Understanding 1031 Exchanges: A Powerful Tool for Small Business Owners
When managing your business’s real estate, making the right moves can have a big impact on your bottom line. One strategy you should know about is the 1031 exchange—a unique IRS provision that allows you to upgrade, diversify, or streamline your business property portfolio while deferring capital gains tax. Here’s what small business owners need to know.
What Is a 1031 Exchange?
A 1031 exchange (named for Section 1031 of the Internal Revenue Code) lets you sell a business or investment property and reinvest the proceeds into a new, like-kind property. Done correctly, this transaction defers any immediate capital gains taxes, giving you more cash to reinvest in your business—such as buying a bigger office, opening another location, or streamlining your real estate holdings.
How Does a 1031 Exchange Work?
Sell Your Property: List and close on your current business or investment property, making sure to work with qualified professionals who understand 1031 exchanges.
Identify Replacement Property: Within 45 days of the sale, you must identify candidate properties to purchase.
Complete the Exchange: You must close on a new property within 180 days of the sale of your previous property.
Use a Qualified Intermediary: IRS rules require that you never directly touch the funds; instead, a third party (Qualified Intermediary) handles the transaction.
Strict compliance with these timelines and requirements is essential to ensure you retain the tax benefits.
Key Benefits for Small Business Owners
Tax Deferral: Defer paying capital gains tax, allowing you to reinvest 100% of proceeds into a new property—funds that would otherwise go to the IRS.
Increased Purchasing Power: Use more of your earned equity for a larger, more productive, or better-located facility.
Portfolio Growth & Diversification: Exchange into properties that better match your strategic goals—whether that’s moving from management-heavy to low-maintenance properties, or expanding your geographic reach.
Estate Planning Flexibility: If held through multiple 1031 exchanges, properties passed to heirs may qualify for a stepped-up basis, potentially eliminating deferred taxes entirely.
Who and What Qualifies?
Eligible Properties: Only property held for investment or business purposes is eligible—personal homes or property do not qualify.
Like-Kind Requirement: Properties exchanged must be of “like-kind”—a broad definition in real estate, meaning you can swap land for a warehouse, or a retail space for an office building, as long as both have business or investment use.
Same Taxpayer Rule: The entity that sells the old property must buy the new property to qualify.
Things to Watch Out For
Partial Exchanges: If you buy a less valuable replacement property or receive cash (“boot”), you may incur some tax liability.
Complex Rules: Navigating 1031 exchanges requires expert planning and often help from accountants, attorneys, and intermediaries who regularly work with small business owners.
Changing Regulations: While 1031 exchanges remain a powerful tool in 2025, always check for updates or potential legislative changes before initiating a transaction.
Is a 1031 Exchange Right For You?
If you’re looking to grow, upgrade, or streamline the real estate your business depends on, a 1031 exchange could offer a meaningful tax advantage and provide extra cash to fuel your next move. Rural Michigan businesses—especially those with less than $10M in revenue—should approach these exchanges with a strategic mindset and guidance from a knowledgeable tax advisor.
Raymond & King CPAs: Proudly helping local businesses unlock the advantages of 1031 exchanges and other tax strategies that keep more money where it belongs—in your business.
For tailored advice about 1031 exchanges or other business tax strategies, contact our team today!