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A little clarity for your next decision.
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Investor WorkspaceA little clarity for your next decision.
By Jerry Baker
A Washington 1031 exchange can defer eligible federal gain when you replace business or investment real estate. Washington exempts real estate from its state capital-gains tax, but other costs remain, including real estate excise tax. This guide explains those rules and the costs and risks I would check before buying.
There are two useful questions at the start: why are you selling, and what should the replacement do differently? You may want steadier income or less work as a landlord. You may want other property types or a plan your family can handle more easily.
Those goals deserve separate attention. A sale can reduce one problem and create another. You might stop managing tenants but give up control over when an investment sells. You might buy outside Washington but take on unfamiliar expenses and reporting duties.
Federal Section 1031 generally applies to real property held for investment or business use. Qualifying replacement property can be in a different U.S. state or a different property category. Your own home does not qualify under this rule. Nor does property held mainly for sale. A real estate fund must meet the rules, too. [1]
I would write down the priorities before selecting properties. Include the income you need, cash you must keep outside the investment, the work you want to stop doing, and the risks you can accept. Then compare the choices using those priorities.
A tax benefit matters, but it should not hide a weak investment. The replacement still needs to make sense at its price, with its borrowing, costs, and limits.
People hear that Washington exempts real estate from its capital-gains tax. Some then assume they do not need an exchange. Others think no tax will be due at closing. Those conclusions mix different rules.
| Question | What it concerns | What to review |
|---|---|---|
| Federal income tax | Gain from the sale | Basis, depreciation, exchange structure, and any recognized gain |
| Washington capital-gains tax | A separate state tax with a real-estate exemption | The asset sold and how the exemption applies |
| Real estate excise tax, or REET | Transfers of Washington real estate and certain entity interests | The transfer, selling price, rates, documents, and any specific exemption |
The Washington Department of Revenue says its capital-gains tax does not apply to a sale or exchange of real estate. That is a state rule. Federal gain can still be taxable. Selling a stake in a company is not always treated like selling the property itself. Have the adviser identify what is actually being sold. [3]
REET is a different charge. Washington generally taxes sales of real property unless a specific exemption applies. There are also rules for sales of a controlling stake in an entity that owns Washington property. The usual seller-payment rule does not mean a buyer can ignore an unpaid tax. [4]
Do not plug one assumed tax percentage into a spreadsheet and call the question settled. Ask the closing team for an itemized estimate and the CPA for a separate income-tax analysis. They answer different questions.
Washington's rule for tax-deferred exchanges addresses transfers through an exchange facilitator. When the conditions are met, it can prevent another REET charge on a later transfer. It does not simply exempt the underlying property purchase because federal income tax is deferred. [5]
The first transfer must receive the proper tax treatment. The parties must also provide the required records and meet the other conditions. It also calls for an affidavit for each transfer, including transfers to and from the facilitator. The transaction's actual structure matters. [5]
This distinction is easy to lose in a casual description. “There is an exchange exemption” can sound like “there is no transfer tax.” Ask the team to identify the particular transfer being exempted and the transfer on which tax is paid.
Imagine a sale followed by a replacement purchase. I would want a diagram showing each party, deed, payment, and tax affidavit. That helps when there are several parties or the closings occur in an unusual order.
Also check the applicable date and local component of the calculation. A prior closing's tax estimate may be wrong for the next transaction. The Department of Revenue publishes rates and changes; the title and tax professionals should confirm which ones apply. [4]
Keep the excise-tax documents with the exchange file. Your future sale, a refinance, or an audit may require more than a closing statement showing one total charge.
Arrange a qualified intermediary before the sale if you are using the standard deferred-exchange process. The agreement and limits on receiving proceeds must be in place. A plan to invest sale cash later is not the same as an exchange. [2]
Written identification is generally due within 45 days after the transfer. Acquisition must occur by the earlier of 180 days or the federal return due date, including extensions. There are limits on which properties you can name. Rules also govern the written notice itself. [2]
I would set earlier dates to review the offerings and documents. Allow time to confirm funds and arrange wires, too. The calendar should include the people involved, not just dates. Ask who can resolve a title issue and who needs to sign if an owner is traveling.
