HOW DOES A 1031 EXCHANGE WORK?
The first requirement for a 1031 exchange is that both the property to be disposed of and the new property to be purchased be like-kind. This is one of the most misunderstood concepts in 1031 exchanges. Like-kind relates to the use of the properties. Any real property used for productive use in a trade or business or for investment qualifies as like-kind to other real property held either for productive use in a trade or business or for investment. You can dispose of a rental duplex to buy a strip mall. You can dispose of a warehouse and buy a condominium that you intend to hold for investment. In addition, raw land held for investment qualifies for 1031 treatment whether or not you had it leased.
Example 1:
Bill and Linda own a duplex they bought in 1986 and have rented it out ever since. They want to sell it and buy a condominium in Hawaii to rent out to others.
Does this qualify as a 1031 exchange? Yes, both properties are held for income or investment purposes.
Example 2:
Bill owns an office building that he leases to other doctors. Can he exchange the building for a piece of raw land on which to build an apartment building that he will hold for the rental income? Yes, investment property can always be exchanged for raw land held for income or investment purposes.
