Apartment ownership builds substantial wealth but demands substantial work — managing tenants, maintenance, turnover, and the constant attention rental property requires. For apartment owners ready to step back, the 721 exchange offers a compelling transition: contributing their apartments (or reaching a REIT via the DST bridge) into passive multifamily REIT ownership, deferring the large capital gains tax (including significant depreciation recapture), gaining diversification across the REIT's portfolio, earning passive distributions, and setting up estate-planning benefits. Multifamily REITs are natural destinations for apartment owners, holding portfolios of apartment communities. So the 721 exchange lets apartment owners exit active landlording into passive multifamily REIT ownership tax-deferred. This guide explains why and how apartment owners use 721 exchanges, including the multifamily REIT destination and the DST-then-721 path.
Why apartment owners use 721 exchanges
Apartment owners use 721 exchanges for reasons rooted in the nature of apartment investing. First, apartments are management-intensive — the tenants, maintenance, turnover, and day-to-day work are demanding, and owners who tire of this (or who are aging) want to step back into passive ownership. The 721 exchange's transition into passive REIT ownership directly addresses this, freeing them from landlording.
Second, apartments build substantial, low-basis gains — through appreciation and depreciation over years of ownership, apartment owners accumulate large gains (and significant depreciation recapture), so a sale would trigger a large four-layer tax. The 721 exchange defers this tax, preserving their wealth. Third, apartment owners are often concentrated in their properties (wanting diversification) and focused on estate planning (wanting to pass wealth to heirs efficiently) — both of which the 721 addresses.
So apartment owners use 721 exchanges to step back from management (passivity), defer the large gain (deferral), diversify (the REIT's portfolio), and plan their estate (step-up, divisibility) — a combination well-suited to apartment owners' common situation. Why apartment owners use 721 exchanges — to escape management intensity (passivity), defer the large low-basis gain with recapture (deferral), diversify their concentration, and plan their estate — reflects apartment investing's characteristics. These motivations make apartment owners prime 721 candidates. Understanding why apartment owners use 721 exchanges sets up how they do so. Apartment owners' common situation (management fatigue, large gains, concentration, estate goals) aligns closely with the 721 exchange's benefits.
From active apartments to passive REIT
The core of the apartment-owner 721 exchange is the transition from active apartment management to passive REIT ownership. As a direct apartment owner, you handle (or manage) everything — leasing, maintenance, tenant issues, turnover, finances. After a 721 exchange, you hold OP units in a multifamily REIT, which professionally manages its apartment portfolio; you simply collect distributions (passive income) without any management work.
This transition is the key benefit for management-weary apartment owners. They go from the demands of being a landlord (the '3 a.m. phone calls,' the turnover, the maintenance) to passive ownership — earning income from the REIT's apartment portfolio without the work. For an aging or tired apartment owner, this freedom from management is often the decisive benefit.
The transition also keeps them invested in apartments (via a multifamily REIT) — they don't leave the asset class they know; they hold it passively through the REIT. So they retain apartment exposure (now diversified and professional) while shedding the management. From active apartments to passive REIT — transitioning from hands-on apartment management to passive multifamily REIT ownership (earning distributions without the work, while staying invested in apartments) — is the core benefit for apartment owners. The transition frees management-weary owners while keeping them in apartments. Understanding this transition shows the 721 exchange's primary appeal to apartment owners: passivity. The shift from active landlording to passive REIT ownership is the central benefit apartment owners seek from the 721 exchange.
The 721 exchange takes apartment owners from active landlording — the turnover, maintenance, and 3 a.m. calls — to passive multifamily REIT ownership, earning distributions without the work while staying in apartments.
Multifamily REITs as the destination
Multifamily REITs are natural destinations for apartment owners doing 721 exchanges, since they hold apartment portfolios. A multifamily REIT owns and operates apartment communities — so an apartment owner transitioning into a multifamily REIT stays in the apartment asset class, now holding a diversified portfolio of apartment properties professionally managed by the REIT. This keeps the owner in familiar territory (apartments) while gaining diversification and passivity.
Transitioning into a multifamily REIT gives the apartment owner exposure to a broad apartment portfolio (many communities across markets) instead of their one or few properties — diversifying their apartment exposure geographically and across many properties and tenants. So they reduce the concentration risk of their specific apartments while staying in the apartment sector they understand and believe in.
