Deduction

Deduction refers to the reduction of the tax basis of the replacement property by any expenses or costs associated with the exchange. When a taxpayer engages in a 1031 exchange, they are essentially swapping one investment property for another, deferring the payment of capital gains tax on the transaction. However, the cost of the exchange itself, such as fees paid to a qualified intermediary or transaction costs, cannot be included in the tax basis of the replacement property. Instead, these costs are deducted from the tax basis, reducing the overall amount of tax deferral. The deduction is subtracted from the adjusted tax basis to calculate the taxable gain or loss upon the eventual sale of the replacement property.