Improvement and Build to Suit Exchange Rules

An improvement exchange, sometimes called a build to suit exchange, allows an investor to use exchange funds to construct improvements on a replacement property before taking title to it. This structure is useful when the ideal replacement property needs renovation, expansion, or new construction to match the value of the relinquished property, or when the investor wants to use exchange equity to fund improvements rather than paying for them separately after closing.

Like a reverse exchange, an improvement exchange relies on the exchange accommodation titleholder safe harbor described in Revenue Procedure 2000-37, because Section 1031 does not directly address using exchange funds for construction. The exchange accommodation titleholder takes and holds title to the replacement property while improvements are made, using the investor's exchange funds held by the qualified intermediary to pay contractors and cover construction costs.

The same forty five day and one hundred eighty day deadlines apply. The investor must identify the replacement property, including the planned improvements, within forty five days, and the exchange accommodation titleholder must transfer title to the investor within one hundred eighty days, regardless of whether construction is fully complete. Any improvements that are not finished and paid for by the time title transfers are treated as improvements made after the exchange and do not count toward the exchange value.

Because of this deadline, investors typically front load construction, focus on improvements that can be substantially completed within the window, and plan any remaining work as a separate, non exchange funded project after taking title. Coordinating contractors, the exchange accommodation titleholder, and the qualified intermediary on a compressed schedule is the most common challenge in this structure.