Types of Exchanges


The simultaneous like-kind exchange is a type of exchange in which the closing of the Relinquished Property and the Replacement Property occur on the same day with no interval of time between the two closings. This type of like-kind exchange is covered by the Safe Harbor Regulations.


The Deferred Exchange is the typical "1031 like-kind exchange" that most think about when discussing exchanges of real property. The Tax-Deferred Exchange, as defined in Section 1031 of the Internal Revenue Code of 1986, as amended, offers real estate investors the opportunity to build wealth and save taxes. By completing an exchange, the investor (Exchange Party) can dispose of investment property, use all of the equity to acquire replacement investment property, defer the capital gain tax that would ordinarily be paid, and leverage all of his equity into the Replacement Property. Two requirements must be met to defer the capital gain tax: (a) the Exchange Party must acquire "like-kind" Replacement Property, and (b) the Exchange Party cannot receive cash or other benefits (unless the Exchange Party pays capital gain taxes on this money).

In any exchange, the Exchange Party must enter into the exchange transaction prior to the close of the Relinquished Property. The Exchange Party and the Qualified Intermediary enter into an Exchange Agreement, which essentially requires that (a) the Qualified Intermediary acquires the Relinquished Property from the Exchange Party and transfers it to the buyer by a direct deed from the Exchange Party, and (b) the Qualified Intermediary acquires the Replacement Property from the seller and transfers it to the Exchange Party by a direct deed from the seller. The cash or other proceeds from the Relinquished Property are assigned to the Qualified Intermediary and are held by the Qualified Intermediary in a separate, secure account. The like-kind exchange funds are used by the Qualified Intermediary to purchase the Replacement Property for the Exchange Party.


A "reverse like-kind exchange" occurs when the Replacement Property is purchased prior to closing on the sale of the Relinquished Property. The Exchange Party uses the Qualified Intermediary to purchase the property he wishes to acquire while he markets and attempts to close on the Relinquished Property.

Most "reverse" exchanges are facilitated through parking the title with a Qualified Intermediary. In one variation of the parking arrangement, the Exchange Party enters into an agreement with a Qualified Intermediary who acquires the Replacement Property and holds title until a buyer is found for the Relinquished Property. When the Relinquished Property is ready to close, the Qualified Intermediary enters into a simultaneous exchange with the Exchange Party, transferring ownership of the Relinquished Property, which the Qualified Intermediary then sells to the third-party buyer. Alternatively, the Relinquished Property can be parked with the Qualified Intermediary until a buyer can be found; the property is then sold by the Qualified Intermediary to that buyer with the Exchange Party taking title to the Replacement Property. The Qualified Intermediary typically will enter into a property management agreement or triple net lease, executed between the Qualified Intermediary and Exchange Party, or property management company designated by the Exchange Party, during the period the Qualified Intermediary is on title to either the replacement or Relinquished Property.

Only a few Qualified Intermediaries will take title to the property and bear the risks of ownership during the parking period. The structuring of "reverse" transactions must be done carefully to avoid agency and constructive receipt issues that can disqualify an exchange. Exchange Partys should always receive the advice of their tax or legal counsel before proceeding with this type of like-kind exchange.

Unlike most exchange variations where Exchange Partys can rely on the Treasury Regulations, primary support for this exchange format comes from court cases. In Bernie D. Rutherford v. Commissioner, the Tax Court held that a "reverse" exchange involving heifers qualified for like-kind exchange treatment. A similar positive result was achieved in a real property exchange, Biggs v. Commissioner, in which the Exchange Party loaned funds to a Qualified Intermediary. The Qualified Intermediary used the loan proceeds to purchase the Replacement Property and held it while the Exchange Party located a buyer for the Relinquished Property.


The build-to-suit exchange (also referred to as a "construction" or "improvement" exchange) is a Tax-Deferred Exchange in which improvements are made to the Replacement Property. Once the necessary improvements are completed (within the 180-day exchange period), ownership is transferred to the Exchange Party and the exchange transaction is completed. This exchange variation gives investors more flexibility, providing the opportunity to either improve an existing property or construct a new Replacement Property.

An Exchange Party should consider a build-to-suit exchange when the value of the Replacement Property will not result in complete deferral of the capital gain tax. This situation arises when the purchase of the replacement properties will not use all the cash proceeds in the exchange account or there will be insufficient replacement debt. Either exchange proceeds or additional debt can be used to pay for the Replacement Property. If additional debt is used for improvements, loan documents should be executed by the Qualified Intermediary.

The regulations require that identification, made no later than the 45th day of the exchange period, specify as much detail regarding construction of the improvements as is practicable at the time the identification is made.

Typically, a Qualified Intermediary will request the legal description of the property along with floor plans and specifications for new construction or a complete description of the renovation. As always, advance planning is essential. Weather, local government permits and approvals, normal construction delays, and labor problems can limit the amount of improvements constructed within the exchange period. The Tax Code provides only 180 days from closing on the Relinquished Property to the acquisition of the Replacement Property. This deadline appiles to build-to-suit exchanges as well. However, not all improvements must be completed within the 180-day period. The general rule of a complete capital gain tax deferral of the is that the Exchange Party must receive title to Replacement Property that consumed all of the proceeds in the exchange account and is encumbered by debt equal to (or greater than) the debt on the Relinquished Property.

Personal Property

If the Exchange Party is exchanging personal property, the rules are far more restrictive. Definitions of what is considered real property and personal property can vary from state to state. It is essential to consult with a tax advisor when structuring personal property like-kind exchanges because 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. Therefore, the Exchange Party may like-kind exchange:

  1. Corporate twin-engine aircraft for a corporate jet
  2. Dump truck for a dump truck
  3. Garbage routes for garbage routes
  4. Tofu equipment for tofu equipment