Multifamily REITs may be reached directly (if the REIT wants the owner's apartments) or via the DST bridge (a 1031 into a multifamily DST that's later 721'd into a multifamily REIT). Either way, the destination is a diversified, professionally-managed apartment portfolio. Multifamily REITs as the destination — apartment owners transitioning into REITs holding diversified apartment portfolios, staying in the apartment sector while gaining diversification and passivity — are the natural endpoint for apartment-owner 721 exchanges. The multifamily REIT keeps the owner in apartments, diversified. Understanding the multifamily REIT destination shows where apartment owners land. The multifamily REIT is the natural destination, letting apartment owners stay in apartments (diversified and passive) rather than leaving the asset class.
Deferring the apartment gain
Deferring the substantial apartment gain — including significant depreciation recapture — is a major benefit for apartment owners. Apartments are depreciated over 27.5 years, so long-term apartment owners take substantial depreciation, which would face recapture tax (up to 25%) on a sale, on top of the capital gains, NIIT, and state tax. For low-basis, long-held apartments, the four-layer tax can be very large.
The 721 exchange defers this entire tax — the capital gains and the recapture — preserving the apartment owner's full wealth in the REIT. So instead of losing a third or more of their gain to the four-layer tax on a sale, the owner transitions their full pre-tax value into the multifamily REIT, deferred. The deferral of the recapture (which can be substantial for long-depreciated apartments) is especially valuable.
This deferral, combined with the step-up at death (which can erase the deferred gain, including recapture, for heirs), makes the 721 exchange highly tax-efficient for apartment owners. They defer the large gain during life and can eliminate it at death. Deferring the apartment gain — the 721 exchange deferring the substantial four-layer tax (including significant depreciation recapture) on appreciated, depreciated apartments, preserving the owner's full wealth, with the step-up able to eliminate it — is a major benefit for apartment owners. The deferral of the large gain (and recapture) is especially valuable for long-held apartments. Understanding the deferral shows the tax benefit for apartment owners. The 721 exchange's deferral of the substantial apartment gain (including recapture) is a key reason apartment owners use it, preserving wealth the sale tax would take.
Estate planning for apartment owners
Estate planning is often a decisive benefit for apartment owners doing 721 exchanges, given their typical profile (older owners with appreciated apartments and heirs). The 721 exchange's estate benefits — the step-up at death (erasing the deferred gain for heirs) and the divisibility of OP units (easily divided among multiple heirs, unlike apartment buildings) — directly serve apartment owners' estate goals.
An apartment owner can contribute their apartments (or reach a multifamily REIT via the DST bridge), hold the OP units (earning passive distributions during life, deferring the gain), and pass the units to heirs at death — who receive them with the step-up erasing the deferred gain (including recapture), and divide the units cleanly among themselves. So the owner transfers their apartment wealth tax-efficiently and divisibly.
This addresses a common apartment-owner estate challenge: how to pass appreciated apartments (hard to divide, with large embedded gains) to multiple heirs efficiently. The 721 exchange converts the apartments into divisible, step-up-eligible units, solving the challenge. Estate planning for apartment owners — the step-up erasing the deferred gain (including recapture) for heirs, and the divisible OP units easing the transfer of apartment wealth to multiple heirs — is often a decisive benefit, solving the challenge of passing appreciated apartments efficiently. The estate benefits address apartment owners' common wealth-transfer goals. Understanding the estate benefits shows another key reason apartment owners use 721 exchanges. For apartment owners focused on passing wealth to heirs, the 721 exchange's estate benefits (step-up, divisibility) are often decisive.
- Apartment owners use 721 exchanges to escape management intensity (passivity), defer the large gain (including recapture), diversify, and plan their estate.
- The core benefit is transitioning from active landlording to passive multifamily REIT ownership — earning distributions without the work.
- Multifamily REITs are natural destinations, keeping owners in apartments (diversified, professionally managed).
- The 721 defers the substantial apartment gain (including significant 27.5-year depreciation recapture); the step-up can erase it for heirs, and units divide cleanly.
