"How much will a 1031 save me?" is the question every investor asks before committing to an exchange, and the answer is almost always larger than they expect — because a 1031 exchange defers four separate taxes at once, not just the federal capital gains rate everyone knows about. On a long-held, depreciated property in a high-tax state, the combined burden of selling can exceed a third of the gain. This guide quantifies each of the four taxes, works through several realistic examples, and shows you how to estimate the deferred tax for your own situation.
The Question Every Investor Asks
Before anyone commits to the work and discipline of a 1031 exchange, they want a number: how much tax am I actually deferring? It's the right question, because the answer frames the entire decision. The larger the deferred amount, the more the effort, the fees, and the deadlines are worth it.
The deferred amount is simply the tax you would owe if you sold outright instead of exchanging. That figure depends on your gain, how much depreciation you've taken, your income, and your state — and stacking all the relevant taxes usually produces a bigger number than investors anticipate.
The sections below break the calculation into its four components, then work through concrete examples so you can see how the pieces add up and estimate your own deferral.
The Four Taxes You Defer
A fully structured 1031 exchange defers up to four taxes: federal long-term capital gains (0%, 15%, or 20%), depreciation recapture (up to 25% on the depreciated portion), the 3.8% net investment income tax (NIIT), and state capital gains tax (0% to over 13%).
These layers apply to different parts of your gain. Capital gains rates apply to the appreciation; recapture applies to the portion attributable to prior depreciation; the NIIT and state tax generally apply to the whole gain for those subject to them. Adding them together gives your combined effective rate on the gain.
Because the layers stack, the effective rate on a gain can range from the mid-teens (a modest gain, low income, no-tax state) to well over 35% (a large, heavily depreciated gain, high income, high-tax state). The wide range is why estimating your specific situation matters.
Federal Long-Term Capital Gains
Property held more than a year is taxed federally at long-term capital gains rates of 0%, 15%, or 20%, depending on your taxable income. Most investment-property sellers with meaningful gains land in the 15% or 20% bracket on the appreciation portion of their gain.
This rate applies to the appreciation — your sale price minus your adjusted (depreciated) basis, excluding the recapture portion. It's the layer everyone knows, but on a long-held property it's frequently not the largest piece, because recapture and state tax can be bigger.
A 1031 exchange defers this federal capital gains tax in full, carrying the gain into the replacement property rather than recognizing it at sale.
Depreciation Recapture: Often the Biggest Layer
On a long-held rental, the portion of gain attributable to depreciation you took — unrecaptured Section 1250 gain — is taxed at a maximum of 25%, higher than the capital gains rate. The longer you held and depreciated the property, the larger this layer, and it's frequently the single biggest tax on a long-held property.
For example, if you depreciated a property by $200,000 over the years, roughly that amount of your gain is recapture taxed at up to 25% — as much as $50,000 — before you even reach the capital gains on appreciation.
A 1031 exchange defers recapture along with the capital gain, which is a major part of why the strategy saves so much on heavily depreciated properties.
The 3.8% Net Investment Income Tax
Higher-income taxpayers owe an additional 3.8% net investment income tax on capital gains, stacking on top of the capital gains and recapture rates when modified adjusted gross income exceeds certain thresholds. A large property gain can easily push a seller over those thresholds.
Nearly four points may not sound like much, but on a large gain it's real money — $19,000 on a $500,000 gain — and it's easy to forget until it appears on the return.
A 1031 exchange defers the NIIT along with the rest of the gain, since no gain is recognized at the exchange to trigger the surtax.
State Capital Gains Tax
States vary enormously. No-income-tax states like Texas, Florida, Nevada, and Washington impose no state capital gains tax, so a seller there faces only the federal layers. High-tax states like California tax capital gains as ordinary income at rates exceeding 13% at the top.
For high-income sellers in high-tax states, the state layer can be the single largest tax on the gain — even bigger than the federal capital gains tax. Some states also have withholding or clawback rules that affect deferred gain.
A 1031 exchange defers state capital gains tax as well, which is why the deferred amount — and the value of the strategy — is greatest for sellers in high-tax states.
- Four taxes stack: federal capital gains (0/15/20%), recapture (25%), NIIT (3.8%), state (0–13%+).
- On long-held property, recapture is often the largest single layer.
- The combined effective rate ranges from the mid-teens to over 35% depending on your situation.
Worked Example: High-Tax State Sale
Consider a California investor selling a long-held rental with a $500,000 gain, of which $150,000 is depreciation recapture. Federal capital gains at 20% on the $350,000 appreciation is $70,000. Recapture at 25% on the $150,000 is $37,500. The 3.8% NIIT on the $500,000 is $19,000. California tax at roughly 13% on the $500,000 is about $65,000.
