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A 1031 exchange allows a real estate investor to sell qualifying investment or business property and defer capital gains taxes by reinvesting the proceeds in other qualifying real estate. Massachusetts investors can use this federal tax provision when exchanging eligible property, but strict rules govern the type of property involved, how the transaction is structured, and when the replacement property must be identified and acquired.
How Does a 1031 Exchange Work?
Section 1031 of the Internal Revenue Code permits taxpayers to defer recognizing certain gains when they exchange real property held for investment or business use for other qualifying real property. The tax is generally deferred rather than eliminated. If you later sell the replacement property without completing another qualifying exchange, the deferred gain may become taxable.
Since 2018, federal 1031 exchange treatment has been limited to real property. The IRS explains that personal and intangible property generally no longer qualifies.
A typical deferred exchange involves selling one investment property and using a qualified intermediary to hold the proceeds while you acquire replacement property. If you receive the sale proceeds yourself, you could jeopardize the exchange.
What Property Qualifies for a 1031 Exchange?
Both the property you sell and the property you acquire generally must be held for investment or productive use in a trade or business. Property held primarily for sale, such as inventory, does not qualify. A personal residence also generally falls outside Section 1031, although a dwelling held for qualifying investment purposes may be eligible.
The term “like-kind” is broader than it may sound. You do not necessarily have to exchange an apartment building for another apartment building. For example, depending on the circumstances, an investor could potentially exchange:
- A rental property for commercial real estate
- Vacant investment land for a rental property
- An office building for another qualifying investment property
U.S. real estate generally cannot be exchanged for property located outside the United States while retaining Section 1031 treatment.
What Are the 45-Day and 180-Day Rules?
Timing is one of the most important parts of a 1031 exchange. Once you transfer the property you are giving up, generally known as the relinquished property, two federal deadlines apply.
You generally have 45 days to identify potential replacement property in writing. You then have 180 days to receive the replacement property, or until the due date of your tax return, including extensions, whichever comes first.
These deadlines run concurrently. The 180-day period does not begin after the 45-day identification period ends. Missing either deadline can cause the exchange to lose its tax-deferred treatment.
Does Massachusetts Recognize 1031 Exchanges?
Yes. Massachusetts recognizes qualifying Section 1031 deferral for real property. This means a properly structured exchange can potentially defer both federal and Massachusetts tax on qualifying gain. Following a state tax code update, Massachusetts conforms to the federal rule limiting Section 1031 treatment to real property for tax years beginning on or after January 1, 2022.
There is an additional consideration for certain Massachusetts real estate transactions. For closings occurring on or after November 1, 2025, Massachusetts has withholding and reporting rules for sales or exchanges of real estate with a gross sales price of $1 million or more. A Form NRW must be filed for these transactions, even when no tax is withheld.
For a qualifying 1031 exchange, withholding generally is not required on the amount of gain deferred for Massachusetts tax purposes if the applicable requirements are satisfied. Any gain recognized as part of the exchange may still be subject to withholding.
What Can Cause a 1031 Exchange to Fail?
Even when both properties appear eligible, mistakes in the transaction can create tax consequences. Common problems include taking control of the sale proceeds, missing an identification or closing deadline, or acquiring property that will not be held for a qualifying investment or business purpose.
Receiving cash or other non-like-kind property can also result in partial recognition of gain. Because the rules affect the transaction from the outset, investors should consider the exchange structure before closing the sale of the relinquished property.
Plan Your Massachusetts 1031 Exchange Before You Sell
A 1031 exchange can help you preserve capital for your next real estate investment while postponing taxes that might otherwise become due after a sale. The opportunity depends on meeting federal requirements and accounting for Massachusetts-specific tax and reporting rules.
If you are considering selling investment or business real estate, LaFountain & Wollman, P.C. can help you evaluate the legal considerations surrounding the transaction and coordinate your plans with the other professionals involved in your exchange. Contact us to discuss your Massachusetts real estate transaction before key deadlines begin running.