When someone sells a business, exits a real estate position, or rebalances a concentrated portfolio, the conversation often turns to how to manage potential capital gains taxes.
When someone sells a business, exits a real estate position, or rebalances a concentrated portfolio, the conversation often turns to how to manage potential capital gains taxes.1 For advisors, that moment represents both a challenge and a planning opportunity. Within private market investments, a growing set of structures and programs may allow investors to defer, reduce, or in some cases potentially eliminate certain capital gains taxes, keeping more capital invested, subject to applicable tax rules and individual circumstances. As with any tax-related strategy, advisors should consult qualified tax and legal professionals.
These programs typically seek to package the reinvestment of proceeds into frameworks that may offer more favorable after-tax outcomes. They sit alongside strategies such as private real estate, private equity, and private debt, and for advisors focused on capital gains deferral strategies and tax-efficiency, understanding how they work may inform decisions. Tax-aware approaches also exist in hedge funds and liquid alternatives, strategies that manage tax drag within portfolio construction rather than defer gains through the tax code. This piece focuses on real estate-linked deferral structures.
What Are Tax-Advantaged Strategies?
These strategies use provisions of the Internal Revenue Code (IRC) to change when—or whether—capital gains taxes come due. Five common tax-deferred investment structures advisors may encounter today are:
1031 Exchanges: Like-kind real estate swaps that defer capital gains under IRC Section 1031
Qualified Opportunity Zones (QOZs): Investments in designated low-income communities that may defer, reduce, or exclude capital gains
Delaware Statutory Trusts (DSTs): Trust-based real estate ownership used as replacement property in a 1031 exchange
Tenant-in-Common (TIC) Arrangements: Fractional deeded real estate interests that also qualify within the 1031 framework
721 Exchanges or Umbrella Partnership Real Estate Investment Trusts (UPREITs): Direct property contributions to a real estate investment trust (REIT)— operating partnership (OP) in exchange for OP units
Each of these structures operates under a different section of the tax code, applies to different asset types, and carries its own requirements. But they share a common aim: supporting capital preservation for reinvestment. Because the reinvestment rules, tax benefits, investor control, and liquidity profiles vary widely, the sections below summarize how each strategy works.
How 1031 Exchanges Work as a Tax-Advantaged Strategy
The 1031 exchange is one of the most widely recognized tax-advantaged tools in real estate—and one of the most widely used with an estimated $13.2 billion in annual tax deferrals flowing through these transactions.2 It allows a property owner to defer capital gains tax (subject to strict timelines and qualification requirements) by reinvesting proceeds from the sale of an investment or business property into a like-kind replacement property. Personal residences do not qualify.
The mechanics involve strict timelines. Once the relinquished property closes, the clock starts: 45 days to identify replacement properties and 180 days (or the annual tax deadline, whichever is earlier) to complete the purchase. A qualified intermediary—typically an attorney, accountant, or national title company—holds the sale proceeds during the window to prevent constructive receipt, which would trigger the very tax liability the exchange is designed to defer.
Replacement properties must be held for investment purposes, though they do not need to be the same property type. An apartment building can be exchanged for an office building or a retail center, offering flexibility in how the next phase of ownership takes shape.
How QOZs and Qualified Opportunity Funds (QOFs) Work as Tax-Advantaged Strategies
The QOZ program, established by the Tax Cuts and Jobs Act of 2017, takes a different approach.3 Rather than exchanging one property for another, it channels capital gains into designated low-income communities, ones selected by state governors and certified by the US Treasury across thousands of census tracts nationwide.
Investors access QOZs through QOFs, investment vehicles that must hold at least 90% of their assets in a QOZ property.4 Eligible investments span commercial real estate, multifamily residential buildings, manufacturing facilities, and infrastructure projects within designated zones.
The tax incentive structure has three tiers:
Investors may defer capital gains tax on prior gains by reinvesting gains into a QOF within 180 days of the sale.
Holding the QOF investment for at least five years may result in a 10% reduction of the deferred tax.
And holding the QOF investment for at least 10 years may allow any new gains from the QOF investment to be excluded from capital gains tax entirely, subject to holding periods and current tax code.