That totals roughly $191,500 of combined tax on a $500,000 gain — about 38% — that a sale would trigger and a 1031 exchange defers. Instead of reinvesting $308,500 after tax, the investor reinvests the full $500,000 (plus their original basis), keeping the entire amount compounding.
Figures are illustrative and depend on income, basis, and current rates, but they show why deferral is so valuable for high-basis-depreciation properties in high-tax states.
Worked Example: Long-Held Property
Now consider a long-held property where depreciation dominates. An investor sells a rental held for 25 years with a $400,000 total gain, $250,000 of which is depreciation recapture (because so much was depreciated over the long hold) and $150,000 of which is appreciation.
Recapture at 25% on $250,000 is $62,500 — already larger than the $30,000 of federal capital gains (20% on $150,000). Add the 3.8% NIIT ($15,200) and, in a moderate-tax state at 5%, another $20,000. The combined tax approaches $127,700 on a $400,000 gain, with recapture as the largest single piece.
This example illustrates a key point: the longer you've held and depreciated a property, the more the recapture layer dominates, and the more a 1031 exchange defers. Figures are illustrative.
Worked Example: No-Income-Tax State
For contrast, consider a Texas investor (no state income tax) selling a property with a $500,000 gain, $100,000 of recapture and $400,000 of appreciation, with income low enough to avoid the top bracket and the NIIT.
Federal capital gains at 15% on $400,000 is $60,000, and recapture at 25% on $100,000 is $25,000 — roughly $85,000 total, about 17% of the gain. There's no state tax and no NIIT, so the deferred amount is smaller than the California example, though still significant.
The contrast shows how much the deferred amount depends on state and income. The same gain defers $85,000 in this case versus nearly $191,500 in the high-tax-state example — which is why the strategy's value is greatest for high-income sellers in high-tax states.
How to Estimate Your Own Deferral
To estimate your own deferred tax, start by separating your gain into appreciation and recapture. Your recapture is roughly the total depreciation you've taken; your appreciation is the rest of your gain. Apply the capital gains rate (15% or 20%) to the appreciation and 25% to the recapture.
Then add the 3.8% NIIT if your income is high enough, and your state's capital gains rate (zero in no-tax states). The sum is your estimated deferred tax — the amount a fully structured exchange would postpone.
This is an estimate; your exact figures depend on your precise basis, depreciation schedule, income, and current rates. A 1031 calculator automates it, and your CPA can refine it for your situation.
Why Long-Held Properties Defer More
Two forces make long-held properties defer the most tax. First, they've usually appreciated more, increasing the capital gains layer. Second, and often more importantly, they've accumulated far more depreciation, increasing the recapture layer that's taxed at the higher 25% rate.
An investor who's owned and depreciated a rental for decades may find that recapture alone exceeds the capital gains tax, and that the combined bill on a sale is startlingly large. This is precisely the profile where a 1031 exchange saves the most.
It's also why the "swap till you drop" strategy is so powerful for long-term holders: each exchange defers an ever-growing stack of capital gains and recapture, and holding the final property until death can eliminate all of it through a step-up in basis.
The Compounding Value of the Deferred Amount
The deferred tax isn't just a one-time saving — it's capital that keeps working. By reinvesting the full pre-tax gain, your equity base is larger every cycle, and the returns on the deferred amount compound over years.
Think of the deferred tax as an interest-free, indefinite loan from the government that you keep reinvesting. Over a decade, the returns earned on that deferred amount can exceed the tax itself, and over multiple exchanges the compounding gap grows substantial.
This is the deeper reason the deferred number matters: it's not just what you avoid paying today, but what that capital earns for you tomorrow, cycle after cycle, until the gain is eventually realized or eliminated.
Using a 1031 Calculator
A 1031 exchange calculator estimates your deferred tax from your sale price, basis, accumulated depreciation, state, and income bracket. It separates the recapture portion, applies the relevant rates, and outputs the combined tax you'd defer — a useful planning figure. Baker 1031 offers calculators at baker1031.com/calculators.
Treat the result as an estimate, not tax advice. Real outcomes depend on details a calculator simplifies — exact basis, passive losses, state nuances, and current rates — so use it to gauge whether an exchange is worth pursuing, then confirm with your CPA.
If the deferred amount is meaningful, the next steps are to engage a qualified intermediary before you sell, consult your CPA, and begin lining up replacement options, including a DST backup.
Recapture vs. Capital Gains: Which Is Bigger?
One of the most counterintuitive aspects of the deferred amount is that, on a long-held property, the depreciation recapture often exceeds the capital gains tax. Investors instinctively focus on appreciation, but the recapture layer — taxed at the higher 25% rate on every dollar of depreciation taken — can quietly become the largest single component of the bill.
