1031 Exchanges & Alternatives for Syndication Investors

December 2025

1031 exchanges are one of the most well-known tax-deferral tools in real estate. When used correctly, they allow investors to defer capital gains taxes and continue compounding capital rather than paying taxes midstream. However, for passive investors in real estate syndications, 1031 exchanges come with important structural limitations that are often misunderstood.

This article explains what a 1031 exchange actually is, why most LP interests are not eligible, when 1031s can work in syndications, and the practical alternatives most passive investors rely on instead.

What a 1031 Exchange Actually Is

A 1031 exchange allows a real estate investor to sell a property, reinvest the proceeds into another like-kind real estate property, and defer taxes, including:

• Capital gains tax

• Depreciation recapture

• Most state-level capital gains taxes

Key IRS requirements include:

• Replacement property must be identified within 45 days

• The transaction must close within 180 days

• A Qualified Intermediary (QI) must be used

• All proceeds must be reinvested to fully defer tax

The economic goal of a 1031 exchange is simple: keep equity compounding rather than interrupting growth with a tax payment.

Why Most Syndication LP Interests Cannot Be Exchanged

This is the single biggest misconception for new LPs. A Limited Partner interest is not direct real estate ownership. It is a partnership interest, and the IRS explicitly excludes partnership interests from 1031 eligibility.

As a result:

• You cannot sell an LP interest and 1031 into another deal

• You cannot 1031 from one syndication to another as an LP

• You cannot 1031 out of a fund

This limitation applies regardless of deal quality or sponsor intent. Understanding this upfront prevents misplaced expectations at exit.

When 1031s Can Work in Syndications

While individual LP interests are generally not eligible, there are limited structures where 1031s may be possible.

Entity-Level 1031 Exchange

In some cases, the entire partnership executes a 1031 exchange.

The syndication sells the property and reinvests as a group, with investors rolling directly into the next asset.

This requires:

• Advance planning

• Alignment among investors

• A sponsor willing to manage the complexity

When offered, entity-level exchanges are often the cleanest 1031 option for LPs.

Tenants-in-Common (TIC) Ownership

A TIC structure allows investors to hold deeded fractional ownership of real estate. Because TIC owners hold real property interests, they may be eligible for 1031 treatment.

TICs are most commonly used when:

• Large investors (often $500k+ commitments) require 1031 eligibility

• A sponsor offers a dual LP + TIC structure

TICs add legal and administrative complexity and are typically appropriate only at larger investment sizes.

Delaware Statutory Trusts (DSTs)

A DST is a trust that owns real estate, with investors purchasing beneficial interests. IRS ruling 2004-86 treats DST interests as real property, making them fully 1031-eligible.

DSTs are often used by:

• Landlords selling rental property

• Retiring owners seeking passive income

• Investors facing tight 45-day identification deadlines

DSTs prioritize tax deferral and simplicity over control or upside.

Depreciation, Recapture, and 1031s

A 1031 exchange can defer:

• Capital gains taxes

• Depreciation recapture

However, deferral does not eliminate these obligations. They are carried forward into the replacement property and realized later unless additional planning is used.

For background on how depreciation and recapture work, see Depreciation, Cost Segregation & Depreciation Recapture.

What Happens When a 1031 Is Not Available

Because 1031s are often impractical for LPs, most passive investors rely on alternative strategies to manage taxes at exit.

(A) Reinvesting Into New Syndications

This is the most common approach.

New investments generate fresh depreciation, which can help offset future passive income and improve after-tax outcomes over time.

(B) Opportunity Zone (OZ) Funds

Opportunity Zone investments may:

• Defer capital gains until a future tax year

• Eliminate tax on OZ appreciation after a long hold

They involve higher complexity and concentration risk and are typically used selectively.

(C) Charitable Planning Vehicles

For large taxable gains, some investors use:

• Charitable Remainder Trusts (CRTs) – donate assets, defer tax, and receive lifetime income

• Donor-Advised Funds (DAFs) – donate assets, receive a deduction, and direct charitable grants over time

These strategies combine tax planning with philanthropic goals.

(D) Tax-Loss Harvesting

Capital losses from stocks or other capital assets can offset capital gains, including gains from real estate sales.

However, passive real estate losses cannot offset stock gains, which is an important distinction for portfolio planning.

Account structure also plays a role in how gains are managed after an exit.
(See Should You Use a Retirement Account to Invest in Real Estate Syndications?.)

Why Exit Planning Starts at Entry

Exit options are shaped long before a property is sold.

Investors should understand:

• Whether a deal contemplates a 1031-friendly exit

• How long capital is likely to remain invested

• What degree of flexibility exists at exit

A structured set of questions for evaluating exit flexibility is included in the Investor Due Diligence Checklist.

Clear expectations upfront reduce friction later.

What LPs Should Actually Do

In practice, most experienced LPs follow a few clear principles:

• Accept entity-level 1031s when they are offered and align with goals

• Consider TIC structures only when deal size justifies complexity

• Use DSTs as passive 1031 replacements when timing matters

• Rely on reinvestment and fresh depreciation when 1031s are unavailable

• Think about taxes at the portfolio level, not deal by deal

Long-term tax efficiency is usually built through planning and repetition, not a single transaction.

Final Perspective

For most passive investors, long-term tax efficiency comes less from executing 1031 exchanges and more from depreciation, reinvestment, passive losses, and disciplined portfolio planning over time.

Note: This material is for educational purposes only and is not intended as tax, legal, or investment advice. Tax outcomes can vary significantly based on individual circumstances. Investors should consult with a qualified CPA or tax professional regarding their specific situation.

Continue Learning

This article is part of a broader learning series on passive real estate investing.

→ Start from the beginning here: Passive Real Estate Investing Learning Guide

→ Next recommended read: Tax Strategies for Long-Term LPs