What is a Tax-Deferred Exchange?
A tax-deferred exchange (commonly called a 1031 exchange after Section 1031 of the Internal Revenue Code) allows real estate investors to defer capital gains taxes when they sell an investment property and reinvest the proceeds into a like-kind property. The tax is not eliminated but deferred until the replacement property is eventually sold without another exchange.
Requirements
Both properties must be held for investment or business use (not personal residences). The replacement property must be of equal or greater value to fully defer all gains. The exchange must be completed within strict timelines: 45 days to identify replacement properties and 180 days to close. A qualified intermediary must hold the funds between transactions.
Types of exchanges
Simultaneous: Both properties close on the same day. Rare in practice.
Delayed: Most common. Sell first, buy replacement within 180 days.
Reverse: Buy the replacement property first, then sell the original within 180 days. More complex and expensive.
Build-to-suit: Use exchange funds to build or improve a replacement property. Must complete within 180 days.
For wholesalers
1031 exchange buyers are highly motivated because they face a 180-day deadline and tax consequences if they fail to complete the exchange. They often accept thinner margins and close quickly. If your deal qualifies as a replacement property (investment-grade, appropriate value range), market it specifically to exchange buyers through your buyer list.