Have your CPA calculate the reinvestment target from the actual closing. Sale price, net equity, loan payoff, and taxable gain are not interchangeable. Paying off a mortgage does not, by itself, remove that part of the exchange calculation.
Once the numbers are reliable, we can compare investments that may fit them. Before that point, a portfolio is a draft built on estimates.
In 2025, Washington set statewide limits on rent increases for covered rental housing. The law covers the first year and later rent increases. It also has rules for notices and enforcement. Exemptions appear in a separate section. An old assumption that every landlord can raise rent without a statewide limit is no longer reliable. [6]
Before relying on an apartment forecast, have counsel or the property manager explain the rules for that building and tenancy. Check the legal basis for an exemption instead of accepting the word “exempt” in a summary.
Then separate the legal ceiling from achievable rent. A permitted increase may still lead to more turnover or vacancies. Tenants compare the full cost of living in the property, including parking, recurring charges, and the cost of moving.
I would ask for signed leases, the rent roll, collections, concessions, and renewal results. Compare rents on new leases with rents paid by existing tenants. Determine whether the forecast assumes gradual increases, turnover, renovation, or some combination.
The expense plan should match that strategy. Renovating occupied units differs from renovating after move-out. Higher rents can come with downtime, repairs, leasing costs, and more work for the manager.
Finally, ask about local rules. A statewide review does not resolve every city requirement. For a portfolio, each address needs the right legal and operating review; one general memo may not cover them all.
Washington's Clean Buildings Performance Standard applies to covered buildings, with requirements tied to building category and size. The Tier 1 schedule begins with a June 1, 2026 deadline for covered buildings above 220,000 square feet. Other Tier 1 size groups have later dates, and Tier 2 has a separate framework. [7]
This is a current purchase question, not a distant policy idea. Ask which category applies, whether compliance has been documented, and whether an exemption or extension was actually approved. Do not rely only on a seller saying that an application was submitted.
The state calls for measuring energy use. Its rules also address upkeep, an energy management plan, and ways to meet the standards. Those records can help show what the owner has done and what remains. [7]
I would connect the compliance review to the capital budget. Which equipment needs work? When will it be replaced? Who priced the work? Does the plan require tenant access, changes to leases, or downtime?
Consider a hypothetical building producing $300,000 of annual NOI. If a revised budget adds $30,000 of annual costs that were missing, NOI becomes $270,000 before other changes. If the issue is instead a one-time capital project, show that separately and identify its funding. Mixing the two can distort both income and value.
One building may be exempt while another in the same portfolio is not. Ask for the records by property. A clean-looking portfolio total can conceal one expensive unresolved item.
The Washington Geological Survey maps hazards such as earthquakes, landslides, and tsunamis. It also maps how the ground may behave, including where shaking could cause wet soils to lose strength. Use the maps for a first check. They do not replace an engineer's review of the site. [8]
The practical question is what a hazard means for this asset. Consider the structure, soils, retaining walls, drainage, utilities, and access. A building can suffer income loss without being destroyed if people cannot reach it or necessary systems stop working.
A coastal property and an inland property may need different questions. So may two buildings on opposite sides of the same street. Use the parcel and current reports rather than making a safety judgment from a city name.
Who checked the building and site? Read the reports for limits on that work. Ask whether the owner completed the next steps the experts called for. If a report calls for more work, mark that as unresolved until the work is done.
For a DST, the sponsor should be able to explain how the findings changed the purchase terms, reserve plan, insurance, or decision to proceed. A stack of reports has limited value if nobody can connect the findings to the budget.
Washington's insurance regulator notes that most commercial property policies do not include flood coverage. Flood insurance may need to be purchased separately. A standard policy should not be assumed to cover every physical hazard identified in a review. [9]
Ask for the policy terms and the broker's explanation of the important gaps. Review limits, deductibles, exclusions, valuation methods, and the period covered for lost income. Confirm that the forecast uses a realistic renewal cost.