The DST-then-721 path for apartments
For many apartment owners, the multifamily REIT is reached via the DST-then-721 path, since a direct 721 of their specific apartments may not be feasible. Because reaching a multifamily REIT directly requires the REIT to want the owner's specific apartments (uncommon for typical individual properties), apartment owners often use the DST bridge: a 1031 exchange into a multifamily DST (structured for a 721 exit), which is later acquired by a multifamily REIT (the 721 exit), transitioning the owner into REIT OP units.
This path lets apartment owners reach multifamily REIT ownership tax-deferred even when a direct 721 of their apartments isn't feasible. They 1031 into a multifamily DST (gaining passive apartment exposure tax-deferred), and later transition into the multifamily REIT via the 721 exit — reaching the diversified, liquid REIT through the DST bridge. So the DST-then-721 path is the practical route for many apartment owners.
The path keeps them in apartments throughout (multifamily DST, then multifamily REIT), staying in the asset class while transitioning to passive, diversified REIT ownership tax-deferred. So the DST-then-721 path is how many apartment owners reach the multifamily REIT. The DST-then-721 path for apartments — using a 1031 into a multifamily DST (structured for a 721 exit) to reach a multifamily REIT, since a direct 721 of specific apartments often isn't feasible — is the practical route for many apartment owners. The path keeps them in apartments throughout, reaching the REIT via the DST bridge. Understanding the DST-then-721 path shows how apartment owners practically reach multifamily REIT ownership. For most apartment owners, the DST-then-721 path is the realistic way to transition into a multifamily REIT tax-deferred.
How Baker 1031 helps apartment owners
Baker 1031 Investments helps apartment owners transition into passive multifamily REIT ownership via 721 exchanges — whether through a direct contribution (if a REIT wants their apartments) or, more commonly, the DST-then-721 path (a 1031 into a multifamily DST that's later 721'd into a multifamily REIT). We help apartment owners escape management, defer the large gain (including recapture), diversify, and plan their estate, coordinating with their CPA and attorney.
DST interests, REIT units, and related securities are offered through the broker-dealer, Aurora Securities, Inc. (member FINRA/SIPC), and any recommendation follows a suitability review — the DST and 721 steps involve securities, available to suitable investors after a review. We help apartment owners find suitable multifamily DSTs (structured for a 721 exit) and REITs, and navigate the transition. Our role is to help apartment owners use the 721 exchange (often via the DST bridge) to transition from active landlording into passive, diversified multifamily REIT ownership tax-deferred — escaping management, deferring the large apartment gain, diversifying, and planning their estate. For apartment owners ready to step back, the 721 exchange is a powerful tool, and we help them use it for their goals.
Frequently Asked Questions
Why do apartment owners use 721 exchanges?
To escape apartment management intensity (transitioning to passive REIT ownership), defer the large low-basis gain (including significant depreciation recapture) that a sale would trigger, diversify out of their concentrated apartments, and plan their estate (the step-up and divisible units). Apartments are management-intensive and build substantial gains, so the 721 exchange's combination of passivity, deferral, diversification, and estate benefits is well-suited to apartment owners. These motivations make apartment owners prime 721 candidates, especially those tired of landlording or focused on estate planning.
What does the 721 exchange do for apartment owners?
It transitions them from active apartment management into passive multifamily REIT ownership — they go from handling tenants, maintenance, and turnover to holding OP units in a multifamily REIT that professionally manages its apartment portfolio, simply collecting distributions (passive income) without the work. They stay invested in apartments (via the REIT) but passively and diversified, deferring the large gain. So the 721 exchange frees apartment owners from landlording while keeping them in apartments, tax-deferred — the central appeal for management-weary owners.
What is a multifamily REIT?
A REIT that owns and operates apartment communities — a portfolio of multifamily properties. For apartment owners doing 721 exchanges, a multifamily REIT is a natural destination: they transition into it, staying in the apartment asset class but now holding a diversified portfolio of apartment properties (across markets) professionally managed by the REIT. So the multifamily REIT keeps the apartment owner in apartments (familiar territory) while providing diversification (many communities vs. their one or few) and passivity. It's where apartment-owner 721 exchanges naturally land.
Does the 721 exchange defer apartment depreciation recapture?
