TAX

How to Do a 1031 Exchange (Step by Step)

Updated March 2026

What a 1031 Exchange Actually Does

When you sell a rental property at a profit, you owe capital gains tax — typically 15-20% federal plus state taxes. A 1031 exchange lets you defer that tax by rolling the proceeds into another investment property. 'Defer' is the key word — you don't avoid the tax, you postpone it. But if you keep exchanging until you die, your heirs get a stepped-up basis and the tax disappears entirely. That's the real power.

The Two Deadlines

After your property closes, you have 45 days to identify up to three replacement properties in writing to your qualified intermediary. Then you have 180 days total (from the sale) to close on at least one of them. Miss either deadline by even one day and the exchange is dead — you owe the full tax. These timelines are strict and the IRS does not grant extensions.

The Rules That Trip People Up

You must use a qualified intermediary (QI) to hold the funds — you can never touch the money. The replacement property must be equal or greater in value and debt. You must reinvest all of the net proceeds. If you sell for \$200K and only buy a \$180K replacement, you pay tax on the \$20K difference (called 'boot'). The properties must be 'like-kind' but that's broad — any real property for any real property works. A single-family for a commercial building is fine.

When It Makes Sense

1031 exchanges shine when you're trading up — selling a small property to buy a larger one — or when you're moving from a bad market to a better one. They're less useful if you need the cash for something else or if your gains are small (under \$50K, the hassle and QI fees may not be worth it). They're most powerful as part of a long-term strategy of continuously trading up into larger assets.