7 Costly Mistakes to Avoid in a 1031 Exchange — And How to Get It Right

A properly executed 1031 exchange is one of the most powerful tools for building long-term real estate wealth. But it’s also one of the easiest tax strategies to mess up — and when investors make mistakes, the consequences can be steep: taxable gains, penalties, and lost opportunities.

Here’s a breakdown of the most common 1031 missteps investors make — and exactly how to avoid them.

1. Missing the 45-Day Identification Deadline

The IRS strictly requires that you identify your replacement property within 45 calendar days of closing on your relinquished property. No exceptions, no extensions — weekends and holidays count.

Avoid it: Start researching replacement properties before you close. Have your due diligence process ready to go the day you go under contract.

2. Trying to Handle Funds Yourself

You cannot touch or control the sale proceeds. Doing so disqualifies the entire exchange — even momentarily depositing the funds in your own bank account voids the deferral.

Avoid it: Use a Qualified Intermediary (QI). They will receive, hold, and transfer the funds on your behalf in full IRS compliance.

3. Identifying the Wrong Number of Properties

IRS rules allow three options:

  • Three-property rule: Identify up to 3 properties, regardless of value.

  • 200% rule: Identify any number of properties, but their total value can’t exceed 200% of the sold property’s price.

  • 95% rule: Identify more than 3 properties of any value — but you must acquire at least 95% of their total value.

Avoid it: Choose the identification strategy that aligns with your acquisition plan and execute it in writing with your QI.

4. Buying Less Than You Sell

To fully defer taxes, you must reinvest 100% of the sale proceeds and acquire property of equal or greater value. Any leftover funds (called “boot”) are taxable.

Avoid it: Work with your broker, lender, and QI to line up financing that allows you to meet or exceed the original sale price.

5. Using the Wrong Entity

If your relinquished property was held in an LLC, partnership, or trust, your replacement property must match that ownership structure — unless a carefully structured drop-and-swap or TIC arrangement is used.

Avoid it: Discuss entity structure with your CPA or attorney before selling. Making changes mid-exchange often triggers red flags.

6. Overlooking Debt Replacement Requirements

If you had a mortgage on the property you sold, the new property must carry equal or greater debt (or be supplemented with cash out of pocket). Otherwise, the difference may be taxed.

Avoid it: Match or exceed the debt level of your relinquished property with a well-structured financing solution.

7. Assuming All Properties Qualify

Not every property is eligible for 1031 exchange treatment. You must exchange “like-kind” investment or business-use real estate. This excludes:

  • Primary residences

  • Flips or dealer property

  • Foreign real estate

  • Stocks, bonds, REITs

Avoid it: Stick to income-producing U.S. real estate held for investment. Mixed-use properties may qualify in part, but must be reviewed carefully.

Bonus Tip: Work with Experienced 1031 Professionals

The tax code doesn’t give you grace for “good faith mistakes.” That’s why even seasoned investors use an experienced 1031 team, including:

  • Qualified Intermediary (QI)

  • Real estate broker with 1031 experience

  • CPA or tax attorney

Their guidance is often the difference between a successful deferral and a costly misstep.

Final Thoughts

The rules of a 1031 exchange aren’t complex — but they are inflexible. Missing a deadline, mishandling funds, or misunderstanding identification rules can cost you tens or even hundreds of thousands in taxes.

With proper planning and a trusted team, you can execute a seamless 1031 exchange, grow your portfolio tax-deferred, and move closer to financial freedom.

Ready to Exchange?

We specialize in helping investors identify pre-vetted net lease properties that qualify for 1031 exchanges and provide predictable, long-term cash flow.

If you’d like to explore available deals or review your exchange timeline, complete our Detailed Acquisition Criteria form or contact us directly.

📘 Frequently Asked Questions (FAQ)

1. What happens if I can’t close on my replacement property within 180 days?

You’ll be disqualified from the exchange and owe capital gains taxes on the sale of your relinquished property. The 180-day closing window is non-negotiable — even delays outside your control (like lender issues or title problems) won’t give you an extension. Always allow a buffer and prioritize properties that are ready to close quickly.

2. Can I do a 1031 exchange into a vacation home or future retirement residence?

Yes — but only if the property is held strictly for investment for at least 2 years. That means no personal use beyond IRS limits during that time. After two years, you may begin converting it into a primary or second residence, provided you follow IRS guidelines.

3. Is it possible to buy multiple properties in a single exchange?

Absolutely. Under the three-property rule, you can identify and close on up to three properties, regardless of price. Alternatively, the 200% rule allows for more than three — as long as their combined value doesn’t exceed 200% of the sale price of your original property.