The "Year-and-a-Day" Rule: Great advice, but it's not The Law

Recently we encountered a great deal of confusion concerning 1031 Exchanges and the so-called "year-and-a-day" rule. You've probably heard that you should hold both your Old and New Properties for at least a year-and-a-day prior to and after completing a 1031 Exchange -- and this remains sound advice.

However (and this is a HUGE "however") THE "YEAR-AND-A-DAY RULE IS NOT THE LAW. Nowhere in Section 1031, the regulations, tax court decisions, or any other authority will you find any mention of a "year-and-a-day" rule. The "year-and-a-day" rule is only a guideline divined from a few Tax Court decisions, a non-binding IRS ruling stating that holding property for at least two years in a particular instance was fine, and common sense considerations - for instance, long-term capital gains kick-in after holding property for a year.

Here is a short summary of the law. Section 1031 says that you cannot perform an Exchange with Property held "primarily for sale." Several Tax Court decisions interpreting this language have made the determination that if, at the time of closing the purchase of either your Old or New Property, you do not have a then-present intent to resell such Property, your exchange is valid. So in theory, if the next day you legitimately change your mind, your exchange should still stand (though the IRS would justifiably be skeptical!)

We have typically found that if you hold property for over a year, the IRS is less likely to question the your motivation in entering into the Exchange. However, if the Property has been held for less than a year, the IRS may want to know why you held it for such a short period. You may have to prove to the IRS some kind of change of circumstances -- job relocation, family illness or death, an unsolicited offer to purchase the Property (and you never listed it for sale), or other reasons why you changed your mind.

The "year-and-a-day" rule is still very sound advice. However, don't let anyone tell you that your exchange is invalid just because you've held your Property for less than a year - without analyzing the details of your situation. The fact that you held your Property for less than a year is not automatic evidence that your Exchange will fail -- it is merely one piece of your larger financial picture.