The short version
A 1031 exchange lets you sell an investment property and roll the gain into another one without paying capital gains tax now. You get 45 days from your sale to identify the replacement and 180 days to close on it. No extensions for slow lenders.
To defer all the tax, you generally need to buy at least as much as you sold, reinvest all the net proceeds, and replace the debt you paid off, either with a new loan or with extra cash. Fall short and the difference can be taxable.
So the financing plan has to exist before you list. Not after you're in escrow on the sale. I'm a loan guy, not your CPA. Run the tax side by a tax advisor and a qualified intermediary. What I can do is make sure the money shows up on time.
Why does the loan matter so much in a 1031 exchange?
Because the deadlines don't care about underwriting.
Day 45 comes fast. In Sonoma County, a lot of investors are trading out of a Santa Rosa rental or a small Petaluma multifamily they've owned since the 2000s, and the replacement is often something bigger: a fourplex, a mixed-use building, a commercial space. Bigger properties mean longer loans. Commercial appraisals around here can take three or four weeks on their own. Add an environmental report or a rent roll review and you've eaten a big chunk of your 180 days.
I've watched this go sideways. An investor sold a duplex, identified a mixed-use building in Healdsburg on day 40, then found out the bank they'd assumed would lend wasn't interested in the retail piece. They scrambled. They made it, barely, because their second identified property was a cleaner deal. That's the whole point of the identification list. It's your backup plan, and the backup needs to be financeable too.
Do I have to replace the debt in a 1031 exchange?
This is the one people miss.
Say you sell a rental for $900,000 and pay off a $300,000 mortgage at closing. To defer all the gain, the replacement property generally needs to cost at least $900,000, all the cash from the sale has to go into it, and you need to take on at least $300,000 in new debt or bring that much extra cash of your own. If you buy a $900,000 property with only $200,000 of debt and no extra cash, that $100,000 gap can be treated as taxable boot.
You can always swap debt for more cash. You can't swap cash for less debt. Your tax advisor should confirm the exact numbers for your exchange, but that's the general shape, and it drives how big your new loan needs to be.
- Sale price of the old property sets the minimum purchase price for full deferral.
- Net proceeds held by the intermediary all need to go into the new property.
- The loan you paid off sets the minimum new debt, unless you add cash to cover it.
- Cash you pull out along the way, even for closing costs that aren't exchange expenses, can create boot. Ask before you touch anything.
What kind of loan works for a 1031 replacement property?
It depends on what you're buying and how you document income.
One-to-four unit residential: a conventional investment loan works if your tax returns show enough income. Plenty of investors who own several rentals don't qualify that way, because depreciation and write-offs shrink their taxable income on paper. That's where a DSCR loan earns its keep. It qualifies off the property's rent, not your personal tax returns, and it usually closes faster than a full-doc file.
Five or more units, mixed-use, or commercial: you're in commercial lending. Banks, credit unions, debt funds, sometimes an SBA loan if you'll occupy part of the building for your own business. Terms vary a lot. Expect larger down payments, typically 25% to 35%, and lenders who look hard at the property's net operating income.
Rates and terms on all of these move constantly, so treat any number you've heard as approximate and verify it for your scenario.
How do I line up financing before the 45-day clock starts?
Start before you list the property you're selling. Seriously. Here's the order I like.
- Talk to your CPA and pick a qualified intermediary first. The QI has to be in place before your sale closes, and the sale proceeds go to them, never to you.
- Get a full investor pre-approval on day one. Not a prequal. I want your documents, entity info, reserves and the type of property you're targeting, so we already know what lenders will say yes.
- Know your target loan amount. Work backward from the sale price and the debt you're paying off. That number tells us how much leverage you need.
- Pick identified properties you can actually finance. Three-property rule is common. Make sure property two and three aren't harder loans than property one.
- Order the appraisal and inspections the minute you're in contract on the replacement. On commercial, that's the long pole.
- Watch vesting. The buyer on the new property generally has to be the same taxpayer who sold the old one. If you sold in your name and try to buy in a new LLC, talk to your advisor first. Lenders care about this too.
Can I pull cash out during or after a 1031 exchange?
Not during. Any cash that comes back to you from the exchange is boot, and it's taxable. That's the trap with putting in a bigger loan than you need to and pocketing the difference at closing.
After is a different conversation. Some investors close the exchange, let the property season, then do a cash-out refinance to free up equity. A refi isn't a sale, so it isn't taxed the same way. But timing and intent matter to the IRS, and doing it too soon after the exchange can look like you planned to take cash out all along. That's squarely a question for your tax advisor. From the lending side, many cash-out programs also want some seasoning on title before they'll use the new appraised value.
If you know you'll need cash, tell me and your CPA up front. There are cleaner ways to plan it than trying to sneak it out at the closing table.
What about a reverse exchange?
Sometimes you find the right building before you've sold the old one. A reverse exchange lets an exchange accommodator hold title to the new property while you sell the old one. It works, but it's expensive and complicated, and financing it is harder because the lender is lending to a property held by a third party. Fewer lenders will do it. If you're considering one, call me early so I can find out who's lending on that structure right now before you're under contract.