Can You Do a 1031 Exchange on a Rental Property?

Yes, you can do a 1031 exchange on a rental property. Section 1031 of the Internal Revenue Code lets you sell real property held for business or investment use and defer the capital gains tax by reinvesting the proceeds in another like-kind property, and a property you rent to tenants at market rates fits that definition. The tax is deferred, not erased: whenever you eventually sell without exchanging again, the accumulated gain becomes taxable.¹

To make the exchange work, you have to use a qualified intermediary, identify your replacement property within 45 days of selling, and close on it within 180 days. Miss either deadline and the full gain becomes taxable.²

Does Your Rental Property Qualify

Since the Tax Cuts and Jobs Act took effect in 2018, only real property qualifies for a like-kind exchange. Equipment, vehicles, and other personal property no longer do.¹ Within real estate, “like kind” is broad. A single-family rental can be swapped for a commercial building, an apartment complex for vacant land, or a retail storefront for a warehouse.²

What matters is how you use the property, not what kind of building it is. Both the property you sell (the relinquished property) and the property you buy (the replacement property) have to be held for productive use in a trade or business or for investment. A rental leased to tenants at market rates plainly qualifies. A primary residence or a second home you keep for personal enjoyment does not.²

Vacation Rentals and Mixed Personal Use

A property that mixes rental and personal use is the gray area. The IRS addressed it with Revenue Procedure 2008-16, a safe harbor for dwelling units. If you meet the safe harbor, the IRS will not challenge whether the property was held for investment.³

You have to satisfy two conditions in each of the two 12-month periods immediately before the exchange. First, you rent the property to someone else at a fair market rate for at least 14 days during the period. Second, your own personal use of the property does not exceed the greater of 14 days or 10 percent of the days it was rented at fair market value. The replacement property has to meet the same standards during the two 12-month periods after the exchange.³

Keep rental agreements, occupancy logs, and records of any personal stays. Those documents are your primary evidence of investment intent if the IRS ever questions the exchange.

How Long You Have to Own It First

Section 1031 does not set a minimum holding period. The statute asks whether you held the property for investment or business use, and the IRS decides that from the facts and circumstances. In one private letter ruling, the IRS suggested a two-year holding period would generally suffice, though private letter rulings do not bind other taxpayers. Courts have upheld exchanges of properties held briefly when the facts supported investment intent, and denied deferral on properties held longer when the pattern looked like flipping. The safer posture is to hold both properties long enough that your rental activity, tax filings, and financial records read as investment use, generally at least one to two years.

The 45-Day and 180-Day Deadlines

Two hard deadlines run from the day you transfer the relinquished property. By day 45, you must identify replacement properties in writing. By day 180, you must close on the replacement property and receive the deed. If your tax return for the year of the sale is due before day 180 (including extensions), that earlier date becomes your deadline.²

Neither deadline can be extended for personal hardship, market conditions, or financing delays. The only exception is a presidentially declared disaster affecting the taxpayer or the property. Miss either date by one day and the exchange fails, making the full gain on the sale taxable.²

Identifying Replacement Properties

The identification has to be in a signed written document delivered to the qualified intermediary or another party involved in the exchange (not you, and not someone disqualified). Each property must be described unambiguously — a legal description, a street address, or a recognizable name all work.⁴

Treasury regulations give you three options for how many properties you can identify:

Three-property rule: identify up to three properties regardless of their value.
200-percent rule: identify any number of properties as long as their combined fair market value does not exceed 200 percent of the value of the relinquished property.
95-percent rule: if you exceed both limits above, the identification still holds if you actually acquire at least 95 percent of the aggregate fair market value of everything you identified.

Most investors use the three-property rule because it is the simplest. The 95-percent rule is punishing in practice, because falling even slightly short disqualifies the entire exchange.⁴

You Have to Use a Qualified Intermediary

You cannot sell your rental, deposit the proceeds in your own account, and then buy a replacement. If you have actual or constructive receipt of the sale funds at any point, the IRS treats the whole thing as a taxable sale. A qualified intermediary holds the proceeds between the sale and the purchase so you never touch them.

The intermediary has to be independent. Treasury regulations disqualify anyone who has served as your employee, attorney, accountant, investment banker, broker, or real estate agent within the two years before the exchange. There is a narrow exception for someone whose only prior service to you was helping with a 1031 exchange, and for financial institutions or title companies that provided only routine services.⁵

The intermediary signs a written exchange agreement with you, acquires the relinquished property from you on paper and transfers it to the buyer, and later acquires the replacement property and transfers it to you. The funds stay in a segregated account controlled by the intermediary throughout.⁴

Same Taxpayer, Both Sides

The taxpayer who sells the relinquished property has to be the same taxpayer who buys the replacement. The IRS matches this by tax identification number — your Social Security number if you own the property individually, or your entity’s EIN if you own through an LLC or partnership. For a single-member LLC that is disregarded for tax purposes, the IRS looks through to the member’s Social Security number. The name on the deed matters less than the tax ID on both sides.

