A 1031 exchange does not work with REITs the way it works with rental property

The short answer is no — not in the way most people think. A 1031 exchange lets you sell real property and reinvest the proceeds in other real property without paying capital gains tax on the sale. But a REIT is not real property for 1031 purposes. It is a security — a share of a company that owns real property. The IRS treats them differently, and that difference matters.

You can sell rental property and use a 1031 exchange to buy shares in a REIT, but you cannot defer the capital gains tax on your original sale. The exchange rules do not recognize the REIT purchase as a like-kind replacement. You will owe tax on any profit from selling the property, even though you reinvested the money into real estate-related assets.

The confusion is understandable. A REIT holds real estate. But the IRS sees a REIT as a financial investment, not real property itself. That distinction is what blocks the tax deferral.

Key Takeaways

  • A 1031 exchange requires you to buy real property — land, buildings, or mineral rights — not securities like REIT shares.
  • Selling rental property and buying REIT shares does trigger capital gains tax on your profit from the sale, even though REITs own real estate.
  • If you want to defer taxes on a property sale, you must reinvest in direct real property ownership or a Delaware Statutory Trust (DST) that holds real property.
  • A DST is sometimes called a 1031 exchange alternative and can hold commercial real estate, but it requires a may have access to intermediary and follows strict timing rules.

Why the IRS does not treat REITs as like-kind property

The 1031 exchange rule is built on the idea that you are swapping one piece of real property for another. The IRS code says the property must be real property held for investment or business use. A REIT share is a piece of paper (or a digital entry) that represents a fractional ownership stake in a company. The company owns the real estate, but you do not own the real estate directly.

This matters because 1031 exchanges are meant to let you keep your capital working in real estate without a tax hit. If the IRS allowed REIT purchases to may have access to, it would be allowing you to move money into a liquid, tradeable security and still get the tax deferral. That is not the intent of the rule. REITs are designed to be liquid and straightforward to sell — the opposite of direct property ownership.

The IRS has been clear on this point for decades. REIT shares do not may have access to as like-kind property under Section 1031, even though the underlying assets are real estate.

What property types do may have access to for a 1031 exchange

To defer taxes on a property sale, you must reinvest in real property. That includes rental houses, apartment buildings, commercial office space, warehouses, raw land, and mineral rights. You can also exchange into a Delaware Statutory Trust (DST), which is a legal structure that holds real property on your behalf.

The key requirement is that you must own the property directly or through a DST. You cannot own it through a corporation, partnership, or fund that trades on an exchange. The property must also be held for investment or business use — your primary residence does not may have access to.

A DST is sometimes marketed as a 1031 exchange alternative because it lets you invest in professionally managed real estate without buying property outright. You buy a fractional interest in the DST, and the DST owns the underlying property. The IRS recognizes this as real property ownership for 1031 purposes, so the tax deferral applies.

The timing and intermediary rules still explore if you use a DST

If you decide to use a DST instead of buying property directly, you must still follow the strict 1031 exchange timeline. You have 45 days from the sale of your original property to identify the DST you want to buy into. You have 180 days from the sale to close on the DST purchase. Miss either important date and the entire tax deferral is lost.

You must also use a may have access to intermediary — a third party who holds the sale proceeds and handles the reinvestment. You cannot touch the money yourself, even briefly. The intermediary ensures the transaction meets IRS rules.

DSTs are less liquid than REITs. Once you buy in, you are typically locked in for a set holding period, often seven to ten years. You cannot sell your interest on the open market the way you can with a REIT share. That illiquidity is actually what makes the IRS comfortable treating it as real property.

What happens if you sell property and buy a REIT without a 1031 exchange

If you sell rental property at a profit and straightforward buy REIT shares with the proceeds, you will owe capital gains tax on the profit from the sale. The tax is due in the year you sell the property, regardless of what you do with the money afterward.

The tax rate depends on how long you owned the property. If you owned it for more than one year, you pay long-term capital gains tax, which is usually lower than your ordinary income tax rate. The exact rate varies by your total income and filing status.

This is not necessarily a bad outcome. REITs offer diversification, professional management, and liquidity that direct property ownership does not. You just cannot use the 1031 exchange mechanism to defer the tax. You pay the tax and move on.

When a REIT might make sense even with the tax bill

Some investors sell property and buy REITs anyway, even though they have to pay capital gains tax. This makes sense if you want to move away from the work of managing property, if you want to diversify across multiple properties or geographies, or if you want to be able to sell quickly if your situation changes.

REITs also distribute income to shareholders, usually quarterly. That income is taxable, but it can be higher than the rental income you would earn from a single property. Some REITs focus on specific sectors — residential, commercial, industrial, healthcare — so you can target the type of real estate exposure you want.

The trade-off is that you lose the tax deferral and you lose direct control. You cannot decide when to sell, what repairs to make, or how to manage the property. You are betting on the REIT manager's decisions and the market price of the shares.

Frequently Asked Questions

Can I do a 1031 exchange into a REIT if I use a DST as an intermediary step?

No. A DST itself qualifies for 1031 treatment, but a REIT does not. You cannot use a DST to buy REIT shares and claim the exchange is valid. The final investment must be real property or a DST that holds real property.

What if I own REIT shares and want to sell them — can I use 1031 to buy property?

No. A 1031 exchange requires that you sell real property, not securities. If you sell REIT shares, you owe capital gains tax on the profit. You can use the after-tax proceeds to buy property, but that is not a 1031 exchange.

Do I have to use a may have access to intermediary if I buy a DST instead of property?

Yes. A may have access to intermediary is required for any 1031 exchange, whether you are buying direct property or a DST. The intermediary holds the sale proceeds and ensures the reinvestment happens within the 45-day and 180-day windows.

Are there any states where REIT purchases may have access to for 1031 treatment?

No. The 1031 exchange rule is federal tax law. State law does not change it. A REIT purchase does not may have access to for tax deferral anywhere in the United States.