Yes — apartments are depreciated over 27.5 years, so long-term owners take substantial depreciation, which would face recapture tax (up to 25%) on a sale. The 721 exchange defers this recapture along with the capital gains, NIIT, and state tax (the four-layer stack). So instead of paying the large tax (including significant recapture) on a sale, the apartment owner transitions their full value into the REIT, deferred. The deferral of the recapture (substantial for long-depreciated apartments) is especially valuable, and the step-up can erase it for heirs.
How does estate planning work for apartment owners with a 721?
The 721 exchange's estate benefits — the step-up at death (erasing the deferred gain, including recapture, for heirs) and the divisibility of OP units (easily divided among multiple heirs, unlike apartment buildings) — serve apartment owners' estate goals. An owner contributes their apartments (or reaches a multifamily REIT via the DST bridge), holds the units (earning distributions, deferring), and passes them to heirs (with the step-up erasing the gain and the units dividing cleanly). So the owner transfers their apartment wealth tax-efficiently and divisibly, solving the challenge of passing appreciated apartments to multiple heirs.
Can I 721 my apartments directly into a REIT?
Possibly, but often it's not feasible — a direct 721 requires a multifamily REIT to want your specific apartments (uncommon for typical individual properties). So most apartment owners use the DST-then-721 path: a 1031 into a multifamily DST (structured for a 721 exit), which is later acquired by a multifamily REIT (the 721 exit), transitioning into REIT OP units. This reaches the multifamily REIT even when a direct 721 of your apartments isn't feasible. So while a direct 721 is possible if a REIT wants your apartments, the DST bridge is the practical route for most apartment owners.
What is the DST-then-721 path for apartments?
The practical route for most apartment owners to reach a multifamily REIT: you do a 1031 exchange into a multifamily DST (structured for a 721 exit), gaining passive apartment exposure tax-deferred, and later the DST is acquired by a multifamily REIT (the 721 exit), transitioning you into REIT OP units. This reaches multifamily REIT ownership tax-deferred, keeping you in apartments throughout (multifamily DST, then multifamily REIT). It's used because a direct 721 of specific apartments often isn't feasible. So the DST-then-721 path is how many apartment owners practically transition into a multifamily REIT.
Will I still be invested in apartments after a 721 exchange?
Yes, if you transition into a multifamily REIT — you stay in the apartment asset class, now holding a diversified portfolio of apartment communities (via the REIT) instead of your one or few properties. So you don't leave apartments; you hold them passively and diversified through the multifamily REIT. This keeps you in familiar territory (apartments you understand and believe in) while gaining diversification, passivity, and the REIT's professional management. So a 721 exchange into a multifamily REIT keeps you invested in apartments, just in a diversified, passive, professionally-managed form.
How much tax can apartment owners defer?
It depends on the gain, but apartment owners often have substantial, low-basis gains (from appreciation and depreciation over years), so the four-layer tax (capital gains, recapture up to 25%, NIIT, state) on a sale can be very large — often a third or more of the gain. The 721 exchange defers this entire tax, preserving the owner's full wealth in the REIT. For long-held, heavily-depreciated apartments, the deferred tax (especially the recapture) can be significant. Your CPA can quantify the specific tax you'd defer based on your apartments' gain, basis, depreciation, and your state.
Is a 721 exchange better than a 1031 for apartment owners?
It depends on the owner's goals. A 1031 keeps the owner in direct apartment ownership (control, ability to exchange again) — suiting active owners who want to keep managing and trading apartments. A 721 transitions into passive multifamily REIT ownership (diversification, liquidity, passivity, estate benefits) — suiting owners ready to step back. So for active apartment owners, a 1031 (or 1031 into a DST for passivity) may fit; for owners ready to exit landlording into passive, diversified REIT ownership, the 721 fits. The choice depends on whether the owner wants to stay active or go passive.
How does Baker 1031 help apartment owners?
We help apartment owners transition into passive multifamily REIT ownership via 721 exchanges — through a direct contribution (if a REIT wants their apartments) or, more commonly, the DST-then-721 path (a 1031 into a multifamily DST later 721'd into a multifamily REIT). We help them escape management, defer the large gain (including recapture), diversify, and plan their estate, coordinating with their CPA and attorney. The DST and 721 steps involve securities, offered through the broker-dealer (Aurora Securities, member FINRA/SIPC) after a suitability review. We help apartment owners find suitable multifamily DSTs and REITs and navigate the transition for their goals.
