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Partnership 1031 Exchange for Investors
A Partnership 1031 Exchange can be one of the most powerful tax-deferral strategies available to real estate investors — but it is also one of the easiest to execute incorrectly.
Unlike a standard 1031 exchange where a single investor sells one property and buys another, partnership-owned real estate introduces IRS entity-level complications, ownership-interest limitations, and timing requirements that demand careful planning well before the sale occurs.
At Triple Net Companies, we regularly advise investors on the strategic considerations and structural risks that arise when a partnership, LLC, or multi-member ownership group attempts to complete a 1031 exchange.
The Most Important IRS Rule: “Same Taxpayer Must Sell and Buy”
The core requirement behind all 1031 exchanges is simple but strict: the taxpayer who sells the relinquished property must be the same taxpayer who acquires the replacement property. This is commonly referred to as the Same Taxpayer Rule.
Many investors assume they can simply “exchange out” of a partnership and reinvest individually. However, the IRS does not treat partners as owning direct interests in the real estate itself. Instead, the partnership owns the real estate and partners own a partnership interest.
Under IRC 1031(a)(2)(D), partnership interests are excluded from 1031 exchange treatment. In practical terms, you cannot exchange a partnership interest for real estate and qualify for 1031 deferral.
Core IRS Requirements for a Valid Partnership 1031 Exchange
Even with partnership complexity, the exchange must still meet all standard IRS exchange requirements:
- Like-Kind Property Requirement — the relinquished and replacement property must both be qualifying real estate.
- Qualified Use Requirement — the replacement property must be acquired for investment or business use.
- Qualified Intermediary Requirement — the partnership cannot receive proceeds directly (no constructive receipt).
- 45-Day Identification Deadline — replacement property must be identified in writing within 45 days.
- 180-Day Exchange Completion Deadline — replacement property must be acquired within 180 days.
- Same Taxpayer Requirement — title vesting must remain consistent with the selling taxpayer.
Common Partnership 1031 Exchange Structures (and Their Risks)
Option 1: The Partnership Completes the 1031 Exchange as a Partnership
This is typically the cleanest structure from an IRS standpoint because it preserves the same taxpayer. However, it requires partners to remain together and agree on a single replacement acquisition.
Option 2: “Drop and Swap” (Common, but Highly Sensitive)
A drop-and-swap occurs when the partnership distributes fractional interests to partners prior to the sale, allowing each partner to sell and exchange individually. This can work, but timing is critical. If done too close to closing, the IRS may argue the partners did not hold the relinquished property for investment purposes.
Option 3: “Swap and Drop” (Also Risky)
A swap-and-drop occurs when the partnership completes the exchange first, then later distributes fractional ownership in the replacement property to partners. The IRS may challenge this if it appears the partnership never intended to hold the replacement property.
Multiple Investors Completing Separate 1031 Exchanges Into the Same Property
Multiple investors can complete separate 1031 exchanges into a single replacement property, but the structure must be correct. Most multi-investor acquisitions are structured as Tenancy-in-Common (TIC) ownership rather than through a partnership entity.
Common Problems With Multi-Investor Replacement Purchases
- Timing coordination risk — one investor delay can collapse the closing.
- Financing complications — lenders may restrict or complicate TIC borrowing.
- Co-owner disputes — disagreements over reserves, refinancing, or sale timing.
- IRS reclassification risk — if operated like a partnership, the TIC could be challenged.
Tenancy-in-Common (TIC): The Most Common Structure
Under TIC ownership, each investor acquires a direct fractional interest in real estate. This helps preserve the requirement that each exchanger is acquiring real property rather than a partnership interest.
Summary Checklist: Partnership 1031 Exchange Risk Review
- Will the partnership exchange as one entity, or will partners separate?
- Is a restructuring strategy required (drop-and-swap or swap-and-drop)?
- Are debt replacement and boot exposure fully understood?
- Will the replacement property vest in the same taxpayer name?
- Are partners aligned on timeline and replacement acquisition goals?
- Has a Qualified Intermediary been engaged early?
- Has tax counsel reviewed the plan before the sale?
Start Your NNN 1031 Strategy with Confidence
Partnership 1031 exchanges can be extremely effective, but they are among the most audit-sensitive exchange structures. Investors should never assume partnership ownership can be separated at closing without tax consequences.
Questions about NNN Properties for Sale?
Partnering with Triple Net Companies means working with a team experienced in advanced 1031 exchange strategies and commercial real estate execution.
Contact us today to discuss whether a 1031 Exchange New Construction strategy aligns with your investment goals.