LIKE-KIND PROPERTY EXPLAINED

Like-kind is one of the most misunderstood terms in a 1031 exchange, largely because it sounds like it should require trading a similar type of property for another of the same type. For real estate, the standard is far broader than that. Since the Tax Cuts and Jobs Act took effect for exchanges after December 31, 2017, Section 1031 applies only to real property, eliminating the personal property exchanges that were once available for equipment, vehicles, and other tangible assets. Within real property, however, like kind is defined by the nature and character of the property rather than its grade or quality, which means an investor can exchange raw land for an apartment building, a retail strip center for an industrial warehouse, or a single tenant net lease property for a multifamily asset, as long as both properties are held for productive use in a trade or business or for investment.

What Counts as Like-Kind Real Property

Because the like kind standard for real property is based on nature and character rather than use category, Philadelphia, PA investors have wide flexibility in selecting a replacement property. A downtown office building can exchange into a suburban self storage facility. A rowhome portfolio held for rental income can exchange into a single net lease industrial building outside the city. Land held for investment can exchange into an improved property, and an improved property can exchange into raw land, provided the investor's intent for both properties is investment or business use rather than personal use. Certain interests in real property beyond fee simple ownership can also qualify, including long term leasehold interests of thirty years or more and certain fractional tenancy in common interests that meet Internal Revenue Service guidance, though these structures require careful documentation to confirm they meet the like kind standard rather than being treated as a security or a partnership interest.

The property must be located within the United States. A domestic relinquished property cannot exchange into a foreign replacement property, and a foreign relinquished property cannot exchange into a domestic one, even though both may otherwise be real property held for investment. Property held primarily for personal use, such as a primary residence or a vacation home used predominantly by the investor rather than rented, generally does not qualify, and property held primarily for sale, such as inventory held by a developer or a property that has been substantially improved and immediately listed for resale, is treated as dealer property rather than investment property and falls outside Section 1031 entirely.

Property Types That Do Not Qualify

In addition to primary residences, dealer inventory, and foreign real estate, Section 1031 excludes stocks, bonds, notes, partnership interests, and other securities, none of which were ever eligible for like kind treatment even before the Tax Cuts and Jobs Act narrowed the rule to real property. Personal property that was once exchangeable, including aircraft, vehicle fleets, and business equipment, no longer qualifies under any circumstances for exchanges completed after 2017. Investors in Philadelphia, PA occasionally ask whether a property with significant personal property value included in the purchase price, such as a hotel sold with furniture, fixtures, and equipment, can still exchange. The real property component of that transaction can qualify, but the personal property portion is treated as a separate, taxable sale and should be allocated and priced accordingly in the purchase agreement.

Because a 1031 exchange defers gain rather than eliminating it, the replacement property generally carries over the adjusted basis of the relinquished property, increased by any additional funds the investor contributes at closing, which affects future depreciation schedules regardless of how different the replacement property's use category is from the relinquished property. An investor exchanging a fully depreciated rowhome portfolio into a newly constructed industrial building in Philadelphia, PA should expect the replacement property's depreciable basis to reflect the carried over basis rather than the full purchase price, a distinction that matters when planning a cost segregation study or projecting future depreciation deductions. We also remind Philadelphia, PA investors that qualifying as like kind real property is a necessary condition for exchange treatment but not a sufficient one on its own, since the property must still be held for investment or business use both before and after the exchange, and a replacement property purchased with an existing intent to convert it to a primary residence shortly after closing can undermine the qualifying use requirement even though the property itself would otherwise satisfy the like kind standard.

We help Philadelphia, PA investors confirm a candidate replacement property meets the like kind standard before it is added to an identification notice, including reviewing whether a leasehold interest, tenancy in common structure, or mixed personal and real property sale requires additional documentation. Getting the like kind analysis right before identification prevents a technically disqualified property from consuming one of the investor's three identification slots under the three property rule. We also flag mixed use properties for closer review, since a building combining ground floor retail with upper floor residential rental units generally still qualifies as like kind investment real property, provided the residential units are rented rather than occupied by the investor.