Real estate tax

Related-party rules

You can do a 1031 exchange with a family member or your own entity, but a special set of rules watches for one thing: using the related party to shift basis and cash out tax-free. Break the two-year holding rule or trip the anti-abuse catch-all, and the exchange is disallowed.

Exchanging with a related party, a family member, or an entity you control, is allowed, but it comes with its own rulebook designed to stop one specific abuse. Congress added Section 1031(f) in 1989 after taxpayers figured out how to use related-party exchanges to shift tax basis around and effectively cash out low-basis property tax-free. The rules are narrow, the penalties for tripping them are total (the whole exchange is disallowed), and they catch well-meaning investors who did not realize a family member or their own LLC counted as related.

The definition is broader than most people assume. Related parties include your lineal family, parents, children, grandparents, grandchildren, siblings, and, importantly, entities in which you own a controlling interest, generally more than 50%. So your own LLC, partnership, or corporation can be a related party, and so can certain trusts. Spouses are related. Notably, the list does not include in-laws, aunts, uncles, cousins, or ex-spouses, so some family exchanges fall outside the rules entirely.

The related-party status is disclosed on Form 8824, the exchange reporting form, which asks directly about related-party transactions. So the IRS knows when one has occurred, and these exchanges are flagged for exactly the scrutiny the rules invite.

A related party includes lineal family, your spouse, and any entity you control over 50%, so your own LLC counts, but in-laws, cousins, aunts, and uncles generally do not.

The two-year holding rule

The core rule governs the direct swap: you and a related party trade properties with each other. That is allowed and can defer gain for both, but only if both parties hold the property they received for at least two years after the exchange. If either party sells within two years, the exchange is retroactively disallowed and the deferred gain becomes taxable.

The two-year rule exists to prevent basis shifting. The abuse it targets: a taxpayer with low-basis property swaps it for a related party’s high-basis property, defers their own gain through the 1031, and then the related party, sitting on high basis, sells to a third party with little or no taxable gain. The family unit has effectively cashed out the low-basis property at a fraction of the tax. Requiring both parties to hold for two years removes the quick cash-out that makes the maneuver work.

A direct swap with a related party defers gain only if both parties hold their received property for two years; an early sale by either side disallows the exchange.

Here is the mistake that catches people in an ordinary delayed exchange. You sell your property to an unrelated buyer, and your qualified intermediary uses the proceeds to buy your replacement, but the replacement happens to be owned by a related party who is cashing out. This is usually disallowed.

The reason is the anti-avoidance catch-all, Section 1031(f)(4), which says the related-party rules apply to any transaction structured to avoid their purpose. Routing the purchase through an independent QI does not launder it: if you end up acquiring replacement property from a related party who takes cash and walks away, the IRS treats it as the basis-shifting cash-out the rules forbid, and disallows your exchange. The exception is if that related-party seller is also completing their own 1031 exchange, so nobody in the family actually cashes out. Buying replacement property from a related party who is simply selling for cash is the classic disqualifying move.

Buying your replacement property from a related party who cashes out is disallowed even through an independent intermediary, unless that related party is also doing a 1031 exchange.

The bottom line

  • Section 1031(f) governs exchanges with related parties to prevent basis shifting and tax-free cash-outs.
  • Related parties include lineal family, your spouse, and entities you control over 50%, but not in-laws or cousins.
  • A direct swap with a related party requires both sides to hold for two years, or the exchange is disallowed.
  • Buying replacement property from a related party who cashes out is disallowed, even through a QI.
  • The exception is when the related party is also completing their own 1031 exchange.

For the reporting form that discloses these, read beginner’s guide to 1031 exchanges. For the identification limits, see identification rules. For the full picture, start at the 1031 exchanges and exit planning hub.

Last verified August 2026.

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