1031 Exchanges are not limited to wealthy or institutional investors. They are commonly used by individual landlords, duplex owners, small multifamily investors, retail property owners and retirees who have accumulated equity in investment real estate. A 1031 Exchange allows qualifying investors to defer recognition of capital gains while reinvesting proceeds into replacement investment property.
One of the most persistent misconceptions surrounding the 1031 Exchange is that it is some type of sophisticated tax strategy reserved for billionaires, institutional investors and massive real estate portfolios.
The data tells a very different story.
In fact, Section 1031 may be one of the most important tax-deferral strategies available to the small and midsized real estate investor, the very people who have spent years, and sometimes decades, building equity one property at a time.
The $575,000 Number That Changes the 1031 Exchange Conversation
Research conducted by Professors David Ling of the University of Florida and Milena Petrova of Syracuse University examined more than 100,000 properties involved in like-kind exchanges.
Their findings are compelling.
The median sale price of the relinquished properties involved in those 1031 Exchanges was approximately $575,000. Even more telling, approximately 75% of the properties sold through a 1031 Exchange were valued at less than $1.5 million.
Think about that for a moment.
Those numbers hardly describe a tax strategy being used exclusively by Wall Street, REITs and billion-dollar investment funds. They describe the world occupied by thousands of everyday real estate investors.
These are the owners of duplexes and small apartment buildings. They are investors who own neighborhood retail properties, small industrial buildings and single-tenant investments. They are long-time landlords who may have purchased a property 20 or 30 years ago, managed it carefully, paid down the mortgage and watched both its value and their equity grow.
That is the real face of the small investor 1031 Exchange.
A 1031 Exchange Is About Preserving Investment Capital
Suppose someone purchased a small rental property decades ago for $150,000 that is now worth $750,000.
Is that person “wealthy”?
Perhaps on paper they have accumulated substantial equity. But that equity may represent years of mortgage payments, property management, repairs, tenant problems, economic cycles and disciplined investing.
When that owner finally sells, a potentially significant portion of that accumulated equity could be exposed to capital gains taxes and depreciation recapture.
A properly structured 1031 Exchange allows the investor to defer those taxes and keep more of that equity working in real estate through reinvestment in qualifying replacement property.
That distinction is important.
A 1031 Exchange does not magically eliminate an investor’s tax obligation. Instead, when the requirements of Section 1031 are satisfied, it allows the investor to defer recognition of taxable gain while reinvesting into qualifying replacement real estate.
The IRS provides additional information about like-kind exchanges and Section 1031.
For the smaller investor, that can be incredibly powerful.
Rather than selling investment property and potentially paying immediate capital gains taxes, a qualifying investor may be able to preserve more investment capital for reinvestment.
Why 1031 Exchanges Matter to Long-Time Landlords
Consider the investor approaching retirement who has owned and personally managed apartments for 25 years.
They may be tired of tenants, toilets and property management, but they do not necessarily want to give up the income-producing power of their accumulated real estate equity.
A 1031 Exchange for landlords can provide an opportunity to sell a management-intensive property and reposition that equity into another type of investment real estate that better matches the investor’s current objectives.
That could mean moving from a small multifamily property into a professionally managed investment, exchanging from an older property into something newer, diversifying into multiple replacement properties or simply repositioning into an asset requiring less day-to-day involvement.
This is where the 1031 Exchange becomes much more than a tax strategy.
It becomes a wealth-preservation and portfolio-planning strategy.
How Retiring Property Owners Use 1031 Exchanges
For long-time rental property owners, retirement does not necessarily mean selling everything and leaving real estate behind.
A 1031 Exchange retirement strategy may allow an investor to reposition accumulated real estate equity while continuing to own investment property.
For example, a landlord may choose to exchange a rental property that requires substantial hands-on management for replacement real estate that better aligns with their income, diversification or management objectives.
For investors who have spent decades building equity, the ability to reinvest that equity can play an important role in planning the next stage of their real estate portfolio.
Who Really Uses 1031 Exchanges?
The debate surrounding Section 1031 sometimes creates the impression that eliminating or restricting exchanges would primarily affect America’s wealthiest investors.
The numbers simply do not support that narrative.
When the median exchanged property in a major national study was approximately $575,000, and 75% were below $1.5 million, it becomes clear that the small investor 1031 Exchange is not an exception to the rule. Smaller private investors represent an important part of the 1031 Exchange marketplace.
For many of these investors, the equity in their real estate did not appear overnight.
It was accumulated slowly.
One mortgage payment at a time.
One rent increase at a time.
One property improvement at a time.
One decade at a time.
Section 1031 gives qualifying investors an opportunity to continue reinvesting that accumulated equity rather than potentially losing a significant portion of their investment capital to taxes at the time of a taxable sale.
So, who uses 1031 Exchanges?
Certainly wealthy investors use them.
But so do duplex owners.
Small multifamily investors.
Retail property owners.
Long-time landlords.
Family partnerships.
Rental property owners.
And real estate investors preparing for the next chapter of their lives.
The 1031 Exchange is not simply a strategy for becoming wealthier.
For thousands of American real estate investors, it can be a strategy for protecting and repositioning the wealth they spent decades building.
And that is an important distinction.
We Are Here to Help!
If you are an investment property owner, schedule a no-obligation strategy call with me at Best1031Online.com, or contact James Bean of SVN-Rich Investment Real Estate Partners, CA DRE# 01970580, at 805-779-1031 or email james.bean@svn.com.
If you are an agent/broker, I am happy to discuss strategies with you on how to best serve your next listing client in preparing them for a successful exchange. Please visit the site and click on the Agent’s button located at the top right-hand corner of the Home Page!
Don’t Know What Certain Terms Mean?
Visit the Best 1031 Online Glossary of Terms for definitions of commonly used 1031 Exchange terminology.
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This article is intended for educational purposes only and should not be considered tax, legal, lending or financial advice. Every transaction is different. Property owners should consult their own qualified tax and legal advisors and engage an experienced Qualified Intermediary before structuring the sale or exchange.