A Section 1031 exchange, also known as a like-kind exchange, is a tax deferral strategy that allows an investor to sell one investment property and use the proceeds to purchase another investment property without paying capital gains taxes.
This strategy is outlined in Section 1031 of the U.S. Internal Revenue Code and can be used for any real estate or business asset. When an investor sells an investment property, they are typically liable for capital gains taxes on the profits from the sale.
However, with a Section 1031 exchange, these taxes can be deferred until the investor eventually sells their new investment property. This means that investors can reinvest their profits into more properties without paying any upfront taxes.
To qualify for a Section 1031 exchange, both properties must be held for productive use in a trade or business or for investment purposes. Additionally, both properties must be “like-kind,” meaning they must be similar enough to be considered investments of equal value.
For example, an investor could not use this strategy to exchange a commercial building for residential land. Overall, Section 1031 exchanges allow investors to defer capital gains taxes and reinvest their profits into more profitable investments without having to pay any taxes upfront.