goals.