What is a Drop & Swap in a 1031 Exchange?

Drop & Swap 1031 Exchange

1031 exchanges sound simple on the surface, but can actually be quite intricate in many cases. In this article, we are going to discuss a strategy for tenants-in-common carrying out a 1031 exchange - the drop and swap.

Real Estate with Multiple Owners

Often, people will own real estate collectively in a trust, partnership, or other business entity, and maybe one or some of those owners in the entity really want to do a 1031 exchange on the sale of the entity’s property.

Well before the closing - maybe even before the listing agreement is signed - those owners of the entity have a planning opportunity in which they can reconfigure the ownership of the property to make it most advantageous and flexible for those owners to do separate 1031 exchanges.

The Drop & Swap

A drop and swap can occur where the entity transfers out some or all of the property to the various co-owners as tenants-in-common. So rather than having the business entity own the property, the owners of the entity become the tenant-in-common co-owners of the real estate.

Remember that section 1031 states that you must have held the property for investment or business purposes. So these individual owners are going to want to satisfy the holding requirement and receive ownership well prior to any sale or disposition of the relinquished property.

Plan Early

If you do the drop and swap at the eleventh hour right before the sale is to occur the IRS may not respect that transfer to the various co-owners. Furthermore, they may say that those co-owners have not satisfied the holding requirement because they only held it for a brief period of time before immediately selling it. And if they did hold it for such a short period of time, their argument would be that they held it primarily for resale and not for investment or business purposes.

  • 1031 Hotline: If you have questions about drop and swaps in a 1031 exchange, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

 

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