A rental house in Porterville can be traded for a walnut orchard outside Strathmore, and a commercial lot can be traded for a fourplex. That surprises many owners, who assume “like-kind” means a house for a house. Under federal tax rules, like-kind property in a 1031 exchange is a much broader idea than the name suggests, and that breadth is what makes exchanges useful in a mixed farm-and-town market like Tulare County.
The breadth has hard edges, though. Some property never qualifies, and some of what changes hands in a farm sale is not real property at all. Here is how the lines are drawn, with the reminder that every exchange should be reviewed by your tax advisor and qualified intermediary before you sign.
Myth: Like-kind means the same type of property
Like-kind refers to the nature of the property, not its use or grade. The IRS explains in its fact sheet on like-kind exchanges that real estate is generally like-kind to other real estate, and that a residential rental house is like-kind to vacant land. Quality and grade do not matter.
The IRS instructions for Form 8824 say the same thing in other words: real properties are generally like-kind whether they are improved or unimproved. In practice, that opens up trades such as:
- A rental house in Porterville for a small office building in Visalia
- Row-crop farmland near Tipton for a duplex in town
- A vacant parcel for an industrial building
- A citrus grove near Lindsay for several single-family rentals
What matters is that both the property you sell and the property you buy are real property held for business or investment.
Myth: Anything used in a business can be exchanged
Since 2018, Section 1031 applies only to real property. The Form 8824 instructions state that for 2018 and later years, like-kind exchange treatment applies only to exchanges of real property held for use in a trade or business or for investment, and not primarily for sale.
That matters a great deal on farm and ranch sales around Porterville. A farm sale often includes far more than land. Tractors, sprayers, bins, vehicles and livestock are personal property, and they no longer qualify for 1031 treatment. If they are sold along with the land, their share of the price is generally taxable in the year of sale, even if the land itself goes into an exchange. Sorting out what is real property and what is equipment, and how the price is split between them, is a job for your tax advisor before the purchase contract is written.
What the IRS treats as real property
The regulations define real property for 1031 purposes as land and improvements to land, unsevered natural products of the land, and water and air space above the land. According to the Form 8824 instructions, property also counts as real property if it is classified as real property under the law of the state or local jurisdiction where it sits, and a structure that is permanently affixed and expected to stay that way is generally treated as an inherently permanent structure.
For local owners, a few common cases illustrate the idea:
| Property or component | Generally treated as | Why it matters in an exchange |
|---|---|---|
| Farmland, orchards with the trees still in the ground | Real property | Unsevered natural products of the land stay with the land |
| Houses, barns, shops and permanently affixed buildings | Real property | Inherently permanent structures |
| Tractors, trucks, sprayers and loose equipment | Personal property | Not eligible since 2018 |
| Harvested crops in storage | Personal property | Severed from the land |
| Vacant land and lots | Real property | Like-kind to improved property |
Edge cases, such as specialized irrigation components or leases, depend on the facts and the regulations, so get a professional opinion on anything that is not obviously land or a building.
Property that never qualifies, however it is titled
Some real estate fails the test because of how it is used, not what it is. The IRS fact sheet lists property used mainly for personal purposes, such as a primary residence, a second home or a vacation home, as ineligible. A cabin up the hill in Springville that the family uses most summers is not investment property just because it has appreciated.
Property held primarily for sale is also excluded. The Form 8824 instructions say Section 1031 does not apply to property held primarily for sale, which generally covers homes bought to fix and resell quickly, and lots held as inventory by a developer.
Location is the other hard line. The IRS says real property in the United States is not like-kind to real property outside the United States. An investor in Porterville can exchange into property in Texas or Idaho, but not into a rental abroad.
The California layer: leaving the state
California adds its own reporting rule when an exchange moves out of state. According to the Franchise Tax Board’s instructions for form FTB 3840, taxpayers who exchange real property located in California for like-kind property outside California must file an annual information return, form FTB 3840, regardless of where they live.
The practical effect is that a Tulare County farm exchanged into an apartment building in another state does not escape California’s interest in the deferred gain. The filing continues year after year until the deferred California gain is recognized. If you are considering an out-of-state replacement, ask your tax advisor how that reporting would work for you before you identify the property.
Cash and debt relief are not like-kind either
Money and debt relief that come out of an exchange are not like-kind property, even when every parcel involved is. The IRS fact sheet explains that receiving cash, relief from debt or other property that is not like-kind can trigger taxable gain in the year of the exchange, though only to the extent of those non-like-kind proceeds. It also warns that taking control of cash before the exchange is complete may disqualify the entire transaction.
For a Porterville seller, this shows up in ordinary ways. Trading a paid-off orchard for a smaller rental and keeping the difference in cash leaves part of the gain exposed. Paying off a large loan on the old property and taking on a smaller one on the new property can do the same. The like-kind test answers which properties may be swapped; how the money and loans line up decides how much gain stays deferred.
Related parties and the two-year rule
Exchanges with family members or related entities are allowed, but they come with a holding requirement. The Form 8824 instructions explain that if you or the related party disposes of the property received in the exchange within two years after the last transfer, the deferred gain generally has to be reported in the year of that disposition, with limited exceptions such as the death of either party or an involuntary conversion.
This comes up often in family-held agricultural land, where a sibling may want to swap parcels or a family company may hold part of the ground. A related-party exchange can work, but it needs careful planning, and it is not something to improvise during the 45-day identification window.
How to Test a Property Before You Identify It
The fastest way to avoid a failed exchange is to run each candidate property through three questions before it goes on your identification list. Is it real property, and if the deal includes equipment, crops or other items, how much of the price is allocated to them? Will you hold it for investment or business use rather than for personal use or a quick resale? And is it in the United States, with California’s FTB 3840 reporting understood if it is outside the state? A yes to all three means the property is worth a closer look by your advisor and intermediary.
Finding replacements that pass those questions, on a calendar that fits the exchange, is where our 1031 exchange support and investment property search come in, and Porterville Real Estate Pros can start that search before your sale closes.