Why More Boomer Investors Are Turning to 1031 Exchanges in Retirement

Written by: Julie Baird, President, First American Exchange Company

Baby boomers, who are generally defined as individuals born from 1946 to 1964, continue to be one of the leading demographic groups that are investing in the real estate market. Whether buying or selling properties, boomers are also one of the largest groups looking to navigate smarter financial planning strategies. Options often considered include simplifying their holdings, consolidating their investments, transitioning to more liquid investments, transitioning to property that is less management intensive, or even exiting their real estate holdings. One popular tool at their disposal for wealth preservation or retirement is the 1031 exchange.

An Internal Revenue Code (IRC) 1031 exchange allows investors to defer capital gains taxes when selling an investment property by reinvesting the proceeds into a like-kind replacement property. Investors should always consult their tax professional and legal counsel when evaluating their options, but for boomers that may have built substantial equity over decades, this type of tax-deferral strategy can be a powerful way they can transition into retirement, preserve their wealth, and simplify their property management.

FROM ACTIVE TO PASSIVE OWNERSHIP

Many boomers are reevaluating their role as active landlords and potentially looking to exit that type of position. After years of managing tenants and property upkeep — whether in single-family homes or commercial real estate — many boomers want something more passive and are looking for ways that they can generate income with less day-to-day responsibility.

Performing a 1031 exchange is one of the ways they can make that happen, as it allows boomers to sell properties that are management intensive and reinvest the money in other more passive real estate opportunities, such as Delaware Statutory Trusts (DSTs). A DST is a powerful tool for boomers because it offers fractional ownership in larger, professionally managed properties like multifamily housing, industrial assets, or retail centers.

Another rising trend among boomer investors is using a 1031 exchange to strategically support younger generations. For example, some are purchasing rental properties where their adult children are relocating for work, renting to them at fair market value while retaining the property as an income-generating asset. Others are buying duplexes or small multifamily homes — living in one unit or planning to in the future, while having their children manage an Airbnb or long-term rental in the other. This approach can help their children build stability while allowing allow boomers to retain tax advantages and long-term value.

CONSOLIDATING, DIVERSIFYING AND DEFERRING

Retirement often prompts boomers to take a closer look at their investment portfolios, so analyzing an investment real estate portfolio is key. Boomers can take advantage of a 1031 exchange to consolidate multiple properties into a single asset that is perhaps more valuable and easier to manage. Boomers can also diversify their holdings across different asset classes and geographic regions, which can help to reduce exposure to any one market and can optimize returns and long-term appreciation.

Many boomers also find that they are asset rich, but cash poor. This is especially true for those who have held properties for decades, and they have significantly appreciated in value. Selling these properties outright might result in substantial capital gains taxes.

If they are not prepared to pay taxes on those gains, by using a 1031 exchange, boomers can defer those taxes and invest in higher-yielding or better-located properties that may:

  • Be closer to family or healthcare resources

  • Generate more income in retirement

  • Have more growth potential or yield a higher annual ROI, and/or

  • Have lower management burdens.

Boomers are also thinking ahead to where they might want to retire and a common strategy involves exchanging into a single-family rental in a resort or retirement destination — such as a beach or mountain town — with the intention of eventually converting it into a primary residence. To remain in compliance, the property must be treated as an investment first. Typically, this means renting it out for at least two years at market rates. During this time, many boomer investors may use property managers or short-term rental platforms to generate income, while laying the groundwork for a future lifestyle shift.

CONSIDERING THE SALE OF A PRIMARY RESIDENCE

1031 exchanges apply only to investment properties. However, boomers looking to relocate or downsize, while also preserving their wealth, can still benefit from the exchanges if they understand how their primary residence fits into a broader tax strategy.

For example, for married couples who are filing their taxes jointly, they can exclude up to $500,000 in capital gains on property treated as a primary residence for any two of the preceding five years. If their home has appreciated more than that amount over their decades of ownership, converting that primary residence into a rental property could also make sense prior to selling. One thing to remember here, is that the residence must function as a rental property for at least two years prior to selling in order to claim the home as an investment and quality for a 1031 exchange. The couple may be able to take up to the $500,000 primary residence exclusion, and the remaining taxable gains can be rolled into an investment property through a 1031 exchange. This would allow the couple to not only relocate, but also reinvest the remaining gains that they have earned on that former primary residence.

In today’s market, baby boomers have more options than ever to reimagine their real estate portfolios to better align them with their retirement goals. By using tools and strategies like a 1031 exchange in consultation with a tax professional and legal counsel, they can preserve wealth, reduce landlord and management responsibilities, and create a more flexible, income-generating future that supports their new needs and desired lifestyle.

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