What qualifies
Both properties have to be real estate held for investment or for use in a business. That covers the one you sell and the one you buy. A house or condo you hold as a rental fits. Property held mainly for resale does not.
The two do not have to be the same type of property. A rental condo can be exchanged for a rental house. Real estate in the United States can be exchanged only for other real estate in the United States.
A home used only as your own residence does not qualify. If the rental was once your home, or you live in part of it, have a tax preparer look at it before you plan on an exchange.
The order of steps
- Before the sale closes. Talk to your tax preparer, choose a qualified intermediary and sign the exchange agreement. If the sale closes first and the full proceeds reach you, it is a sale, and buying another rental afterward does not undo that.
- The sale closes. The proceeds go to the intermediary. The two deadlines start that day.
- By day 45. Name the replacement property in a signed, written document and deliver it to the intermediary or to the seller of the replacement. Describe it clearly, by street address or legal description.
- By the exchange deadline, day 180 at the latest. Close on the replacement. The intermediary pays the seller from the exchange funds.
- At tax time. The exchange is reported on IRS Form 8824 with the return for the year of the sale.
The two deadlines
Both run from the day the sale closes. The 45 days are inside the 180, not added to them.
A hypothetical: the sale closes on Friday, January 15, 2027. The replacement has to be named by Monday, March 1, 2027, and owned by Wednesday, July 14, 2027.
You can name more than one property. The IRS allows up to three, whatever they are worth, or a longer list whose total fair market value is no more than twice that of the rental you sold. You can cancel a choice and name another until day 45. Each change has to be in writing and delivered the same way by that day. After day 45 the list is closed.
There is one more date. The replacement has to be received by day 180 or by the due date of your tax return for the year of the sale, whichever comes first. The rule counts extensions. If you sell late in the year, ask your preparer whether to extend the return so the 180 days run in full.
Forty-five days goes quickly. Start looking for the replacement before the sale closes.
Who holds the money
You cannot. If the full sale proceeds are paid to you, credited to your account or otherwise made available to you before you receive the replacement, the IRS treats the transaction as a sale. If only part reaches you, the exchange can still qualify, and that part can be taxed.
A qualified intermediary signs a written exchange agreement with you. Under it the intermediary takes the rental from you and passes it to the buyer, holds the proceeds, then acquires the replacement and passes it to you.
The intermediary cannot be you, your agent, or a person related to either of you under the IRS definition. Someone who has acted as your employee, attorney, accountant, investment banker or broker, or real estate agent or broker in the two years before the sale generally counts as your agent. So the agent who lists the rental cannot be the intermediary. I do not hold exchange funds for anyone.
Two kinds of work do not count against a company: services done only for 1031 exchanges, and routine escrow, title and banking services.
What makes part of the gain taxable
Cash. Money you take out of the exchange can be taxed, up to the amount of your gain.
Debt. A mortgage counts too. If the loan paid off on the rental is larger than the new loan on the replacement, the difference can count as money received. Cash you add to the purchase offsets it.
A cheaper replacement. The replacement can cost less than the rental you sold. If cash comes back to you as a result, gain can be taxed up to that amount.
These amounts are netted on IRS Form 8824, along with the costs of the exchange. Your preparer works out the net figure.
The tax is postponed, not erased. The basis of the old property generally carries over to the new one. Your preparer also works out the basis, the depreciation you have taken and how much gain, if any, is taxed now.
What California adds
Withholding at the sale. California normally has part of the price withheld when a rental sells. A deferred exchange is exempt at the sale when you certify it on Form 593. Two things bring withholding back unless another exemption on the form applies. One is receiving more than $1,500 outside the exchange, whether as cash, other property or debt relief. The other is an exchange that does not happen or does not qualify. The intermediary then withholds one of two ways. The first is 3 1/3% of the amount over $1,500, or of the full sales price if the exchange fails. The second is based on the gain you certify on Form 593. The Form 593 withholding guide covers the form.
A replacement outside California. You can exchange a California rental for one in another state. California then requires form FTB 3840 for the year of the exchange and each year after, generally until the deferred gain is recognized. It is filed even in years when you have no other California return to file.
Running the sale and the purchase on one calendar
The exchange adds dates to two ordinary transactions. These are the points where they meet.
- Listing. Decide on the exchange before the listing goes live, so the intermediary is in place before any closing date is set.
- The search. Look at replacements while the rental is on the market. The 45 days are for choosing among properties you already know, not for starting the search.
- The loan. If the replacement will have a mortgage, start the loan approval before the sale closes. The loan matters twice: it has to close by the exchange deadline, and the amount you borrow is part of your preparer’s calculation.
- The offer. Tell the seller of the replacement that the purchase is part of an exchange and that the intermediary will fund it.
If the numbers favor keeping the rental or selling it outright, the keep or sell guide sets out that choice.
Questions owners ask about a 1031 exchange
How long do I have to buy the replacement property?
Forty-five days from the closing of your sale to name it in writing, and 180 days from the same date to own it. The second deadline is earlier if your tax return for that year comes due first; extensions count.
Can I do a 1031 exchange on a home I lived in?
Not on a home used only as your own residence. If you rented it out later, or lived in part of it, a tax preparer has to review it.
Can my real estate agent hold the money?
No. The agent handling your sale is your agent, and your agent cannot be the intermediary. The same generally applies to an agent or broker who worked for you in the two years before the sale.
Does California withhold tax on the sale?
A deferred exchange is exempt at the sale when you certify it on Form 593. The intermediary must withhold if you receive more than $1,500 outside the exchange, or if the exchange fails, unless another exemption on the form applies.
Can the replacement be outside California?
Yes, anywhere in the United States. California then requires form FTB 3840 each year, generally until the deferred gain is recognized.