Understanding Boot in a 1031 Exchange

Boot is the portion of an exchange that does not qualify for tax deferral. When an investor receives anything of value in an exchange that is not like kind real property, that value is treated as boot and becomes taxable up to the amount of gain realized on the transaction. Understanding boot is central to structuring an exchange that defers as much gain as possible.

The most common form is cash boot, which occurs when the investor takes cash out of the exchange, either directly or by buying a replacement property worth less than the relinquished property and keeping the difference. Any leftover exchange funds returned to the investor at the end of the exchange also count as cash boot.

The second common form is mortgage boot, sometimes called debt relief boot. This occurs when the debt paid off on the relinquished property is greater than the debt placed on the replacement property, and the investor does not offset that reduction with additional cash invested in the replacement purchase. In simple terms, if an investor pays off a larger mortgage than the one taken on the new property, the difference can be treated as boot unless new cash covers the gap.

A third, less common form is other property boot, which happens when non like kind property, such as furniture, equipment, or other personal property included in the deal, is received alongside the real property. To avoid boot entirely, the general guidance is to purchase replacement property equal to or greater in value than the relinquished property, reinvest all net equity from the sale, and match or exceed the debt paid off on the relinquished property.