1031 Exchange 200% Rule for Number of Replacement Properties

1031 Pros
Jul 31
4 min read

The 1031 exchange 200 rule involves the value of your replacement properties. Follow this rule, and you can identify as many properties as you want to. However, their combined total value can’t exceed 200% of the value of your original property.

In this article, we’ll explain what the 200% rule is, how it works, and how you can comply. We’ll also outline another way to choose properties that doesn’t involve percentages at all.

What Is a 1031 Exchange?

A 1031 exchange is a type of real estate transaction involving the sale of one property and the purchase of at least one more. This type of deal allows you to postpone capital gains taxes.

People buy and sell properties every day. A 1031 exchange is a little different. These transactions involve investment properties, and they’re used for tax purposes. Investors can sell a property and roll the potential capital gains tax into the basis of the properties purchased. As experts explain, the taxes are deferred and not forgiven. If you sell the new items, those bills come due.

These transactions also involve complex rules. For example, you must hire a qualified intermediary (QI) to handle the deal. If you accept the funds from the sale, the entire transaction could become taxable. The funds have to stay with the QI on a strict timeline.

Key Deadlines You Should Know

Deadlines are clearly specified in 1031 exchange rules, and they can’t be shifted. The most important deadline concerning the 1031 exchange 200 rule is 45 days.

Once you sell your property, you have 45 days to identify a new one. The IRS explains that investors must provide a document that specifies the replacement property with details like its address, formal name, and more. You must provide this information to your qualified intermediary or the seller of the properties.

This means you’re required to pick the items you’re ready to buy within six weeks of completing the sale of the first. The properties you choose must meet the 200% rule (or the exception we’ll outline below). Let’s dig into how this works.

How Does the 1031 Exchange 200 Rule Work?

The 200% rule from the IRS is explained in Internal Revenue Service 1.1031.1(k)-1. Investors can identify more than one property as a potential replacement. However, the total fair market value of these properties can’t exceed 200% of the fair market value of the original.

Think of this rule as a safety net. You may have your heart set on one specific property, but you’re not entirely sure you can complete the sale within the IRS deadline of 180 days. Identifying other properties can ensure that you make at least one transaction work, so you don’t lose the potential benefits from your 1031 transaction.

How to Put This to Work: An Example

The easiest way to understand how the 1031 exchange 200 rule works is to give a real-time example.

Imagine a property owner in Arizona with a $1.2 million commercial office building. This owner can identify several properties for a 1031 exchange, but their combined value cannot exceed $2.4 million.

This investor could identify properties like the following:

A small commercial office park with a fair market value of $500,000
A parking garage with a fair market value of $600,000
A rental home with a fair market value of $70,000
A vacant lot with a fair market value of $600,000

The investor identifies these opportunities at the 45-day mark. However, the sale of the rental home falls through. The investor could still have a successful 1031 exchange, as the total of the purchase exceeds $1.7 million, which is more than the sale of $1.2 million.

What Types of Properties Can You Identify?

A 1031 exchange is designed for investors. That means the property you sell and the ones you buy must be held for business purposes. You can’t use this process to buy a home you’d like to live in right now. You must pick something that you’ll use for an investment.

You can identify traditional commercial properties, such as office parks, rental homes, or apartment buildings. You can also use a special tool called a Delaware Statutory Trust. You’ll purchase a percentage of the real estate asset and share it with others. Some investors use this tool to invest a very small amount of their profits (like $200,000) to ensure that their 1031 exchange moves forward as scheduled.

Another Property Identification Option

The 1031 exchange 200 rule isn’t your only way forward. You can use a completely different set of guidelines as you choose properties to purchase in your exchange.

Internal Revenue Service 1.1031(k)-1 also allows investors to follow a “3-property rule.” You can identify a maximum of three properties without paying attention to their total value.

A rule like this could allow you to pay less attention to the total value of the replacement properties and just pick three things that seem likely to work out. If one falls through and the total exceeds the fair market value of the one you sold, you’re still in good shape.

Get Help With Your 1031 Exchange

Understanding the ins and outs of 1031 exchanges isn’t easy. It takes time and experience to learn how to handle these transactions like a pro. Get the advice and expertise you need from 1031 Pros. We specialize in these complex real estate transactions. In fact, this is all we do.

We can help you follow each rule exactly, and as your qualified intermediary, we can protect your investment and keep it secure. When you work with us, you don’t have to worry about the details; we do that for you. Contact us to find out more. We can help you get started on your transaction today.