The investment vehicle known as a 1031 exchange is a popular wealth preservation tool for real estate stakeholders.
Used as a means of deferring capital gains taxes on assets, 1031 exchanges tend to appeal to individual real estate investors because they often involve lower purchase prices, and the rules are fairly clear-cut.
Once you understand the rules and definitions of a 1031 real estate exchange, you can decide if this type of investment is right for you.
Section 1031 is a provision in the IRS tax code that allows buyers to sell a property, invest in a new property, and defer all capital gains – essentially “exchanging” one asset for another.
Investors also benefit from 1031 exchanges because they can facilitate significant portfolio growth and increased return on investment.
The benefits apply only if the new property is a “like-kind” asset purchased solely for trade or investment purposes.
The term “like-kind” is where the line blurs between a valid 1031 exchange and an invalid one (according to the code).
Many people incorrectly assume that this refers to purchasing the exact same type of property as the one being sold.
In reality, a like-kind exchange means that both the asset you’re selling and the one you’re buying are “of the same nature or character, even if they differ in grade or quality.”