1031 exchanges are a beneficial investment tool that creates passive income opportunities and generational income. However, can fractional ownership occur in a 1031 exchange? Let’s find out.

What Is a 1031 Exchange?

A 1031 exchange involves the deferment of capital gains tax when exchanging properties of equal or greater value that typically occurs from real estate sales. The deferred capital gains tax proceeds go toward the replacement property to accomplish diversification, greater leverage, improved cash flow, property consolidation, and more.

1031 exchanges offer many benefits, most notably deferring capital gains taxes. However, they also allow investors exposure to new markets and diversify their portfolios. These exchanges also enable investors to trade up for higher-value properties and, upon their passing, provide estate planning for their heirs to produce generational wealth.

Understanding Fractional Ownership

The discussion of fractional ownership consists of being a standard investment structure for expensive assets, such as sports cars, vacation properties, and aircraft. One difference between timeshare ownership and fractional ownership is that timeshare ownership involves an investor owning title parts rather than increments of time.

Adversely, fractional ownership occurs if an asset increases in value, thus resulting in investment share value increasing simultaneously. It’s considered a collaborative consumption, where overall property costs get split among owners or users of the group. Each party that takes fractional ownership can also use their investment and earn revenue when rented out. In real estate, fractional ownership becomes arranged through property management companies that oversee standard vacation home upkeep and maintenance.

Can 1031 Exchanges Involve Fractional Ownerships?

So, can fractional ownership occur in a 1031 exchange? Simply put, it can happen under certain conditions. Fractional purchases must remain in a piece of property, not a business. As such, when selling a property and perusing a 1031 exchange, investors must legally purchase ownership shares in a tenancy in common (TIC) or a Delaware Statutory Trust (DST). As such, while 1031 exchanges cannot become a joint venture, they can otherwise go into fractional ownership.

Furthermore, one of the most important considerations in 1031 exchanges is, in part, the requirement for investors to purchase a property that’s an equal or greater value than the selling property. This ensures the IRS that investors won’t sell a high-selling property, purchase shares in lower-value properties, and escape taxation of the remaining balance.

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