When Part of the Exchange Is Still Taxable

Full deferral requires you to reinvest all the net proceeds and take on debt at least equal to the mortgage you paid off. Any shortfall is called “boot,” and it is taxable in the year of the exchange.

Cash boot is any sale proceeds you receive instead of reinvesting. If $20,000 from the sale ends up in your pocket rather than in the replacement property, that $20,000 is taxable. Mortgage boot arises when the mortgage on the replacement property is smaller than the mortgage that was paid off. Paying off a $125,000 loan and taking on only a $100,000 loan produces $25,000 in mortgage boot, treated as a benefit equivalent to receiving cash.

You can offset mortgage boot by adding extra cash to the exchange. Cash boot cannot be offset by taking on additional debt. The taxable amount is capped at the lesser of the total gain you realized on the sale or the total boot you received. Long-term capital gains rates on boot run from 0 percent to 20 percent depending on your taxable income, and most taxpayers land in the 15 percent bracket.⁶

What You Owe Later

Because the gain is deferred, your basis in the replacement property is not its purchase price. The cost of the replacement minus the gain you deferred equals your new basis. Pay $500,000 for a replacement and defer $350,000 of gain, and your basis is $150,000. Two consequences follow: your annual depreciation deductions come off the lower basis, and when you eventually sell without exchanging again, the taxable gain is larger because your starting basis is lower. Form 8824 walks through the basis computation, accounting for any boot paid or received, exchange expenses, and recognized gain.⁷

Two other taxes wait for the eventual sale. Depreciation you claimed (or could have claimed) on the relinquished property carries over to the replacement. When you sell in a taxable transaction, the portion of the gain attributable to accumulated depreciation is taxed as unrecaptured Section 1250 gain at a maximum rate of 25 percent, higher than the standard long-term capital gains rate.⁸ High-income taxpayers also face a 3.8 percent net investment income tax on capital gains once their modified adjusted gross income exceeds $250,000 for married couples filing jointly, $200,000 for single filers, or $125,000 for married filing separately.⁹ A successful exchange defers both of these along with the regular capital gains tax.

Exchanging With a Family Member

Exchanging property with a related party carries extra rules under Section 1031(f). Related parties include a spouse, parent, child, sibling, grandparent, grandchild, and corporations, partnerships, or trusts in which you have a specified ownership interest. If either party disposes of the property within two years of the exchange, the deferred gain becomes taxable in the year of that disposal.¹

Three exceptions preserve the deferral: the death of either party, an involuntary conversion where the threat arose after the exchange, or a showing that neither the exchange nor the disposal was motivated by tax avoidance. Rely on the tax-avoidance exception and you have to attach a written explanation to your return. Any structure meant to route around the related-party rules, including using an intermediary to disguise the relationship, is treated as a taxable sale rather than an exchange.¹

Reporting the Exchange

Every 1031 exchange is reported on Form 8824, Like-Kind Exchanges, filed with your federal return for the year of the exchange.¹⁰ The form captures the description of both properties, the transfer dates, the identification of replacement properties, and the calculation of deferred and recognized gain. Part III computes the taxable portion if you received boot. Any recognized gain on business property goes on Form 4797, and capital gains on Schedule D of your individual return. If the exchange involved a related party, you keep filing Form 8824 for each of the next two tax years to report whether either party disposed of the property.⁷

One boundary worth flagging: all 50 states currently recognize 1031 exchanges for state income tax purposes, but several impose “clawback” provisions that can tax the deferred gain if the replacement property is later sold in a different state than the one where the relinquished property sat, and some require nonresident withholding at the time of sale. If your exchange crosses state lines, get advice on both states’ rules before you close.

1
Office of the Law Revision Counsel. 26 U.S.C. 1031 – Exchange of Real Property Held for Productive Use or Investment
2
Internal Revenue Service. Like-Kind Exchanges Under IRC Section 1031
3
Internal Revenue Service. Rev. Proc. 2008-16
4
eCFR. 26 CFR 1.1031(k)-1 – Treatment of Deferred Exchanges
5
GovInfo. 26 CFR 1.1031(k)-1 – Treatment of Deferred Exchanges
6
Internal Revenue Service. Topic No. 409, Capital Gains and Losses
7
Internal Revenue Service. 2025 Instructions for Form 8824
8
eCFR. 26 CFR 1.453-12 – Allocation of Unrecaptured Section 1250 Gain
9
Office of the Law Revision Counsel. 26 U.S.C. 1411 – Imposition of Tax
10
Internal Revenue Service. About Form 8824, Like-Kind Exchanges