Can I do a 721 exchange with a small apartment building?
A direct 721 of a small apartment building into a REIT is often not feasible (REITs typically want larger, institutional-quality properties). But the DST-then-721 path works for smaller owners — you 1031 into a multifamily DST (where your investment is pooled with others, regardless of your property's size), which can later be 721'd into a multifamily REIT. So smaller apartment owners can reach multifamily REIT ownership via the DST bridge, even if a direct 721 of their building isn't viable. The DST pools your investment, so the size of your individual building is less of a barrier than for a direct contribution.
Will I lose the depreciation benefits I had on my apartments?
After a 721 exchange, your direct apartment depreciation deductions end (you no longer own the property directly), but your OP units' distributions may carry some tax efficiency from the REIT's underlying depreciation (e.g., a return-of-capital component). And the deferred recapture from your apartments is carried in the units (deferred, potentially erased by the step-up). So you don't keep claiming your own apartment depreciation, but the REIT's depreciation can provide some distribution tax efficiency, and your prior depreciation's recapture is deferred (not immediately recaptured). Your CPA explains the depreciation and recapture treatment in your specific transition.
Is the 721 exchange common among apartment owners?
It's an established strategy among apartment owners ready to step back from management, especially older owners with appreciated, low-basis apartments focused on estate planning. Apartment owners are among the most common 721 exchange candidates, given the management intensity of apartments, the large gains they build, and the alignment of the 721's benefits (passivity, deferral, diversification, estate planning) with apartment owners' common goals. So while not every apartment owner uses a 721 exchange, it's a well-suited and frequently-used strategy for those ready to transition from active landlording into passive multifamily REIT ownership.
Glossary
- Apartment Owner
- A multifamily owner, a prime candidate for a 721 exchange.
- Multifamily REIT
- A REIT owning apartment portfolios, the natural 721 destination.
- Active to Passive
- The transition from landlording to passive REIT ownership.
- Management Intensity
- Apartments' demanding work, a reason to do a 721.
- 27.5-Year Depreciation
- The apartment depreciation period, generating recapture.
- Depreciation Recapture
- The tax (up to 25%) on apartment depreciation, deferred by the 721.
- Low Basis
- The small basis (large gain) of long-held apartments.
- Four-Layer Tax Stack
- Capital gains, recapture, NIIT, and state tax — deferred by the 721.
- Diversification
- Spreading across the REIT's apartment portfolio.
- OP Units
- The REIT units apartment owners receive, divisible among heirs.
- Step-Up in Basis
- The death-time reset erasing the deferred apartment gain.
- Divisibility
- The ease of dividing units among heirs vs. apartment buildings.
- DST-then-721 Path
- Reaching a multifamily REIT via a multifamily DST.
- Multifamily DST
- A DST holding apartments, the bridge to a multifamily REIT.
- Passive Distributions
- The hands-off income from the multifamily REIT.
- Tired Landlord
- An apartment owner ready to stop managing, a 721 candidate.
Sources & References
- Cornell Legal Information Institute. 26 U.S. Code § 721 — Nonrecognition of gain or loss on contribution
- IRS. Publication 527, Residential Rental Property
- IRS. Revenue Ruling 2004-86 (Delaware Statutory Trusts)
- Nareit. What's a REIT (Real Estate Investment Trust)?
Disclosures
This article is published by Baker 1031 Investments, LLC for general educational purposes for accredited investors and is not an offer to sell or a solicitation of an offer to buy any security, nor is it tax, legal, accounting, or investment advice or a recommendation. Any securities offering is made solely through a sponsor’s private placement memorandum (PPM) following a suitability determination. Securities offered through Aurora Securities, Inc. (ASI), member FINRA / SIPC; Baker 1031 Investments is independent of ASI.
Oil & gas mineral and royalty interests and DST programs are speculative, illiquid securities sold only to verified accredited investors and involve substantial risk, including possible loss of principal, commodity-price and production-decline risk, lack of control, and the risk that an intended 1031 exchange fails to qualify for tax deferral. Whether a particular interest qualifies as like-kind real property is a fact-specific legal determination that varies by state and by the terms of the instrument. Tax results depend on your individual circumstances. Consult your own CPA and attorney before acting. Past performance does not guarantee future results.