Unlike a 1031 exchange, only the capital gain portion needs to go into a QOF, and eligible gains may also extend beyond real estate to include stocks, bonds, and other appreciated assets.
How Tenant-in-Common Arrangements and Delaware Statutory Trusts Work as Tax-Advantaged Strategies
For advisors whose clients are property owners looking to move from active management to a more passive role, tenant-in-common (TIC) arrangements and Delaware Statutory Trusts (DSTs) can offer two paths, both of which may serve as replacement properties in a 1031 exchange.
A TIC arrangement divides a commercial property into fractional deeded interests sold up to 35 co-owners—a cap established by IRS Revenue Procedure 2002-22. Each co-owner holds title and shares revenues and expenses proportionally. The trade-off is more direct ownership and potential influence of the asset, balanced against the reality that major decisions require collective agreement on major decisions.
A DST is structured differently. It is a legal entity formed under Delaware law that holds title to real estate and any associated debt. Investors purchase beneficial interests in the trust rather than holding deeds directly, and DSTs became eligible as 1031 replacement properties following IRS Revenue Ruling 2004-86. Without the 35-investor cap that applies to TICs, DSTs tend to accommodate lower investment minimums, a relevant consideration when structuring exchanges with smaller proceeds.
The choice between a DST and a TIC often comes down to preferences around control, minimums, and involvement. DSTs may suit people who want to step back; TICs may appeal to those who want to stay closer to the asset.
How 721 Exchanges and UPREITs Work as Tax-Advantaged Strategies
A 721 exchange—sometimes called an UPREIT transaction—allows a real estate owner to contribute property directly to an OP affiliated with a REIT in exchange for OP units. This approach defers capital gains tax because no sale occurs; the investor instead exchanges one form of ownership for another.
OP units generally entitle the holder to distributions comparable to REIT shareholders and may be redeemable for REIT shares or cash after a holding period. There are no 45- or 180-day deadlines. That said, 721 exchanges are only available where a REIT OP is willing to accept the property, and the investor gives up direct control of the asset upon contribution. Notably, some DST structures offer a 721 UPREIT exit pathway at the end of the holding period, connecting these two strategies in a single tax-deferred sequence.
An Overview of Tax-Advantaged Strategies: 1031 vs. QOZ vs. DST vs. TIC vs. 721
The mechanics differ in ways that matter for portfolios. The table below highlights some key distinctions.5
An Overview of Tax-Advantaged Strategies
An example worth calling out: A 1031 exchange requires reinvestment of both principal and gains, while QOZs require only the gain itself—a meaningful difference for investors with concentrated equity portfolios. And 721 exchanges stand apart entirely because no sale takes place.
Potential Benefits of Tax-Advantaged Strategies for Advisors
For advisors, these strategies may expand approaches for consequential planning moments: the sale of a business, the disposition of a long-help property, or the rebalancing of a concentrated position.
They may also create entry points into broader alternatives conversations. A 1031 exchange may spark interest in private real estate, while QOZ discussions may open doors to impact-oriented allocations.
Why Asset Managers May Offer Tax-Advantaged Strategies
Asset managers may build these strategies because they aim to address a persistent need: managing the impact of capital gains at scale. By packaging opportunities within tax-advantaged vehicles—QOFs, DSTs, TIC offerings, or UPREIT structures—managers may attract capital that might otherwise face substantial tax liabilities. These structures also tend to attract longer-horizon capital, aligning with the development-oriented nature of many real estate investments.
Risks and Considerations of Tax-Advantaged Strategies
No tax-advantaged strategy is without risks and important requirements:
1031 exchanges carry strict timelines—missing the 45- or 180-day deadline triggers the full tax liability.
QOZ investments require adherence to program rules including the 90% asset test, and all zones may not present equally compelling cases.
And 721 exchanges require relinquishing direct ownership, with returns tied to the broader REIT portfolio.
Across all these strategies, potential tax benefits depend on current law. Legislative changes or shifts in individual circumstances may affect outcomes. It’s important to consult qualified tax professionals before pursuing any of these approaches.
