The 1031 Exchange Rules You Need to Know

For seasoned real estate investors, the 1031 exchange is not just a transaction. It’s a strategy that enhances the value and diversification of their real estate portfolio and, most importantly, allows them to defer capital gains taxes. But it doesn’t come without potential pitfalls. Though the core principles of 1031 exchanges remain consistent, this article will address any relevant updates or clarifications for 2025.

In this article, we’ll provide a comprehensive guide to 1031 exchange rules for 2025, ensuring investors have the most up-to-date information.

Core 1031 Exchange Rules: The Foundation

A 1031 exchange is named after Section 1031 of the U.S. Internal Revenue Code (IRC). It can be a strategic tax deferral mechanism for real estate investors, allowing you to defer capital gains taxes on an investment property when it’s sold—even until your passing (many investors use this exchange for estate planning).

The IRC tax code outlines specific rules and procedures for a compliant 1031 exchange. 1031 exchanges should adhere to the following process:

Like-Kind Property

To qualify for a 1031 exchange, the properties involved must be “like-kind.” This means you’re exchanging one investment or business-use property for another of the same nature or character—even if the properties differ in type or quality. According to the IRS, both the relinquished and replacement properties must be real estate held for investment or business purposes.

The use of the property is what makes it like-kind, not the type or sector. While international properties are not considered eligible like-kind 1031 exchange properties, you can conduct a 1031 exchange with almost any property within the U.S.

Properties are considered like-kind if they are of the same nature or character, even if they differ in grade or quality. For example, you can sell a rental house and then purchase a small apartment building rather than exchange a house for a house or a two-story building for a two-story building.

Or another example, if you sell an office building or shopping center, you can use the proceeds to reinvest in an apartment building. This flexibility allows investors to diversify their portfolios effectively. Investors also have the flexibility to exchange their relinquished property for a replacement property of equal or greater value, offering additional options for portfolio enhancement.

The property being sold (relinquished property) and the acquired (replacement property) must be held for investment purposes or used in a trade or business. This rule ensures that 1031 exchanges are used for their intended purposes: for business, trade, or investment.

Only investment and business properties qualify under a 1031 exchange. Personal property cannot be traded in a 1031 exchange. This means you cannot exchange your primary residence. If you lived in the home for the past few years, you likely would not be able to exchange it because of personal use.

Boot

Boot in real estate refers to any non-like-kind property received in a 1031 exchange, often as: 

• Cash 
• Mortgage reduction 
• Proceeds used to pay non-transaction costs
• An installment note

Receiving boot creates a taxable event, so understanding what qualifies and the repercussions is important. You can avoid boot by reinvesting all proceeds from the sale of the relinquished property into the replacement property. 

Same Taxpayer

The same taxpayer who sells the relinquished property must also acquire the replacement property. There is an exception for single-member LLCs, which are viewed as a disregarded entity. As long as there is only one taxpayer, you are eligible to perform a 1031 exchange. 

Qualified Intermediary (QI)

A Qualified Intermediary (QI) is needed to hold the funds from the sale of the relinquished property and use them to purchase the replacement property.

After deciding to sell your investment property and engaging a QI, the sale proceeds will be directed to the QI upon selling your property and initiating a 1031 exchange. These funds will be held in escrow and managed by an independent third party. It’s crucial to avoid accessing these funds during the exchange process to avoid disqualification.

When you’re ready to acquire your replacement property, the QI will facilitate the transaction using the escrowed funds on your behalf. Remember to refrain from directly holding the sale proceeds at any stage of the exchange process.

1031 Exchange Timelines and Deadlines for 2025

Use these 1031 exchange rules (2025) to make informed and timely investment decisions. 

45-day Identification Period

The 45-day rule serves as the identification period for your replacement property. To meet the identification period deadline, an investor must identify a list of potential replacement properties and provide that list to their QI at or before midnight on the 45th calendar day after the close of the relinquished property sale transaction.

The Three Property Rule

The Three Property Identification rule states that you can identify as many as three potential like-kind properties to purchase as long as you close on at least one.

Under IRS rules, investors can identify up to three potential replacement properties in a 1031 exchange, regardless of their market value. However, there are exceptions to this rule—covered in the next section—that allow for more than three properties under certain conditions. Many investors only purchase one of the three properties; the second and third identified properties merely act as “backup” replacement properties in case you do not or cannot acquire the first property.

The 200% Rule

The 200% of Fair Market Value Identification Rule (“200% Rule”) states you can identify an unlimited number of like-kind replacement properties as long as the aggregate fair market value of all the identified like-kind replacement properties does not exceed 200% of the total net sales value of the relinquished property, or properties, sold in your 1031 exchange.

For example, if you sold your relinquished property (properties) for $200,000, you can identify an unlimited number of like-kind replacement properties as long as the total fair market value of the identified properties does not exceed $400,000.

Consider this strategy if you’re aiming to diversify your investment portfolio and seek multiple replacement properties. For instance, if you plan to acquire four or more properties, the Three Property Rule won’t meet your needs. Even if you’re eyeing just two replacement properties, having additional options is wise. In such cases, relying solely on the Three Property Rule falls short. If you’re wondering how many properties you can buy in a 1031 exchange, the 200% and 95% rules each set different thresholds; understanding both is essential before you begin your identification period.

If you comply with this rule, know it takes careful planning and coordination to ensure you stay within the 200% limit.

