What is the “200% Relinquished Property” Rule in 1031 Exchanges?

A 1031 tax-deferred exchange is a valuable tool for real estate investors looking to defer capital gains taxes when transitioning from one investment property to another.  While many investors are aware of the basic principles of a 1031 exchange, some may not be familiar with a specific rule – The 200% relinquished property rule – that can greatly benefit their exchange strategy. The 200% relinquished property rule is one of the safe harbor rules available to investors engaging in a 1031 exchange. This rule allows investors to identify more potential replacement properties than they would under the standard identification rules. 

Under the standard identification rule, an investor can identify up to three potential replacement properties of any value, without regard to the total value of the relinquished property being sold. This is known as the “3-Property Rule.” However, if an investor intends to identify more than three replacement properties, he or she can take advantage of the 200% relinquished property rule. This rule allows the investor to identify any number of replacement properties, as long as their combined fair market value does not exceed 200% of the fair market value of the relinquished (sold) property.

 The 200% relinquished property rule offers investors greater flexibility in identifying potential replacement properties.  By identifying more replacement properties, investors can spread their risk and have backup options in case some of their primary choices fall through. This reduces the risk of an unsuccessful exchange.  Investors looking to diversify their real estate portfolios can benefit from identifying a broader range of properties, including those in different locations, asset classes or risk profiles. This can be particularly beneficial in competitive real estate markets or when searching for diverse investment opportunities. 

In a recent example, we experienced a situation whereby the buyer in a 1031 Exchange situation did not realize that a 200% Relinquished Property Rule existed. Fortunately, we were able to advise him about the rule prior to completing the exchange, which enabled him to identify four, rather than only three, replacement properties, thus spreading his risk. They buyer was able to do this because the total value of the four properties did not exceed 200% of the total value of the property he was selling.

The 200% relinquished property rule is obviously a valuable tool for real estate investors engaged in 1031 tax-deferred exchanges. It offers flexibility and risk mitigation by allowing investors to identify more potential replacement properties than the standard 3-Property Rule.  To navigate the complexities of a 1031 exchange and leverage rules like the 200% rule effectively, we always recommend that one consult with a qualified tax professional or attorney with expertise in real estate transactions and tax law.

For additional information about this and other real estate transaction strategies, please contact the professionals of the Jay Nuss Realty Group at 781.848.9400.