The Future of 1031 Exchanges: Potential Legislative Changes and Trends

Section 1031 of the Internal Revenue Code (IRC) is a powerful tool for companies and individuals that invest in real estate. Under Section 1031, real estate investors can buy and sell properties without recognizing gain—deferring their tax liability resulting from these transactions indefinitely. As 1031 exchange specialists, we help companies and individuals conduct these “like-kind exchanges” all the time, and we stay up-to-date on the trends and developments that have the potential to impact the opportunities that are available to our clients.

If you are thinking about conducting a 1031 exchange in 2024, what do you need to know? In this article, we provide our predictions for the future, a legislative update and some tips for conducting 1031 exchanges in 2024 and beyond.

5 Predictions About the Future of 1031 Exchanges: Looking Beyond 2024

While Section 1031 has been around for a long time, the rules that govern like-kind exchanges are more common than you might think. One of the most recent significant developments was the elimination of like-kind exchange treatment for personal property, which took effect with the passage of the Tax Cuts and Jobs Act in 2017. There has been a lot of talk about new legislative changes recently—and even the possible elimination of Section 1031 altogether—and some recent federal policy updates have important implications for taxpayers that leverage the benefits of Section 1031 as well.

With this background, here are five predictions about the future of 1031 exchanges:

1. We Will See Enhanced IRS Scrutiny of Real Estate-Related Tax Planning Strategies

Each year, the Internal Revenue Service (IRS) publishes a list called the “Dirty Dozen.” This list highlights some of the IRS’ top enforcement priorities for the upcoming year. For 2024, the IRS’ Dirty Dozen list highlights a couple of real estate-related tax avoidance schemes, and while it doesn’t mention improper 1031 exchanges specifically, fraud under Section 1031 is perennially on the IRS’ enforcement radar.

Additionally, the IRS received a substantial increase in its enforcement budget under the Inflation Reduction Act, and it has already begun using these additional resources to target high-income and high-net-worth taxpayers. This, combined with the IRS’s focus on real estate-related tax fraud, means that we expect to see the IRS paying closer attention to taxpayers’ Section 1031 claims for the foreseeable future.

2. Reliance on Section 1031 Will Become Increasingly Common

While we expect the IRS to enhance its focus on Section 1031 compliance, we also expect reliance on Section 1031 to become increasingly common. Awareness of Section 1031 is growing, and as more taxpayers learn about the opportunities that are available, our 1031 exchange specialists are receiving more and more calls from people who have questions about how they can take advantage of the indefinite tax deferral available under Section 1031.

3. We Will See a Boom in Delayed Exchanges and Reverse Exchanges

With limited inventory in the real estate market, conducting a “standard” 1031 exchange these days can be challenging—especially for less-experienced investors and those who cannot afford to pay cash at closing. Section 1031 imposes strict deadlines for identifying and acquiring a “replacement” property, and taxpayers who fail to meet these deadlines cannot defer their associated tax liability.

But, taxpayers can extend the timeframe for conducting a 1031 exchange—and extend it substantially—by conducting a delayed exchange or reverse exchange. We’ve seen increased interest in these options lately, and we expect that this will be the case for the foreseeable future.

4. We Will See Companies and Investors Using 1031 Exchanges With New Kinds of Properties

While the COVID-19 pandemic didn’t quite have the permanent impact on the commercial real estate market that many experts predicted, it’s no secret that things have changed. While some companies are bringing their employees back to the office, malls are still mostly empty, investors are looking for ways to repurpose empty office space and brick-and-mortar retailers are closing up shop as people continue to do much of their shopping online.

With this in mind, we also predict that we will see companies and investors using 1031 exchanges with new kinds of properties—and, to be fair, we’re seeing some of this already. While Section 1031 requires a like-kind exchange, the definition of “like kind” is extremely broad and allows exchanges involving very different types of properties.

5. Working with Experienced 1031 Exchange Specialists Will Become Increasingly Important

Given the potential for IRS scrutiny and the enhanced complexity of delayed and reversed exchanges, working with experienced 1031 exchange specialists will become increasingly important in the years ahead. Companies and individuals conducting like-kind exchanges will need to ensure that they have all of the necessary documentation in place, that they work with a qualified intermediary and that they do everything else that they need to do in order to withstand IRS scrutiny when necessary.

Is Section 1031 Going to Be Eliminated?

If you’ve been doing research about Section 1031 online, you might have seen articles discussing the possibility of Section 1031 being eliminated. The Biden administration first raised the possibility of eliminating Section 1031 in 2021. Nothing happened at that time, and not much has happened since. But, as stated in a Fact Sheet that The White House released in March, the Biden administration’s latest budget proposal seeks to “save[] $19 billion by closing the ‘like-kind exchange’ loophole, a special tax subsidy for real estate.” It goes on to state:

“This loophole lets real estate investors – but not investors in any other asset – put off paying tax on profits from deals indefinitely as long as they keep investing in real estate. This amounts to an indefinite interest-free loan from the government. Real estate is the only asset that gets this sweetheart deal.”

Of course, Section 1031 is not actually a “loophole.” It is a federal statute that Congress enacted specifically to serve the purpose that it serves today. Whether the current administration’s negative view of Section 1031 will lead to a repeal this time around remains to be seen.

Tips for Conducting 1031 Exchanges in 2024 and Beyond

In light of everything we’ve covered thus far, what do you need to know if you are thinking about conducting a Section 1031 exchange in 2024 (or beyond)? Here are five tips from our 1031 exchange specialists:

• Check for Legislative Updates – In light of the Biden administration’s pending budget proposal, taxpayers considering 1031 exchanges in the months ahead should check for legislative updates. If Congress were to agree that eliminating Section 1031 is warranted, this could speed up many taxpayers’ timelines substantially. While the current administration and the Republican majority in Congress have frequently been at odds, it is worth keeping in mind that the Trump administration was responsible for eliminating like-kind exchange treatment for personal property in 2017.
• Learn About the Options You Have Available – As we discussed above, there are multiple types of 1031 exchanges. Along with standard exchanges, delayed exchanges and reverse exchanges, improvement exchanges are a fourth option that makes sense in a lot of circumstances. If you are interested in taking advantage of the tax benefits afforded by Section 1031, we encourage you to use our website as a resource to learn more about the options you have available. Each option is available in different circumstances, and it is worth making sure you leverage Section 1031’s tax benefits if you have the opportunity to do so.
• Do Not Ignore the Importance of Section 1031 Compliance – While some people assume that they can simply sell one property, buy another one and then not pay tax on their gains, this is not how Section 1031 works. Section 1031 has stringent requirements, and taxpayers must comply with all of these requirements in order to avoid scrutiny from the IRS. Even if you are generally eligible for like-kind exchange treatment under Section 1031, you can still get into trouble if you don’t take the necessary steps to thoroughly establish and document your eligibility.
• Do Not Start the Process Until You Are Sure You Are Ready – Since strict deadlines and other requirements apply, it is important not to start the exchange process until you are sure you are ready. If you miss a deadline, overlook any requirements or take any steps out of order, you could lose your eligibility for tax deferral.
• Talk to Our 1031 Exchange Specialists – Given the complexity of the 1031 exchange process, we strongly recommend talking to one of our 1031 exchange specialists if you are thinking about selling a piece of real property. We provide free initial consultations, and we can help ensure that you make informed decisions as you move forward.

Contact the Experienced 1031 Exchange Specialists at 1031 National Services

If you would like to speak with one of our 1031 exchange specialists, we invite you to get in touch. To schedule a free consultation at 1031 National Services, give us a call at 888-872-1031 or tell us how we can reach you online today.