Consider a property held for 25 years: it may have been depreciated by several hundred thousand dollars, and all of that depreciation is recaptured at up to 25%. Even if appreciation is substantial, the recapture taxed at the higher rate can outweigh the capital gains on appreciation taxed at 15–20%.
This matters for estimating your deferral because it means the depreciation history of your property is often more important than its appreciation in determining how much tax a 1031 defers. The properties that defer the most aren't necessarily those that appreciated the most — they're those that were depreciated the most over a long hold.
It also reinforces why avoiding boot is critical on these properties: because recapture is recognized first when partial gain is triggered, any boot you take is taxed at the higher 25% rate. On a heavily depreciated property, a clean, zero-boot exchange protects the deferral of that high-rated recapture, which is frequently the bulk of the deferred amount.
The Deferred Tax and Your Reinvestment Power
The deferred amount isn't just a number on a tax estimate — it's the difference in how much capital you have working for you. When you exchange, you reinvest your entire pre-tax gain plus your original basis; when you sell, you reinvest only what survives after four layers of tax take their share.
On the high-tax-state example — roughly $191,500 of deferred tax on a $500,000 gain — exchanging means about $191,500 more capital deployed into the replacement property than selling would allow. At a 6% annual return, that extra capital alone earns more than $11,000 in the first year, and far more as it compounds.
Over a decade, the compounding on the deferred tax can rival or exceed the tax itself, and across multiple exchanges the gap widens further. This is the real payoff of understanding how much tax you're deferring: it's not just what you avoid today, but the reinvestment power you retain for years.
Framed this way, the deferred amount is the clearest argument for an exchange over an outright sale. For an investor who intends to stay in real estate, keeping six figures of would-be tax invested and compounding — potentially never paying it if a step-up at death intervenes — is a powerful, quantifiable advantage that the deferred-tax estimate makes concrete.
Putting the Deferred Amount in Perspective
Once you've estimated your deferred tax, weigh it against the cost and effort of an exchange. Qualified intermediary fees, the discipline of the deadlines, and the work of finding replacement property are all modest next to a deferred tax that often runs into six figures.
The deferred amount also reframes the alternative. Selling outright means permanently surrendering that tax now and reinvesting only what's left; exchanging means keeping it all invested and potentially never paying it if you hold until death. For a large gain, that difference can shape your wealth for decades.
The bottom line: for most investors with meaningful embedded gain in a long-held or high-tax-state property, the deferred amount is large enough that a 1031 exchange is well worth the effort — but run your own numbers, because the right answer depends on your specific gain, depreciation, income, and state.
Frequently Asked Questions
How much tax does a 1031 exchange defer?
It defers federal capital gains (0/15/20%), depreciation recapture (up to 25% on the depreciated portion), the 3.8% NIIT, and state capital gains (0% to over 13%). Combined, the effective rate can exceed a third of the gain in a high-tax state — all deferred by exchanging.
What are the four taxes a 1031 defers?
Federal long-term capital gains tax, depreciation recapture, the 3.8% net investment income tax, and state capital gains tax. The first applies to appreciation, the second to the depreciated portion, and the last two generally to the whole gain for those subject to them.
Does a 1031 defer depreciation recapture?
Yes. Recapture on the depreciated portion of a long-held property — taxed at up to 25% — is deferred along with the capital gain and NIIT, carried into the replacement property via carryover basis.
How do I estimate my 1031 tax savings?
Separate your gain into appreciation and recapture (roughly the depreciation you've taken). Apply the capital gains rate to the appreciation and 25% to the recapture, add the 3.8% NIIT if applicable, and add your state rate. The sum is your estimated deferred tax.
Why is the deferred amount bigger than I expect?
Because most investors think only of the federal capital gains rate, but a 1031 also defers depreciation recapture (often the largest layer on long-held property), the 3.8% NIIT, and state tax. Stacking all four produces a much larger figure than the headline capital gains rate alone.
Is the deferral bigger for long-held property?
Usually, yes — long-held properties have appreciated more and, more importantly, accumulated far more depreciation, increasing the recapture layer taxed at 25%. On a property held for decades, recapture alone can exceed the capital gains tax.
How much does a 1031 save in a no-income-tax state?
Less than in a high-tax state, because there's no state layer to defer. The deferral is purely federal — capital gains plus recapture plus any NIIT — which can still be substantial, but typically smaller than the equivalent gain in a state like California.
Does the 3.8% NIIT apply to my property sale?
