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Like-Kind Exchanges
IRC Section 1031

Master the rules for tax-deferred property exchanges, including boot recognition, basis calculations, and holding period rules.

CPA Regulation (REG)

What Is a Like-Kind Exchange?

A like-kind exchange under IRC Section 1031 allows a taxpayer to defer recognition of gain or loss when exchanging one qualifying property for another of a "like kind." Instead of paying tax at the time of the swap, the tax consequence is pushed into the future through a substituted basis in the new property.

Qualifying vs. Non-Qualifying Property

✓ Qualifies
Real property held for productive use in a trade or business or for investment: rental buildings, land, commercial warehouses, farmland.
✕ Does NOT Qualify
Inventory, stocks, bonds, partnership interests, personal-use property (primary residence), and any property held primarily for sale.

How the Exchange Works

RELINQUISHED Old Property FMV: $500,000 REPLACEMENT New Property FMV: $500,000 Transfer Receive Gain Deferred No tax due at time of exchange

The Core Formulas

Realized Gain
\( \text{Realized Gain} = \text{FMV Received} - \text{Adjusted Basis Given} \)
Recognized Gain
\( \text{Recognized Gain} = \text{lesser of Realized Gain or Boot Received} \)
New Basis
\( \text{Basis}_{\text{new}} = \text{Basis}_{\text{old}} - \text{Boot Received} + \text{Gain Recognized} \)

Understanding Boot

Boot is anything received in the exchange that is not like-kind real property. Receiving boot forces the taxpayer to recognize gain (but never more than the realized gain).

Cash Boot
Actual cash received in the exchange by the taxpayer.
Debt Relief Boot
Net reduction in mortgage liability (old debt > new debt).
Other Boot
Non-like-kind property received (e.g., personal property).

Realized vs. Recognized Gain

Realized Gain Recognized Gain
Definition Total economic gain on the transaction Amount actually taxed now
Formula \( \text{FMV} - \text{Adj. Basis} \) \( \min(\text{Realized}, \text{Boot}) \)
No Boot? Still calculated \( = \$0 \) (fully deferred)
With Boot? Unchanged \( \leq \) Realized Gain
Loss? Calculated, but... Never recognized in 1031

Step-by-Step Problem-Solving

1
Identify the properties. Confirm both are real property held for business or investment.
2
Calculate Realized Gain. \( \text{Amount Realized} - \text{Adjusted Basis of Old Property} \).
3
Identify Boot Received. Sum all cash, net debt relief, and non-like-kind property received.
4
Determine Recognized Gain. \( \text{Lesser of Realized Gain or Boot Received} \). (If loss, recognized = \$0.)
5
Compute New Basis. \( \text{Old Basis} - \text{Boot Received} + \text{Gain Recognized} \).

Example 1: Pure Exchange (No Boot)

Amy exchanges a rental building (Adjusted Basis = \$200,000, FMV = \$350,000) for Ben's rental building (FMV = \$350,000). No cash or other property changes hands.

1
Realized Gain: \( \$350{,}000 - \$200{,}000 = \) \$150,000
2
Boot Received: \$0
3
Recognized Gain: \( \min(\$150{,}000,\;\$0) = \) \$0
4
New Basis: \( \$200{,}000 - \$0 + \$0 = \) \$200,000 (the old basis carries over)

Example 2: Exchange With Boot

Carlos exchanges a warehouse (Adjusted Basis = \$120,000, FMV = \$300,000) for Diana's office building (FMV = \$250,000) plus \$50,000 cash.

1
Amount Realized: \( \$250{,}000 + \$50{,}000 = \$300{,}000 \)
2
Realized Gain: \( \$300{,}000 - \$120{,}000 = \) \$180,000
3
Boot Received: \$50,000 cash
4
Recognized Gain: \( \min(\$180{,}000,\;\$50{,}000) = \) \$50,000
5
New Basis: \( \$120{,}000 - \$50{,}000 + \$50{,}000 = \) \$120,000

Example 3: Debt Relief as Boot

Eva exchanges land (Basis = \$80,000, FMV = \$200,000, Mortgage = \$60,000) for Frank's land (FMV = \$140,000). Frank assumes Eva's \$60,000 mortgage.

Eva's Land Basis: $80K Mortgage: $60K Frank's Land FMV: $140K No mortgage Boot = $60K debt relief → Recognized Gain = $60K

Verifying the Basis Answer

A quick check: the new basis should preserve the deferred gain. If you sold the replacement property at its FMV immediately, you should recognize the remaining deferred gain.

✓
Deferred Gain \( = \text{Realized} - \text{Recognized} \)
✓
FMV of New Property \( - \text{New Basis} = \text{Deferred Gain} \)

Holding Period and Time Rules

The holding period of the replacement property includes the holding period of the old property (it "tacks on"). For deferred exchanges, strict deadlines apply:

45-Day Rule
The replacement property must be identified within 45 days of transferring the relinquished property.
180-Day Rule
The replacement property must be received within 180 days (or by the due date of the tax return, whichever is earlier).

Identification Rules

When identifying replacement property within 45 days, the taxpayer must follow one of these rules:

3-Property Rule
Identify up to 3 properties of any value.
200% Rule
Identify any number, but total FMV cannot exceed 200% of the relinquished property's FMV.
95% Rule
Identify any number and value, but must actually receive 95%+ of total identified value.

Common Mistakes

✕ Recognizing Loss
Losses are never recognized in a 1031 exchange, even when boot is received. The loss is deferred through basis.
✕ Forgetting Debt Relief
Net mortgage relief is treated as boot received. Many students forget to include it when computing recognized gain.
✕ Personal Property
Post-TCJA, only real property qualifies. Exchanging equipment, vehicles, or artwork does not qualify under Section 1031.

Summary Reference Table

Element Rule
Qualifying Property Real property for business/investment only
Realized Gain \( \text{FMV Received} - \text{Adjusted Basis} \)
Recognized Gain \( \min(\text{Realized Gain}, \text{Boot Received}) \)
Recognized Loss Always \( \$0 \): losses are deferred
New Basis \( \text{Old Basis} - \text{Boot Received} + \text{Gain Recognized} \)
Holding Period Tacks on from old property
Identification Deadline 45 days after transfer
Completion Deadline 180 days or tax return due date

Question 1 of 5

A taxpayer exchanges a rental building (Adjusted Basis = \$100,000, FMV = \$250,000) for another rental building (FMV = \$250,000) in a pure like-kind exchange. What is the recognized gain?

Question 2 of 5

In a like-kind exchange, a taxpayer receives \$30,000 cash boot. The realized gain is \$80,000. What is the recognized gain?

Question 3 of 5

A taxpayer exchanges land (Basis = \$60,000) for like-kind land plus \$20,000 cash. The realized gain is \$15,000. What is the recognized gain?

Question 4 of 5

Which of the following properties does NOT qualify for like-kind exchange treatment under current law?

Question 5 of 5

In a deferred like-kind exchange, what is the maximum number of days a taxpayer has to identify a replacement property after transferring the relinquished property?