Basic Rules of a 1031 Exchange:
Fundamentals of Section 1031 Like-Kind Exchanges
To be eligible for a 1031 Exchange, both the relinquished and replacement property must be U.S. real property, which is held for investment purposes or used in the taxpayer’s trade or business. Equipment is not to exceed 15% of total value.
Property which cannot be part of a 1031 Exchange includes but is not limited to:
- A taxpayer’s personal residence, except perhaps that portion of it which is rented out or is the taxpayer’s home office.
- Property purchased or held for resale.
- Land which is under development.
- Inventory Property.
- Construction for resale or Fix n’ Flips.
- Beneficial interest in a partnership.
- Stocks, Bonds, or Notes.
1031 Exchange Information: Defining Like-Kind Property
When an Exchanger is exchanging real property, like-kind is one of the real advantages of 1031 exchanges. All real property is like-kind with all other real property. Like-kind refers to how the property is held by the investor, not the type or character of property. The Exchanger must have held the relinquished property for investment or for productive use in their trade or business and intend to do the same with the replacement property.
The following are some examples of like-kind properties:
- Residential relinquished property for commercial replacement property.
- Bank building as relinquished property in swamp land as replacement property.
- Bare land as relinquished property for residential rental as replacement property.
- Fee interest in relinquished property for 30-year leasehold in your replacement property.
- Single family rental as relinquished property for multi-family rental as replacement property.
- Non-income producing relinquished property for income producing replacement property.
- Rental house at the river relinquished property for a medical office in which the exchanger intends to practice as replacement property.
If the Exchanger is exchanging personal property the rules are far more restrictive. It is essential to consult with a tax advisor when structuring personal property exchanges since one transaction may have multiple exchanges, involving tax deferral on both the personal and real property. Personal property is considered like-kind only if it appears in the same General Asset Class or Product Class.
The Exchanger may exchange:
- Cement truck for a cement truck.
- Vending routes for vending routes.
- Cotton candy equipment for cotton candy equipment.
Their transfer that are not allowed for a certain property inventory or other property held primarily for sale, such as subdivided lots held for sale, and interests in partnerships or real estate investment trusts.