It can, for higher-income taxpayers. The 3.8% net investment income tax stacks on capital gains and recapture when modified AGI exceeds certain thresholds, which a large property gain can push you over. A 1031 defers it along with the rest of the gain.
What's the highest the combined rate can be?
For a high-income seller of a heavily depreciated property in a high-tax state, the combined effective rate can exceed 35% of the gain — federal capital gains at 20%, recapture at 25% on the depreciated portion, NIIT at 3.8%, and state tax over 13%. A 1031 defers all of it.
Does a 1031 calculator give an exact number?
No — it provides a planning estimate. Real outcomes depend on your exact basis, depreciation schedule, passive losses, income, state, and current rates. Use the calculator to gauge whether an exchange is worth pursuing, then confirm the precise figures with your CPA.
Is the deferred tax ever paid?
Only if you sell the replacement property without exchanging again — then the deferred gain and its layers come due. If you keep exchanging and hold the final property until death, a step-up in basis can eliminate the deferred gain entirely for your heirs.
How does the deferred amount keep working for me?
By reinvesting the full pre-tax gain, your equity base is larger every cycle, and the deferred tax keeps earning returns — like an interest-free, indefinite loan you reinvest. Over a decade, the returns on the deferred amount can exceed the tax itself.
Should I do a 1031 if my gain is small?
It depends. A small gain defers less tax, so the effort and fees may not be worth it, especially if your basis is high. The strategy saves the most when you have a large gain, significant depreciation, and a high-tax state. Run your numbers to see where you stand.
Where can I find a 1031 calculator?
Baker 1031 offers 1031 and capital-gains calculators at baker1031.com/calculators that estimate your deferred tax from your sale price, basis, depreciation, state, and income. Treat the result as a planning estimate and confirm with your CPA.
Does my income bracket change the deferred amount?
Yes. Higher income pushes you into the 20% capital gains bracket and triggers the 3.8% NIIT, increasing the deferred amount. Lower income may keep you at the 15% (or even 0%) capital gains rate and below the NIIT threshold, reducing it. Your bracket is one of the key inputs.
Is the recapture rate really higher than capital gains?
Yes. Unrecaptured Section 1250 gain (depreciation recapture on real estate) is taxed at a maximum of 25%, above the 15–20% long-term capital gains rate. This is why heavily depreciated properties carry such a large deferred tax.
On a long-held property, is recapture bigger than capital gains tax?
Often, yes. On a property held for decades, the accumulated depreciation can be substantial, and all of it is recaptured at up to 25%. That higher-rated recapture can exceed the capital gains tax on the appreciation, making it the largest single component of the deferred amount.
How much extra capital does deferral leave me with?
The deferred tax is capital you keep invested rather than paying to the government. On a $500,000 gain in a high-tax state, that's roughly $191,500 more deployed into the replacement property than an outright sale would allow — capital that then compounds for you year after year.
Does deferral matter more for long-term investors?
Yes. Long-term investors accumulate more depreciation (larger recapture) and more appreciation (larger capital gains), so they defer the most tax. The deferred amount also compounds over their longer horizon, and they're best positioned to hold until a step-up at death eliminates the gain entirely.
Glossary
- Deferred Tax
- The combined tax a fully structured 1031 exchange postpones — the amount you'd owe on an outright sale.
- Long-Term Capital Gains
- Gains on property held over a year, taxed federally at 0%, 15%, or 20% by income.
- Depreciation Recapture
- Gain from prior depreciation taxed up to 25% (unrecaptured Section 1250 gain).
- Net Investment Income Tax (NIIT)
- A 3.8% federal surtax on certain investment income for higher-income taxpayers.
- State Capital Gains Tax
- State-level tax on gains, ranging from 0% to over 13%.
- Effective Tax Rate
- The combined rate of all applicable taxes on a gain.
- Adjusted Basis
- Cost plus improvements minus depreciation; subtracted from value to find gain.
- Appreciation
- The portion of gain above your original basis, taxed at capital gains rates.
- Realized Gain
- Sale proceeds minus adjusted basis; the total gain potentially taxed.
- Carryover Basis
- The relinquished basis carried into the replacement property, preserving the deferred gain.
- Compounding
- Earning returns on the full pre-tax equity each cycle, the source of deferral's long-term value.
- Step-Up in Basis
- The reset of basis to fair-market value at death, which can eliminate deferred gain for heirs.
- Modified AGI
- Adjusted gross income with certain add-backs, used to determine NIIT applicability.
Sources & References
- IRS. Like-Kind Exchanges — deferral mechanics
- IPX1031. Taxes deferred and savings
- Baker 1031 Investments. 1031 & DST Calculators
- JTC Group. 1031 and Real Estate: Answers to Common Questions
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.
