Internal Revenue Code Section 1031 - Time Limits

Time Limits

The §1031 exchange begins on the earliest of the following:

1. the date the deed records, or
2. the date possession is transferred to the buyer,

and ends on the earlier of the following:

1. 180 days after it begins, or
2. the date the Exchanger's tax return is due, including extensions, for the taxable year in which the relinquished property is transferred.

The identification period is the first 45 days of the exchange period. The exchange period is a maximum of 180 days. If the Exchanger has multiple relinquished properties, the deadlines begin on the transfer date of the first property. These deadlines may not be extended for any reason.

A deadline that falls on any weekend day or holiday does not permit extension. For example, if your tax return is due April 15, but that date falls on a Saturday, then your tax return due date is forwarded to the first business day following April 15, or Monday, April 17. However, if a deadline falls on a Sunday, the requirements for the exchange must be met no later than the last business day prior to the deadline date, i.e. the prior Friday.

Identified replacement property that is destroyed by fire, flood, hurricane, etc. after expiration of the 45 day Identification Period does not entitle the Exchanger to identify a new property. However, the exchange may be terminated by this event so long as it is (a) specified in writing (such as a contingency in the sales contract); (b) is outside the control of the exchanger or any party to the exchange; and (c) is the only or last property that the exchanger is entitled to purchase under the exchange rules.

Mistakenly identifying condominium A, when condominium B was intended, does not permit a change in identification after the 45 day Identification Period expires. Failure to comply with these deadlines may result in a failed exchange.

IRS rules control the length of time that the replacement property must be held before it may either be sold or used to enter into a new tax deferred exchange. In highly appreciating markets, people may take the opportunity of selling their personal residence (where no capital gain is due below $250,000 for a single person or $500,000 for a married couple--see Taxpayer_Relief_Act_of_1997) and moving into a former rental property for a specified time period in order to turn it into their new personal residence. With recent legislation, however, capital gains taxes on such a transaction are no longer completely avoided. The taxpayer will now owe a diminishing amount of capital gains taxes on the conversion of property from rental to personal residence once the final disposition of the property occurs.

In order to qualify for this exchange, certain rules must be followed:

1. Both the relinquished property and the replacement property must be held either for investment or for productive use in a trade or business. A personal residence cannot be exchanged.
2. The asset must be of like-kind. Real property must be exchanged for real property, although a broad definition of real estate applies and includes land, commercial property and residential property. Personal property must be exchanged for personal property. (There are some complicated rules surrounding this — for example, livestock of opposite sex are not considered like-kind property for the purpose of a 1031 exchange, and property outside the United States is not considered of "like-kind" with property in the United States.)
3. The proceeds of the sale must be re-invested in a like kind asset within 180 days of the sale. Restrictions are imposed on the number of properties which can be identified as potential Replacement Properties. More than one potential replacement property can be identified as long as you satisfy one of these rules:
   • The Three-Property Rule - Up to three properties regardless of their market values. All identified properties are not required to be purchased to satisfy the exchange; only the amount needed to satisfy the value requirement.
   • The 200% Rule - Any number of properties as long as the aggregate fair market value of all replacement properties does not exceed 200% of the aggregate Fair Market Value (FMV) of all of the relinquished properties as of the initial transfer date. All identified properties are not required to be purchased to satisfy the exchange; only the amount needed to satisfy the value requirement.
   • The 95% Rule - Any number of replacement properties if the fair market value of the properties actually received by the end of the exchange period is at least 95% of the aggregate FMV of all the potential replacement properties identified. In other words, 95% (or all) of the properties identified must be purchased or the entire exchange is invalid.