Taxation of a Like-Kind Exchange
The like-kind exchange is described in greater detail in Chapter 3.
Also called a 1031 exchange, the like-kind exchange is a way to simultaneously sell and buy real property without incurring a capital gains tax on the sale. To qualify for the tax deferral, the purchased (replacement) property must be of equal or greater value than the sold (relinquished) property.
The difference in value between the exchanged properties is called the boot. More specifically, the boot is the difference between the tax basis of the replacement property and the tax basis of the relinquished property. The tax basis of a relinquished property is its adjusted cost basis. The tax basis of a replacement property is its purchase price less the realized gain from the sale of the relinquished property.
When the basis of the replacement property is less than the basis of the relinquished property, the boot received is called the cash boot. Cash boot is considered net cash received, and it is fully taxable.
Example: An investor owns a property he purchased for $300,000, which has depreciated over the years by $200,000. Wishing to sell, he opts for a like-kind exchange. He buys a replacement