1031 Exchanges With Tenants in Place: What to Know

Selling or buying a property with tenants in place doesn't change the basic 1031 rules. Rental property qualifies whether it's occupied or vacant, and existing leases normally transfer to the buyer as part of the sale. Where tenants do matter is on the closing statement.

Rents and security deposits at closing

When you sell a tenant-occupied property, the closing statement usually includes two credits to the buyer: the tenants' security deposits, and any rent you've collected for days after closing.

Those credits reduce the cash that comes to your QI. That's normal, but how they're handled can matter. In some cases, credits that are paid out of exchange proceeds can be treated as cash you received, which can create a small amount of taxable boot. One common approach is to pay those items outside of the exchange, or to account for them so the exchange proceeds aren't reduced.

The right handling depends on your numbers, so have your CPA look at the draft closing statement before closing. We're happy to review it with them.

Buying a property with tenants

On the purchase side, you'll typically take over the existing leases and receive a credit for security deposits and prepaid rent. Those credits can affect how much of your exchange funds go into the purchase, so it's worth reviewing that statement with your CPA too.

From a due diligence standpoint, ask for copies of the leases, a rent roll, and tenant estoppel certificates where appropriate. Knowing what you're buying matters even more when you only have 45 days to identify.

Renting to family or yourself

An exchange requires that you hold the replacement property for investment. Renting it to family members below market rent, or using it yourself, can undermine that. If you plan to rent to a relative, charge fair market rent and document it like any other lease. Your CPA can tell you where the lines are.

Selling with a tenant who wants to buy

Sometimes the tenant is the buyer. That's fine for the exchange. If the tenant is a related party, such as a family member or a business you control, additional rules apply, so check with your CPA first.

Plan the closing

Tenant-occupied sales mean more line items on the closing statement and more coordination with the buyer. Connect us with your closing agent early, and we'll work with them to make sure the exchange is set up and the funds come to us at closing.

APX 1031 is a Qualified Intermediary. We don't provide tax or legal advice; talk with your CPA or attorney about your situation.