Section 1031 Boot Recognition: Cash Boot, Mortgage Boot, and Partial Deferral on Form 8824

You sold a rental duplex for $1,000,000, found a smaller replacement property for $900,000, and assumed the deal was tax-free because you called it a "1031 exchange." Six months later your CPA hands you a Form 8824 with $100,000 of recognized gain, a 25% tax on a chunk of it, and a federal-and-state tax bill that wipes out your closing-cost cushion. What happened?

You triggered boot. And in Section 1031 exchanges, boot is the single most common reason a "fully deferred" exchange turns into a partially taxable one—usually because of details the investor never knew to ask about. Cash left on the table at closing, a smaller new mortgage, a few thousand dollars of personal property thrown into the deal, even a security deposit that travels with the building. Any of these can blow a hole in your deferral.

This guide walks through exactly how the IRS computes boot in a like-kind exchange, when partial deferral kicks in, how depreciation recapture interacts with boot, and the four netting rules that decide whether your "extra" cash or debt cancels out. By the end you should be able to look at any 1031 deal and predict—before closing—how much gain will be taxable.

What "Boot" Actually Is

Section 1031 of the Internal Revenue Code lets a taxpayer who exchanges real property held for productive use in a trade or business or for investment defer gain to the extent the property received is "like-kind" real property. The post-2017 version of Section 1031 applies only to real estate; personal property exchanges were repealed by the Tax Cuts and Jobs Act.

But Section 1031(b) carves out an important exception: if, in addition to like-kind real property, you receive "other property or money," gain is recognized to the extent of the sum of such money and the fair market value of such other property. That "other property or money" is what practitioners call boot.

Boot is taxable. The deferral collapses on a dollar-for-dollar basis up to the realized gain. Crucially, boot does not disqualify the exchange—it just makes part of it taxable. You get partial deferral on the remainder.

There are two major flavors of boot:

Cash boot — actual money you receive, plus the fair market value of any non-like-kind property (a vehicle thrown in with the building, a piece of equipment, even a stock certificate). Net cash received through the qualified intermediary at the end of the exchange is the classic example.
Mortgage boot (also called debt relief boot or liability relief) — the reduction in your liabilities from the relinquished property to the replacement property. If you walked away from $500,000 of debt and only took on $300,000, the $200,000 of net debt relief is treated as if the buyer handed you $200,000 in cash.

A third bucket exists for completeness: non-like-kind property boot, where the seller of the replacement throws in something that isn't real property—stock, a vehicle, personal property. Its fair market value adds to your boot.

How Recognized Gain Is Actually Computed

The formula for recognized gain in a partially taxable 1031 exchange is straightforward once you separate the moving parts.

First, calculate realized gain:

Realized gain = Amount realized − Adjusted basis of relinquished property

The amount realized includes the fair market value of the like-kind replacement property received, plus any boot received, minus any boot paid (and exchange expenses).

Then apply Section 1031(b):

Recognized gain = LESSER of (Realized gain, Boot received)

If you have a $300,000 realized gain and you receive $50,000 of net boot, you recognize $50,000. If you have a $20,000 realized gain and you somehow received $80,000 of boot, you recognize only $20,000—you can't recognize more gain than you actually have.

Recognized gain flows through to your tax return via Form 8824, where Part III walks through the calculation. The taxable portion typically lands on Schedule D for capital gain or Form 4797 for Section 1231 gain, depending on the character of the underlying property.

The Carryover Basis Formula

Whatever boot you don't pay tax on doesn't disappear—it follows you into the new property by reducing your basis. This is the heart of Section 1031: deferral, not exemption.

Basis of replacement property = Adjusted basis of relinquished property
                              + Boot paid
                              − Boot received
                              + Gain recognized
                              − Loss recognized

So if your relinquished property had an adjusted basis of $400,000, you received $50,000 net boot, recognized $50,000 of gain, and paid $0 in boot, your replacement property's basis is $400,000 − $50,000 + $50,000 = $400,000. You preserved the low basis, and depreciation on the new property will be smaller than its market price would suggest.

This low carryover basis is what triggers the bigger tax bill when you eventually sell the replacement property without another exchange. The deferred gain comes home.

Cash Boot: The Easy One to Spot

Cash boot is straightforward in concept and brutal in practice because it's so easy to create accidentally.

The classic cash-boot trigger: you sell the relinquished property for $1,000,000 and only spend $900,000 on the replacement. The $100,000 difference sits at your qualified intermediary (QI) until the 180-day exchange period closes, at which point the QI wires it to you. That $100,000 is cash boot, fully recognized to the extent of your realized gain.

Less obvious cash-boot generators include:

Loan proceeds in excess of payoff. You took out a $700,000 new loan but only needed $500,000 to close. The extra $200,000 came back to you in cash.
Prorated rent and security deposits credited at closing. If the buyer of your old building credits you with $8,000 of prepaid rent, that's $8,000 of cash boot unless offset by your share of the replacement property's deposits.
Personal property in the deal. A turnkey sale that includes appliances, furniture, or business equipment—those items aren't like-kind real property, so their fair market value is boot.
Earnest money deposits returned through the wrong channel. If your earnest money on the replacement property gets refunded to you instead of running through the intermediary, you've taken constructive receipt.
Repair credits, closing-cost credits, or seller concessions that come back to you in cash rather than reducing the purchase price.

