What Are the 1031 Exchange Property Identification Rules?

The three best-known 1031 exchange property identification rules are:

  1. The 3-Property Rule
    An investor may identify up to three potential replacement properties, regardless of their total market value, and acquire any or all of them.
  2. The 200% Rule
    An investor may identify any number of potential replacement properties if their total value does not exceed 200% of the relinquished property’s total value by the end of the identification period. The investor may then acquire any or all of the properties as desired.
  3. The 95% Rule
    An investor may identify any number potential replacement properties as desired, regardless of their value, if the investor acquires 95% of the total market value of all properties identified.

However, there are a number of other rules that real estate investors must follow when performing a 1031 exchange. If these rules are not followed, the sale of an investor's relinquished property becomes a taxable event, and the investor may needlessly lose 20–35%+ of their capital gain.

Among these rules is a requirement that the investor must identify potential replacement property that will be held for use in a trade or business or for investment, that is like-kind to the original property, by midnight on the 45th day after the sale of the original property. This identification must be done in a particular way, and the replacement property that the investor actually acquires to complete their exchange must be on that official list of identified properties.1 The number of properties an investor may identify, and their total market value, are restricted according to one of those three classic identification rules, which an investor may choose between to suit the particulars of their situation.

This article answers the following questions:

  1. What does it mean for property to be held “for use in a trade or business” or “for investment”?
  2. What is “like-kind” property in the context of a 1031 exchange?
  3. How long does an investor have to identify potential replacement property for their 1031 exchange?
  4. What are the three 1031 exchange property identification and acquisition rules?
  5. What action must be taken by an investor to complete the identification of a potential 1031 replacement property?

What does it mean for property to be held “for use in a trade or business” or “for investment”?

In order to defer capital gains taxes on the sale of property under IRC § 1031, both the relinquished property and the replacement property must be held for productive use in a trade or business,2 or for investment. There are two keys to understanding what this means: intent and predominant use.

Intent. 1031 exchange property does not have to be actively generating revenue to qualify as property held for business or investment purposes. The owner’s intent is the key, and there are many facts that an investor can document to prove intent. Note well, however, that property held primarily for sale (or “inventoried”) does not qualify as property held for investment.

Predominant use. 1031 exchange property does not have to be exclusively held for business or investment purposes. Its predominant use is the key. To clarify the meaning of “predominant use”, the IRS provides investors with a “safe harbor”, or a set of clear guidelines for taxpayers to follow to remain well within the intent of the law. In this case the IRS says that if the safe harbor guidelines are followed it will not challenge a property’s business or investment intent. The safe harbor provided for 1031 exchange property identification uses an example involving rental property. It says that if:

  1. the investor holds the property for two or more years (the “qualifying use period”),
  2. within each of those two years, the owner rents the property out for at least 14 days, and
  3. the owner does not personally use the property either for 14 or more days, or for 10% or more of the days it was rented out for, then

the IRS will not challenge the owner’s intent to hold that property for investment.

What is “like-kind” property in the context of a 1031 exchange?

In a 1031 exchange, the replacement property in a 1031 exchange must be “like-kind”3 to the relinquished property. The sense of “kind” here is broad; real estate in general is like-kind,4 although movable (“personal”) property is not like-kind to immovable (“real”) property.

Do properties have to be located in the same place to be considered “like-kind” for a 1031 exchange?

Replacement property does not have to be in the same state jurisdiction as relinquished property, however the national borders matter: Property within the United States5 may be exchanged for property that is also within the U.S., and property outside the U.S. may be exchanged for other property outside the U.S.

Do properties have to be in the same asset class to be considered “like-kind” for a 1031 exchange?

Replacement property does not have to be in the same class as relinquished property. Commercial, residential, undeveloped, and developed property are all like-kind and may be exchanged with one another.6

Do properties have to be held with the same property rights to be considered “like-kind” for a 1031 exchange?

Not all real estate “ownership” carries the same property rights. One may hold either permanent or temporary rights, either to the land or what is improvements to the land, or both. Properties do not necessarily have to be held with the same rights to be considered like-kind, however there are some restrictions. Property held with permanent rights to the land and its improvements (“fee-simple”) is like-kind to property held with permanent rights to the land but not the improvements (“leased fee”). Either property may be like-kind to property held with rights to the improvements (“leasehold interest”) and temporary rights to the land (“ground lease”), as long as there is more than 30 years left in the term, including renewal provisions. Shorter-term leasehold interests can qualify as like-kind to one another, but not to property held long-term. Lastly, buildings or other improvements held without any rights to their underlying land are not like-kind to any real property. Similarly, stocks, bonds, notes, traditional securities,7 partnership interests, and certificates of trust are not eligible for 1031 exchange.