The 95% Exception

The 95% Identification Exception (“95% Exception”) states you can identify an unlimited number of potential like-kind replacement properties with an unlimited aggregate fair market value as long as you acquire and close on 95% of the value identified.

For example, if you sell a property for $250,000, you can identify five properties with a total value of $290,000. However, you must purchase at least 95% of these properties’ value, or $275,500.

If you do not acquire and close on at least 95% of the value of the identified like-kind replacement properties, the entire 1031 exchange transaction will be disallowed.

This exception becomes valuable in situations where investors exceed the 200% Rule’s allowance by the close of the identification period. For instance, if a property’s value significantly increases after identification, surpassing the 200% limit, investors risk disqualification from the exchange. However, the 95% Exception offers a lifeline, allowing investors to salvage the exchange by acquiring at least 95% of the fair market value of the identified properties.

180-day Exchange Period

To meet the Exchange Period Deadline, the investor must complete the acquisition transaction of the replacement property, or properties, on or before the earlier of 1) midnight on the 180th calendar day after the close of the relinquished property sale transaction or 2) the due date of their federal income tax return for the year in which the relinquished property was sold. 

Whichever time frame is earlier will apply to your situation. So, if your tax return due date comes before the end of the 180-day exchange period, you must complete the exchange by that earlier tax filing deadline—unless you file for an extension.

To handle the timing constraints more effectively, here are some tips:

• Prepare and plan. Begin searching for a replacement property well before you sell your relinquished property.
• Engage a QI early in the exchange process. They facilitate the exchange and ensure compliance with 1031 exchange rules.
• Identify multiple properties. Take advantage of the Three Property Rule to increase your chances of securing a suitable property.
• Conduct due diligence ahead of time. Research potential markets, understand replacement property options, and work with professionals who can help you identify viable properties before listing your current one.
• Have financing pre-arranged. Financing delays are common—secure pre-approval for loans before initiating the exchange.
• Consider a backup property. Have a Plan B in case your primary choice falls through.
• Monitor the timeline regularly. Check in regularly with your QI and a team of experts to keep the process on track. Know that the 180-day period includes the 45-day identification period. 

2025 Timeline Changes

In early 2025, the IRS announced tax relief for taxpayers impacted by wildfires in California, extending certain tax deadlines to October 15, 2025. For Affected Taxpayers who are engaging in a 1031 exchange, any 45-day or 180-day deadline that falls on or after January 7, 2025, and before October 15, 2025, is extended to October 15, 2025; Deadlines occurring after October 15, 2025, remain unchanged.

Additionally, there is an alternative extension for eligible persons who began a reverse exchange on or before January 7, 2025. Any 45-day or 180-day deadline that falls on or after January 7, 2025, is extended to the later of October 15, 2025, or 120 days from the original deadline. Extensions cannot exceed one year or the tax return due date (including extensions) for the year the relinquished property was disposed of. Additionally, if a 45-day identification period fell before January 7, 2025, and an identified replacement property was substantially damaged by the disaster, the deadline is extended.

This ruling is in line with the IRS deadline extensions for natural disasters. 1031 property owners can likely expect further extensions in response to disasters moving through 2025. 

2025 Capital Gain Thresholds

Long-term capital gains (from assets held more than one year) are taxed at preferential rates—0%, 15%, or 20%—based on your taxable income, not your ordinary income bracket.

• Important: Short-term capital gains (assets held for one year or less) are taxed at ordinary income rates—ranging from 10% to 37%.
• The Net Investment Income Tax (NIIT) of 3.8% may also apply to those above the MAGI thresholds ($200K for singles, $250K for joint filers).

Reporting Your 1031 Exchange

IRS Form 8824 is used to report a 1031 exchange. You will need information on both properties, including descriptions, addresses, dates of purchase and sale, and dates of identification. While your Qualified Intermediary (QI) typically provides the necessary documentation for the exchange—including dates, property values, and transfer details—they do not file the form on your behalf. It’s important to work with a tax advisor to ensure Form 8824 is completed accurately and submitted with your return.

You will need QI details and must inform the IRS if you exchanged with a related party, such as a family member. It’s best to employ a tax advisor for assistance during this process. 

1031 Exchange Trends and the 2025 Market

While no major updates to the Internal Revenue Code affecting 1031 exchanges have been enacted for 2025, this tax-deferral strategy remains a cornerstone of real estate investment planning. With growing interest in passive income and portfolio diversification, demand for 1031 exchanges is expected to remain strong throughout the year. 

The core tax benefits of 1031 exchanges remain unchanged in 2025, continuing to offer investors a powerful way to defer capital gains taxes. However, higher interest rates over the past year have led to a slowdown in overall exchange activity. While investor demand for tax-deferral strategies remains strong, many are taking a more measured approach to new acquisitions as they navigate market volatility. If rates begin to stabilize, 1031 exchange volume is expected to gradually rebound.

Navigating 1031 Exchanges in 2025

Use these key rules and considerations for 1031 exchanges in 2025 to make informed real estate investing decisions. Whether you’re looking to streamline your portfolio, explore new market territories, or maximize the tax-deferred benefits offered by 1031 exchanges, 1031 Crowdfunding is here to help.

The 1031 Crowdfunding platform offers a diverse range of exchange opportunities and alternative real estate investments designed to meet the needs of savvy investors. Explore 1031 exchange opportunities and alternative real estate investments on the 1031 Crowdfunding platform. Register for a free investor account today to view available properties and connect with 1031 exchange specialists.

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