The short answer
Exchange expenses are the closing costs you pay to dispose of the relinquished property and acquire the replacement, such as brokerage commissions, attorney fees and deed preparation fees. Publication 544 subtracts them from the consideration received and lets you net them against cash boot; when no gain is recognized, Publication 551 adds acquisition-side costs to the replacement's basis. Items that merely appear on the closing statement, such as prorated taxes and rents, security deposits and repairs, are not exchange expenses.
At a glance
| Includes | Commissions, attorney fees, deed preparation fees and other closing costs on either side |
|---|---|
| Excludes | Property tax and rent prorations, security deposits and repairs |
| Effect | Reduce amount realized and boot; otherwise added to basis |
| Form 8824 | Netted on line 15, or added on line 18 |
The IRS defines the term in its publications, and Form 8824 says where it goes.
Publication 544 says exchange expenses generally include the closing costs you pay on the disposition of the property given up, such as brokerage commissions, attorney fees and deed preparation fees, and also the closing costs on the acquisition of the replacement. It adds that property taxes, rent prorations, security deposits and repairs on a closing statement are not exchange expenses.
The Form 8824 instructions reduce line 15, the boot figure, by exchange expenses but not below zero. Any expenses not used that way go on line 18 with your adjusted basis.
A separate rule, Reg. section 1.1031(k)-1(g)(7), lets transactional items such as commissions, prorated taxes, recording or transfer taxes and title company fees appear on closing statements without breaking the intermediary safe harbor. That rule protects the exchange structure; it does not decide whether an item reduces boot.
Publication 551 lists the same examples for the acquisition side, brokerage commissions, attorney fees and deed preparation fees, and points back to its settlement-costs discussion for others. The common thread is a cost of closing the transfer itself, not an operating cost of the property.
In a hypothetical exchange, the costs cut taxable boot dollar for dollar.
Hypothetically, you exchange investment real estate worth $600,000, with a $200,000 basis, for real estate worth $560,000 plus $40,000 in cash, and you pay $30,000 of exchange expenses. Your amount realized is $570,000 and your realized gain is $370,000.
Recognized gain is $10,000: the $40,000 cash less the $30,000 of expenses. Without the netting it would be $40,000. The replacement's basis is $200,000, its $560,000 value less the $360,000 deferred. Run your own numbers with your CPA.
If no cash had come back and no gain were recognized, Publication 551 says closing costs incurred to acquire the replacement are added to its basis. Either way the costs are not lost: they reduce gain now or reduce gain later through a higher basis.
It bites when sellers treat every line on the settlement statement as an exchange cost.
Prorations and deposits credited to the buyer are not exchange expenses, so paying them with exchange money does not reduce boot; see security deposits and rent prorations. Lender charges on a replacement loan raise their own question, covered in loan fees and points paid from exchange funds.
Whether a cost is deductible, added to basis or netted against boot is covered in whether exchange fees are deductible or added to basis. The netting itself is explained under net boot.
Read the settlement statement line by line before it is signed, and ask the closer to show which items your exchange funds paid. Items that are not exchange expenses but are paid from exchange money can turn into boot.
Related questions
Do exchange expenses reduce mortgage boot too?
Yes. The Form 8824 instructions reduce the whole line 15 total, which includes net liabilities assumed by the other party, by exchange expenses.
What if expenses exceed the boot?
Line 15 stops at zero. Expenses not used to reduce it go on line 18, which increases the basis of the replacement property.
Is paying closing costs from exchange funds a problem?
Transactional items that appear on a typical closing statement can be paid without breaking the safe harbor under Reg. section 1.1031(k)-1(g)(7). Whether they reduce boot is a separate test; see closing costs paid from exchange funds.
Sources
Checked against these publications on September 30, 2026. Rules and figures change; confirm the current version with your CPA or attorney before you act. This page is general information, not tax or legal advice.