How long does an investor have to identify potential replacement property for their 1031 exchange?

To successfully defer capital gains taxes on the sale of investment property by way of a 1031 exchange, an investor must identify, in writing, potential replacement property in compliance with certain rules, by the 45th day after the disposition of the relinquished property. The day after the close of escrow is Day #1. The identification period closes at midnight of Day #45, with both weekends and holidays included in the countdown. Deadlines cannot be extended unless the President of the United States deems it necessary, such as in cases of natural disasters or national emergencies.

In order to comply with one of the three rules discussed below, property identifications may be revoked during this 45-day period. This may be necessary if an investor’s needs or goals change, or if the situation with any of the identified property changes. Note well that neither identification nor revocation alters the 1031 exchange timeline.

[Calculate your 1031 exchange timeline here.]

What are the three rules for identifying and acquiring 1031 exchange replacement property?

An investor must comply with one of three rules provided by the IRS for identifying potential replacement properties and ultimately acquiring some or all of them. These rules place constraints on the number and total market value of the potential replacement properties identified and acquired.

3-Property RuleAn investor may identify up to three potential replacement properties, regardless of their total market value, and acquire any or all of them.

200% Rule. An investor may identify any number of potential replacement properties if their total value does not exceed 200% of the relinquished property’s total value by the end of the identification period. The investor may then acquire any or all of the properties as desired.

95% Rule. An investor may identify any number potential replacement properties as desired, regardless of their value, if the investor acquires 95% of the total market value of all properties identified.

What action must be taken by an investor to complete the identification of a potential 1031 replacement property?

To officially identify a replacement property, an investor must produce a written notice that is signed and hand-delivered, mailed, emailed, or faxed. In the case of real estate, this notice must include an unambiguous description of each property, such as including a legal description, street address, assessor’s parcel number, and/or recognized building name. The more detail supplied, the better.

If the investor is complying with the 200% rule and acquiring a fractional interest in property held by investors as Tenants-in-Common (TIC) or by way of a Delaware Statutory Trust (DST), the percentage or dollar amount being considered for acquisition should be supplied in the notice. Failing to do so may signals to the IRS that 100% of the property is being considered, which may invalidate the 1031 exchange, either because the 200% rule was not followed, or because a substantially different property was ultimately acquired than what was identified.

This identification notice is most often sent to an investor’s Qualified Intermediary (QI), however legally it can also be sent to:

  • any person obligated to transfer replacement property to taxpayer
  • any party to the exchange
  • escrow agent
  • title company

The notice may not be sent to the investor’s:

  • attorney
  • real estate agent
  • accountant
  • other agent

The close of escrow on a replacement property, or signing of a Letter of Intent, prior to the end of the identification period may also satisfy the written property identification requirement. However, if a replacement property is acquired prior to the 45th day, any properties that have already been identified should be revoked to avoid violating one of the three rules.

Do you want to talk with us about finding potential replacement property to identify? Are you looking for 1031 exchange property that meets certain needs? Fill out the form to the right and you will be contacted by a 1031 exchange expert who can answer your questions and get you connected to the right people.


1 The property that the investor acquires must remain “substantially the same” as the property identified. The nature, grade, or class of property cannot be significantly different from what was officially identified. Consider the case in which an investor identifies property that includes a barn, its underlying land, and an adjoining acre, but only acquires the barn and its underlying land. The investor has not acquired substantially the same property that was identified, which invalidates the exchange. 

2 “Trade or business” generally refers to any service performed within the U.S., although it doesn’t include work done as an employee or work performed for foreign entities that are not doing business in the U.S. Trading stocks or securities for oneself doesn’t count as “doing business”, and trading on behalf of others counts as doing business as long as a fixed place of business inside the U.S. is used to direct the trading (cf. 26 USC § 1.864-2). The distribution and sale of gas, steam, electricity, water, and waste management may be excluded or severely restricted (cf. 26 USC § 163(j)(7)(A)).

3 According to the IRS, "The exchange of real estate for real estate and the exchange of personal property for similar personal property are exchanges of like-kind property. For example, the trade of land improved with an apartment house for land improved with a store building" (Publication 544).

4 According to the IRS, "Quality or grade does not matter. Most real estate will be like-kind to other real estate.  For example, real property that is improved with a residential rental house is like-kind to vacant land" (FS 2008-18).

5 Inclusive of Washington D.C., Guam, the U.S. Virgin Islands and the Northern Mariana Islands

6 As long as the residential property is not the investor’s personal residence (in which case a 121 exclusion may be a viable option) or vacation home

7 Real estate ownership interests structured as securities may be acquired in a 1031 exchange in the case of Tenant-in-Common (Rev. Proc. 2002-22) and Delaware Statutory Trust (Rev. Rul. 2004-86) investments

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