Use a 1031 Exchange in 2025: 7 Smart Ways to Defer Taxes
One of the most powerful tools in real estate investing is the 1031 exchange. Named after Section 1031 of the Internal Revenue Code, this strategy lets investors sell a property and reinvest the proceeds into another “like-kind” property without immediately paying capital gains taxes. In 2025, with rising property values and tax burdens, learning to use a 1031 exchange is essential for growing and preserving wealth. Here are seven smart ways to leverage this strategy and defer taxes.
1) Trade Up to Bigger Properties
A common use of the 1031 exchange is to sell a smaller property and reinvest in a larger one. For example, trading a single-family rental for a multi-family apartment building increases income potential and scalability. By deferring taxes, you keep more equity working for you instead of sending it to the IRS.
2) Diversify Property Types
“Like-kind” doesn’t mean identical. You can exchange one type of real estate for another — such as selling a retail property and buying industrial warehouses. This allows investors to diversify income streams while still deferring taxes. In 2025, with some sectors outperforming others, diversification is a smart defensive move.
3) Consolidate Multiple Properties
If managing several smaller rentals is becoming a burden, you can use a 1031 exchange to sell them and consolidate into one larger property. This reduces management headaches while keeping cash flow steady. Consolidation also positions you for appreciation in stronger markets.
4) Swap Into Passive Investments
Some investors use 1031 exchanges to move from active management into passive opportunities like Delaware Statutory Trusts (DSTs). DSTs allow fractional ownership of institutional-grade properties, with professional management handling operations. This is ideal for investors nearing retirement who want income without the workload.
5) Relocate Investments to Growth Markets
A 1031 exchange lets you sell in stagnant or declining markets and reinvest in high-growth areas. For example, moving equity from a slow market into a booming Sunbelt city can increase appreciation and rental demand. Location flexibility makes the 1031 exchange one of the most dynamic tools for portfolio growth.
6) Build a Legacy with Estate Planning
When you pass away, your heirs inherit property with a stepped-up basis — effectively eliminating deferred capital gains. By using 1031 exchanges throughout your life, you can grow wealth tax-deferred and pass it on tax-free. For families, this strategy is one of the most powerful ways to create generational wealth.
7) Use Reverse or Improvement Exchanges
Advanced variations of the 1031 exchange allow even more flexibility. A reverse exchange lets you acquire a replacement property before selling your current one. An improvement exchange lets you use proceeds to renovate the new property. These options require expert guidance but unlock additional tax and investment benefits.
Example: Trading Up Without Taxes
Imagine selling a rental for $400,000 with a $200,000 gain. Normally, you’d owe tens of thousands in capital gains taxes. With a 1031 exchange, you reinvest the full $400,000 into a $600,000 fourplex. Not only do you defer taxes, but you also increase cash flow and build equity faster.
Pro Tips for Using 1031 Exchanges
- Watch the timeline: You have 45 days to identify replacement properties and 180 days to close.
- Use a qualified intermediary (QI): The IRS requires a QI to handle funds — you can’t touch the money directly.
- Plan ahead: Start lining up replacement properties before selling to avoid missing deadlines.
- Consult professionals: Tax advisors and real estate attorneys ensure compliance and maximize benefits.
FAQs About 1031 Exchanges
Q: Can I exchange into vacation property?
A: Possibly, if the property meets IRS rules for investment use. Pure personal-use vacation homes don’t qualify.
Q: Are there limits on how many times I can use a 1031 exchange?
A: No. You can use it repeatedly, deferring taxes as long as you follow the rules.
Q: Do I need to reinvest all proceeds?
A: To defer taxes fully, yes. Partial reinvestment (taking “boot”) creates taxable income.
Q: What if I can’t find a property in 45 days?
A: Then the exchange fails, and taxes are due. That’s why planning and strong networks are critical.
Q: Can I 1031 into a REIT?
A: Not directly, but Delaware Statutory Trusts (DSTs) allow indirect access to REIT-quality properties using 1031 funds.
Bottom Line
In 2025, the ability to use a 1031 exchange remains one of the most effective ways to defer taxes and grow wealth. Whether you’re trading up, consolidating, diversifying, or planning for legacy, this tool keeps your equity compounding instead of being eroded by taxes. Smart investors treat the 1031 as a cornerstone of long-term strategy.
Next step: Explore more advanced investing strategies on our Resources page. Related reads: Tax Benefits of Owning Real Estate, Pass Property to Your Children Tax-Free, and Real Estate Asset Protection.