Introduction

If you’re planning to sell investment real estate, you might be bracing yourself for a big tax bill. It’s a common assumption: you sell the property, you pay the capital gains tax, and you move on. But in reality, you have more options than you might think. While many are familiar with the Section 1031 exchange—a great tool if you’re planning to reinvest in similar property—it’s not your only path to deferring or eliminating taxes. In fact, there are several strategies that can work just as well, or even better, depending on your goals.

Charitable Remainder Trusts: Turn a Sale into a Legacy

One of the most powerful and flexible approaches involves using a charitable remainder trust, or CRT. This option is ideal for those who are both charitably inclined and interested in generating retirement income. Rather than selling your property outright, you donate it to a CRT, which then sells it on your behalf. Because the trust is tax-exempt, it can sell the property without triggering capital gains taxes. In return, the trust pays you (and your spouse, if applicable) a steady income for life—either a fixed amount each year or a percentage of the trust’s value.

This arrangement also comes with a valuable up-front charitable deduction, based on the portion of the trust that will eventually go to charity. That deduction can help reduce your income taxes immediately and, if the donation exceeds the allowable limit for the current year, you can carry the excess forward for up to five years. Meanwhile, to make sure your heirs still receive a meaningful inheritance, you can use a portion of the trust income to fund a life insurance policy through a wealth replacement trust. When structured correctly, this insurance passes to your beneficiaries tax-free, effectively replacing the value of the donated property.

To put it in perspective, consider a $1 million property sale. Selling it directly could easily result in a $300,000 tax hit. But with a CRT, you avoid that tax, receive a tax deduction (in this case, possibly around $94,000), and generate a steady income—say, $50,000 per year. Out of that income, you could allocate $15,000 annually to fund a $1 million life insurance policy for your children. In the end, you keep more money working for you, provide for your heirs, and support a cause you care about.

Section 721 and UPREITs: From Real Estate to REITs

If charity isn’t part of your plan, there are other tax-efficient options to consider. One of them involves using a Section 721 exchange to contribute your property to the operating partnership of a real estate investment trust (REIT). This is often referred to as an UPREIT structure. Instead of selling the property and facing taxes, you trade it for units in the REIT’s operating partnership. These units function similarly to shares, providing income and, eventually, the ability to convert to publicly traded stock. This approach lets you sidestep capital gains taxes while gaining liquidity and diversification—especially appealing if you’re ready to exit active property management.

One common issue in real estate sales is mortgage liability. If the property is mortgaged and the loan exceeds your basis in the property, selling can trigger taxable gain due to the debt relief. However, UPREITs often solve this by guaranteeing an equivalent share of liability within the REIT, neutralizing the tax consequence and allowing for a clean, tax-deferred transition into a more passive investment structure.

Installment Sales: Spread Out Your Taxes and Grow Your Income

Lastly, there’s a more traditional method that still holds a lot of value: the installment sale. Rather than receiving the full proceeds of your property sale upfront, you accept payments over time. This spreads out your tax liability, allowing you to pay capital gains tax gradually as you receive the principal payments. Even better, you earn interest on the entire unpaid balance, which can significantly boost your overall return—especially when interest rates are favorable.

Of course, installment sales come with a few caveats. If the property was subject to depreciation or benefited from certain tax credits, some of that benefit may be recaptured and taxed upfront. But in many cases, this structure allows you to retain a secured investment that steadily builds wealth without forcing an immediate tax event.

For example, say you sell a property for $250,000 with a basis of $125,000. That’s a $125,000 gain. With an installment sale, each principal payment you receive is taxed proportionally—meaning you only pay tax as you get paid. On top of that, you’re earning interest, which puts your money to work rather than sending it straight to the IRS.

The Bottom Line: You Have Options

Selling real estate doesn’t have to mean writing a large check to the IRS. Whether your goals are to generate retirement income, support your family, or simplify your investments, there are well-established strategies that can help you defer or avoid taxes altogether. While the 1031 exchange is an excellent tool when reinvesting in property, the strategies above offer alternatives that may better align with your long-term goals.

If you’re considering a sale and want to explore the smartest way forward, let’s set up a time to talk. Ready to keep more of your wealth working for you? Schedule a free consultation with us today to explore tax-free real estate strategies tailored for your business.