1031 Exchange Rules for Commercial Real Estate Investors
For commercial real estate investors, selling a property does not always mean exiting the market. A 1031 exchange may allow an investor to sell one investment property and reinvest the proceeds into another qualifying property while deferring certain capital gains taxes.
However, 1031 exchanges involve specific requirements and strict timelines. They also require coordination between the investor’s commercial real estate broker, qualified intermediary, and tax and legal advisors.
By understanding the process before a property is sold, investors can be better prepared to evaluate replacement properties and keep the transaction moving within the required timeframe.
Understand the Basics of a 1031 Exchange
A 1031 exchange, named after Section 1031 of the Internal Revenue Code, generally allows investors to defer certain taxes when qualifying real property held for investment or business purposes is exchanged for other qualifying real property.
This can give investors an opportunity to reposition their commercial real estate holdings while keeping more capital invested.
A 1031 exchange generally defers taxes rather than eliminates them, and the tax implications vary by investor and transaction. A CPA, tax attorney, and qualified intermediary should provide guidance on whether an exchange qualifies and how it should be structured.
Know the Key 1031 Exchange Deadlines
Timing is one of the most important considerations in a 1031 exchange. In a typical delayed exchange, investors generally face two major deadlines:
45 days to identify potential replacement property
180 days to complete the exchange, subject to applicable tax-return deadlines
These timelines generally begin when the relinquished property is transferred, and the periods run concurrently.
Because commercial real estate acquisitions require property evaluation, negotiations, financing, and due diligence, waiting until after a sale closes to begin searching for a replacement property can create unnecessary pressure.
Evaluate Replacement Properties Early
“Like-kind” does not necessarily mean replacing an office building with another office building or a retail property with another retail property.
Depending on the circumstances, investors may be able to consider different types of qualifying real estate, including:
Office
Industrial
Retail
Multifamily investment properties
Certain land investments
Other qualifying real property
That flexibility can allow investors to use an exchange as part of a broader portfolio strategy.
The replacement property should still make sense as an investment. Location, tenancy, income, property condition, financing, and long-term objectives should remain central to the decision.
Coordinate the Team Before the Sale
A 1031 exchange typically involves several professionals, each with a different role:
Commercial real estate broker
Qualified intermediary
CPA or tax advisor
Real estate attorney
Lender
Title and escrow professionals
A qualified intermediary is particularly important because exchange proceeds generally need to be handled according to specific requirements rather than received directly by the investor.
Bringing these professionals into the conversation early can help the real estate transaction and exchange requirements stay aligned.
How a Commercial Real Estate Broker Can Help
A commercial real estate broker does not provide tax advice or determine whether a transaction qualifies for Section 1031 treatment. Instead, the broker helps facilitate the real estate side of the exchange.
That may include:
Marketing the property being sold
Beginning the replacement search early
Identifying potential investment properties
Comparing properties and submarkets
Negotiating purchase and sale terms
Coordinating real estate transaction timelines
The tax strategy remains with the investor’s qualified tax and legal professionals, while the broker helps ensure the property search and transaction receive the attention they require.
How We Help Investors Navigate a 1031 Exchange
Our team works with investors throughout Arizona to navigate the commercial real estate components of a 1031 exchange.
From preparing a property for sale to identifying potential replacement opportunities, our role is to help investors evaluate their real estate options and move efficiently through the transaction process.
By coordinating with an investor’s qualified intermediary, CPA, attorney, lender, and other advisors, our team can help keep the real estate strategy aligned with the exchange timeline.
Final Thoughts
A 1031 exchange can give commercial real estate investors an opportunity to reposition their portfolio while potentially deferring certain taxes, but preparation is important.
Starting the conversation before a property closes gives investors more time to understand their options, assemble the appropriate advisory team, and evaluate replacement properties based on both the exchange timeline and their long-term investment goals.
For investors considering selling or acquiring commercial real estate in the Phoenix metro area, our team can help facilitate the real estate side of the process.
This content is provided for general educational purposes and is not tax, legal, accounting, or financial advice. Investors considering a 1031 exchange should consult their qualified intermediary, CPA, attorney, and other appropriate advisors regarding their individual circumstances.
Written by LevRose CRE with assistance from: LevRoseCRE.(2024)
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