Many investors ask whether they can roll the proceeds of a property sale into a real estate investment trust and keep the 1031 deferral. The short answer is no, not directly: REIT shares are stock, and a 1031 exchange must end in real property. This page explains why, the Delaware statutory trust ruling the IRS has issued, how section 721 differs from section 1031, and the cautions federal regulators publish for investors. 1031 Federal Exchange is a qualified intermediary. We do not sell or recommend securities, and this page is not investment advice.
Why REIT Shares Do Not Qualify
Section 1031 applies only to real property held for business or investment, exchanged for other real property held the same way. The Treasury regulations list intangible assets that are not real property for section 1031, regardless of how state law classifies them: stock, bonds and notes; other securities or evidences of indebtedness or interest; interests in a partnership; and certificates of trust or beneficial interests. Shares of a REIT are stock, and units in an operating partnership are partnership interests, so neither can be replacement property in a 1031 exchange.
- Real property only, for exchanges completed after 2017
- Stock, securities and partnership interests are not real property for section 1031
- Buying REIT shares with exchange funds ends the deferral on that money
Sources: 26 U.S.C. 1031 (govinfo.gov); Treas. Reg. 1.1031(a)-3 (eCFR); IRS: Like-Kind Exchanges, Real Estate Tax Tips
Delaware Statutory Trusts: Revenue Ruling 2004-86
In Revenue Ruling 2004-86, the IRS held that a taxpayer may exchange real property for an interest in the Delaware statutory trust described in the ruling without recognizing gain under section 1031, if the other requirements of section 1031 are met. The reasoning is that each beneficial owner is treated as owning an undivided fractional interest in the trust's real property. The holding is limited to a trust on the ruling's facts, so each offering needs its own review by your tax and legal advisors.
Sources: Rev. Rul. 2004-86 (IRB 2004-33)
Section 721 Is a Different Rule
Section 721 says no gain or loss is recognized when property is contributed to a partnership in exchange for an interest in the partnership, with an exception for partnerships that would be investment companies. Some REITs hold their properties through an operating partnership and offer partnership units in exchange for property, a structure often called an UPREIT. That contribution relies on section 721, not section 1031. It is not a like-kind exchange, and the partnership units you receive are not real property, so they cannot later be exchanged under section 1031. Talk with your tax advisor about the consequences before you consider it.
Sources: 26 U.S.C. 721 (govinfo.gov); Treas. Reg. 1.1031(a)-3 (eCFR)
What Federal Regulators Tell Investors
The SEC's investor bulletin on non-traded REITs warns that they can be hard to sell, that a liquidity event might not occur until more than 10 years after you invest, that fees can be up to 15 percent of the offering price, and that distributions may come from principal or borrowings. FINRA notes that public non-traded REITs tend to be less liquid and that private REITs are not SEC-regulated or exchange-traded. FINRA's predecessor told firms in 2005 that tenant-in-common interests sold for exchanges generally are securities. Review any offering with a licensed financial professional.
Sources: SEC Investor Bulletin: Non-traded REITs; FINRA: Real Estate Investment Trusts; FINRA (NASD) Notice to Members 05-18
Where a Qualified Intermediary Fits
If you identify real property, or a Delaware statutory trust interest your advisors have reviewed, 1031 Federal Exchange holds your exchange funds, receives your written identification by Day 45 and sends the funds to the closing by Day 180. We do not choose investments for you. If your plan is to own REIT shares, that is a taxable reinvestment, and your CPA should run the numbers before you sell.
Frequently Asked Questions
Not without ending the deferral. REIT shares are stock, and the Treasury regulations say stock and other securities are not real property for section 1031, so they cannot be replacement property.