Turn a percentage deductible into a dollar amount. Suppose the covered value is $8 million. If the deductible is 5% of that amount, it is $400,000. The policy wording determines what value the percentage applies to; do not assume it always uses the expected loss.
Then locate the cash that would cover that amount. Is it reserved at the property, shared across a portfolio, or expected to come from another source? A low premium can look attractive until the retained risk is understood.
Also ask how multiple properties share policy limits. The presence of several insured buildings does not mean each has access to a separate full limit after one event. The actual policy controls, so have the insurance professional explain the exposure.
Washington's Employment Security Department publishes county profiles and labor-market data. Those resources can help examine employment mix, wages, and changes over time. Statewide averages and metropolitan figures answer different questions from a property's tenant trade area. [10]
For an apartment, ask which households can support the planned rents and where they work. For a retail property, ask how the tenants earn their sales and what competing space serves the area. For an industrial building, focus on the business need for that location and the building's usefulness to a replacement tenant.
When a model relies on a major employer, consider more than the current lease or job announcement. How many tenants depend on that employer? What happens if its space needs change? A strong company can still choose a different location.
Review supply at the right stage. Planned buildings, permitted buildings, projects under construction, and completed competing space should not be combined into one unexplained number. Each stage has a different degree of certainty.
I would date the market work. Use current facts to judge today's price. Look further back, too, to see what happened when times were harder. One favorable month is not a full investment case.
A DST may let you invest in professionally managed real estate without taking on the same daily tasks as a direct owner. Exchange eligibility depends on the actual structure. Revenue Ruling 2004-86 describes one DST structure. It does not approve every real estate trust or security. [11]
I would review the sponsor's ability to execute the plan, the properties, borrowing, fees, reserves, and the planned exit. I would also compare them with your income needs and other investments.
Borrowing can magnify both gains and losses. Look beyond the forecast payout. When must the loan be paid off? Will income still cover loan payments if more space sits vacant?
Private interests can be difficult to sell and can lose value. Distributions may change, and the stated hold is not a promise that your money comes back on a particular date. [12]
For someone seeking less work, the change in role may be useful. For someone who wants full control over sale timing or needs ready access to principal, it may not be. That is why the fit discussion should happen before selecting an allocation.
I would organize the file around unresolved decisions, not the number of documents collected. A useful summary lists each question and its answer. It points to the source and names who must resolve any open issue.
When an answer remains uncertain, say so. We can decide whether it needs more work, a different price, a smaller allocation, or a different investment. A short honest list of open questions is more useful than a polished presentation that hides them.
Federal gain may still be taxable. The Washington exemption does not decide your federal result. A qualifying exchange can address federal deferral, while other state and local issues still need review. [1] [3]
No blanket exemption applies just because the transaction is an exchange. The facilitator-transfer rule can exempt a qualifying later transfer when its conditions are met. Have the closing team identify each taxable or exempt step and the required documents. [5]
Qualifying U.S. real estate can generally be exchanged across state lines. Review your residence, the replacement state's rules, and the investment itself. Changing states does not remove the federal timeline or due diligence work. [1]
No. Washington now has statewide limits for covered tenancies, with exemptions and other conditions. Local rules may also matter. Even a lawful increase needs support from tenant demand and the property's operating evidence. [6]
No. Ask what was submitted, what was approved, and what remains due. Review the building's category, deadline, compliance documents, and any exemption or extension. Connect remaining work to the budget. [7]
No. Several offerings may share a region, tenant, sponsor, insurer, or loan exposure. Review what the investments have in common as well as how they differ. Diversification cannot guarantee income or prevent losses.
Educational information, not an offer or a personal tax, legal, or investment recommendation. Examples are hypothetical and omit stated adjustments. Tax treatment depends on your facts and current law. Review your transaction with your CPA, attorney, and qualified intermediary. Real estate investments can lose value and may be illiquid.
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