Thinking about selling a Phoenix rental but worried about taxes eating into your gains? You have options that can keep more of your money working for you. With the right plan, a 1031 exchange can help you defer capital gains and reposition your portfolio in the Valley. This guide explains the rules, deadlines, local Phoenix considerations, and a simple example so you can move forward with confidence. Let’s dive in.
What a 1031 exchange is
A 1031 exchange lets you sell investment or business property and buy another qualifying property while deferring capital gains taxes. The core rule comes from Internal Revenue Code Section 1031 and the IRS provides practical guidance in its Like-Kind Exchanges tax tips.
For real estate, “like-kind” is broad. You can exchange most U.S. investment real property for other U.S. investment real property. That means you might sell a single-family rental and buy a multifamily or commercial building. Since 2017, only real property qualifies. Personal property no longer qualifies for 1031 treatment.
A 1031 is a deferral, not a permanent exclusion. If you later sell without another exchange or receive cash or other non-like-kind property, taxes may be due.
Core rules you must meet
To keep your exchange intact, you must follow specific rules:
- Property use: Only property held for investment or business use qualifies. Primary residences do not qualify.
- Like-kind: Most U.S. investment real estate is like-kind with other U.S. investment real estate.
- Independent funds handling: You cannot receive sale proceeds. A qualified intermediary (QI) must hold and move funds. Learn more about QIs through the Federation of Exchange Accommodators.
Deadlines you cannot miss
These timelines are strict calendar days and are not extendable in normal situations.
- 45-day identification period: Within 45 days of closing on the sale of your relinquished property, you must identify your replacement property in writing and deliver it to your QI or another authorized party.
- 180-day exchange period: You must close on your replacement property within 180 days of the sale.
Identification must follow one of these rules:
- 3-property rule: Identify up to three potential replacements, any value.
- 200% rule: Identify any number of properties, as long as the total value does not exceed 200% of the property you sold.
- 95% exception: If you identify more than allowed, you can still qualify if you acquire at least 95% of the total value of what you identified.
How the tax deferral works
To fully defer taxes, you generally need to buy property of equal or greater value and reinvest all net proceeds.
- Boot: If you receive cash or other non-like-kind property, it is called boot. Boot is taxable to the extent of your gain. A reduction in debt from the old property to the new one can also create mortgage boot unless you replace the debt or add cash.
- Basis and depreciation: The basis of your new property typically carries over and adjusts for any boot or recognized gain. Depreciation recapture is deferred in a proper exchange and may be taxed later if you do not continue exchanging.
- Rates: When gain is recognized, it is subject to federal capital gains tax rates and may include the 3.8% Net Investment Income Tax, depending on your income.
For detailed federal rules, review the IRS Like-Kind Exchanges tax tips. For Arizona state treatment and filings, check the Arizona Department of Revenue.
Phoenix-specific planning tips
Local details matter when you choose replacement properties in Phoenix and surrounding Maricopa County communities.
- Zoning and short-term rentals: Confirm permitted uses before you identify a property. The City of Phoenix has specific processes for zoning, permitting, and short-term rentals. Start with Phoenix Planning & Development to understand what is allowed on a site.
- Title and escrow coordination: Line up your QI, title, and escrow team early so assignment language, recording, and timing are handled cleanly. Missteps here can derail an exchange.
- Market timing and liquidity: In tighter markets, it can be harder to find suitable replacements inside 45 days. In slower markets, you may have more choice. Plan for Phoenix seasonality when scheduling your sale and purchase.
- Local pros: Work with a QI who regularly handles Arizona transactions, a Phoenix-based CPA or tax attorney, and real estate professionals experienced with 1031 clients. Industry resources from the Arizona Association of REALTORS can be helpful when you assemble your team.
Step-by-step timeline
Use this checklist to stay on track from listing to close.
Before you list
- Define your exchange goals and property criteria (type, location, budget, cash flow targets).
- Talk with a QI and tax advisor to confirm strategy (delayed, reverse, or improvement exchange).
- Map your 45-day and 180-day windows on a calendar.
While marketing and under contract
- Engage a reputable QI and notify title and escrow of your exchange intent.
- Add exchange assignment language to your contracts.
- Begin scouting replacements that match your criteria and Phoenix zoning rules.
After you sell
- Within 45 days: Deliver your written identification to your QI using the 3-property, 200%, or 95% rule.
- By 180 days: Close on the replacement property and ensure your QI wires funds.
After you close
- Keep detailed records for your CPA, including closing statements and identification letters.
- Confirm carryover basis and plan future depreciation and exit strategy.
Illustrative example
Here is a simplified scenario to show how boot and timing work.
- You sell a Phoenix rental for 600,000 dollars. Your adjusted basis is 200,000 dollars, so your realized gain is 400,000 dollars.
- To fully defer tax, you buy at least 600,000 dollars of replacement property and reinvest all net proceeds.
- If you buy a 500,000 dollar property and take 100,000 dollars cash out, that 100,000 dollars is boot and is taxable up to your gain. Depreciation recapture remains deferred until recognized later.
This is a general illustration. Your numbers will vary, so talk with your tax advisor for guidance on your situation.
Common pitfalls to avoid
- Missing the 45-day or 180-day deadlines.
- Touching the proceeds or using an unqualified or conflicted intermediary.
- Misunderstanding identification rules and over-identifying properties.
- Reducing debt and creating mortgage boot by accident.
- Skipping due diligence on Phoenix zoning, STR rules, or HOA restrictions.
- Choosing partners who lack Arizona exchange experience.
Is a 1031 right for you?
Use this quick filter before you commit to an exchange.
- You plan to reinvest proceeds into equal or greater value property.
- You hold the property for investment or business use.
- You want to consolidate, diversify, or move into different Phoenix-area asset types.
- You can act within 45/180 days, given market conditions.
- Your long-term plan includes ongoing exchanges or estate planning.
Local guidance when it counts
A successful exchange in Phoenix comes down to early planning, tight execution, and the right team. If you want a local partner to help you pick properties that align with your goals, coordinate with your QI and escrow, and navigate neighborhood-level details, the boutique, high-touch approach from Kapanicas Group can help you move with confidence.
FAQs
What counts as like-kind property in Phoenix?
- For 1031 purposes, most U.S. real property held for investment or business is like-kind with other U.S. investment real property, including single-family rentals, multifamily, commercial, and land.
How do the 45-day and 180-day 1031 deadlines work?
- You have 45 days from the sale closing to identify replacement property in writing and 180 days from that sale to close on the replacement, using a qualified intermediary to hold proceeds.
Can I use a 1031 exchange for my primary residence?
- No, 1031 exchanges apply to property held for investment or business use; primary residences do not qualify under Section 1031 rules.
What is boot in a 1031 exchange?
- Boot is cash or other non-like-kind property received, or a reduction in debt not offset on the replacement, and it is taxable up to the amount of your realized gain.
Are there Arizona-specific 1031 tax rules I should know?
- Arizona generally follows federal treatment for like-kind exchanges, but you should verify current guidance and any filing requirements with the Arizona Department of Revenue.
Can I exchange into a Phoenix short-term rental property?
- Possibly, if the property is held for investment and local rules allow the use; always check the City of Phoenix’s Planning & Development requirements before identifying the property.
