Legal Line

1031 Exchanges and Co-ops

Neil B. Garfinkel

REBNY Broker Counsel

March 20, 2024

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Question: I am a licensed real estate salesperson and I have a client who is interested in selling an investment property (a 3-unit multifamily building) and purchasing a co-op apartment. Is it possible to purchase the co-op apartment, as the replacement property, as part of a 1031 Exchange?

Answer: Yes, it is possible to purchase a co-op apartment, as the replacement property, as part of a 1031 Exchange. The term “1031 Exchange” refers to Section 1031 of the Internal Revenue Code. A 1031 Exchange provides an owner with an opportunity to defer paying capital gains tax on the sale of an investment property (the “Relinquished Property”) if the owner reinvests the sale proceeds in the purchase of a “like kind” replacement property (the “Replacement Property”). The term “like-kind” requires that the Relinquished Property and the Replacement Property are: (i) of the same nature or character; and, (ii) both held for business purposes or for investment. In this case, the building and co-op apartment are deemed to be of a similar nature or character. Thus, a co-op apartment may be used as the Replacement Property provided that the co-op apartment is held for business purposes or investment.

Important Tips: The co-op corporation’s occupancy and subleasing rules, including permitted length of time that subleasing is permitted, may limit the use of the co-op apartment for business purposes or investment, thus preventing a 1031 Exchange. Further, the seller should keep in mind the potential time frame to close on a co-op apartment, as there are deadlines by which the Replacement Property must close by. Because the seller must comply with very specific rules in order to utilize a 1031 Exchange, the seller should always consult with an accountant or attorney in connection with such a transaction.