Cash boot is also the only kind of boot you can fix by writing a check. Bring more equity to the replacement closing, increase the purchase price, or pay for some of the closing costs outside the exchange (carefully—not all closing costs are exchange-eligible).

Mortgage Boot: The Quietly Dangerous One

Mortgage boot trips up more investors than cash boot because it's invisible until the tax return is being prepared. You can complete an exchange with zero cash leftover and still owe tax because your debt went down.

The IRS treats relief from a liability as the economic equivalent of receiving cash. If your relinquished property carried a $500,000 mortgage and your replacement property has a $300,000 mortgage, you have $200,000 of net debt relief. That's $200,000 of mortgage boot.

Common mortgage-boot scenarios:

Trading down in debt. You sell a $1M property with $500K debt and buy a $1M property with $300K debt. The $200K reduction is mortgage boot, even though you spent the entire $1M.
Lender wouldn't approve the same leverage. Lending standards on the replacement property class (say, a multifamily versus a single-tenant retail) force you into a lower loan-to-value.
You used the deal to pay down debt. Tempting in a high-rate environment, but the IRS treats it as boot.
Assumed loans versus new loans. If you assumed a seller's loan on the relinquished side ($500K) but financed only $400K on the replacement side, you have $100K of mortgage boot.

The fix for mortgage boot is to either take on equivalent or greater debt on the replacement side, or to contribute additional cash at closing to offset the debt relief. That last move uses the netting rules below.

The Four Netting Rules

Boot received and boot paid don't always offset cleanly. The IRS applies four netting rules that decide what can cancel what:

Cash boot paid offsets cash boot received. If you contribute $50,000 of new equity at closing and would otherwise receive $50,000 back through the intermediary, the two cancel.
Cash boot paid offsets mortgage boot received. Bring fresh cash to the closing to offset debt that went down. This is the most common way to "unwind" mortgage boot.
Mortgage boot paid offsets mortgage boot received. Taking on extra debt on the replacement property (or assuming the seller's loan) offsets debt you walked away from on the relinquished side.
Mortgage boot paid does NOT offset cash boot received. This is the asymmetry that surprises people. Borrowing more on the replacement property cannot wash away cash you took out at closing.

That fourth rule matters most when an investor over-leverages the replacement property and pulls out cash. If you sell a $1M property with $500K debt, then buy a $1M replacement with $700K of new debt and receive $200K cash back, you have $200K of cash boot you cannot offset with the extra $200K of debt you took on. You will pay tax on the full $200K.

A clean worked example:

Bob sells Property A for $1,000,000 with $500,000 of debt and $400,000 of adjusted basis. He buys Property B for $1,000,000 with $300,000 of debt. He brings $200,000 of new cash to close.

Realized gain: $1,000,000 − $400,000 = $600,000

Mortgage boot received: $500,000 − $300,000 = $200,000

Cash boot paid: $200,000 (Bob's fresh equity)

Netting rule 2: cash boot paid offsets mortgage boot received → net boot = $0

Recognized gain: $0

Carryover basis: $400,000 + $200,000 (boot paid) − $200,000 (boot received) + $0 = $400,000

Bob defers all $600,000 of gain by contributing $200,000 of personal capital to wash out the debt relief.

Depreciation Recapture: The Hidden Surcharge on Boot

Even when you recognize only a small amount of boot, the character of that gain can sting more than expected.

When you recognize gain in a 1031 exchange, the rules treat it as if you had recognized gain on the underlying property. For Section 1250 real property (most commercial and rental real estate), the recognized portion is first treated as unrecaptured Section 1250 gain up to the lesser of:

Total accumulated depreciation on the relinquished property, or
The recognized gain (the boot)

Unrecaptured Section 1250 gain is taxed at a maximum federal rate of 25%—higher than the 0/15/20% long-term capital gain rate that applies to the remaining recognized gain. So a $100,000 cash boot on a property with $200,000 of accumulated depreciation can be fully taxed at the 25% rate at the federal level, even though long-term capital gain rates would normally cap at 20%.

Section 1245 property (mostly personal property in older exchanges, or short-life real property components) is even worse: depreciation is recaptured as ordinary income up to the total depreciation taken. Post-TCJA, Section 1245 property no longer qualifies for like-kind treatment, but components included in a real estate deal—like cost-segregation-allocated 5-, 7-, or 15-year assets—can still create ordinary-income recapture when boot is present.

The takeaway: the 25% recapture rate applies to the recognized gain, not the realized gain. The smaller the boot, the smaller the recapture exposure. But every dollar of boot is a dollar of high-rate gain until accumulated depreciation is exhausted.

Reporting on Form 8824

Form 8824 is where this all comes together on the tax return. The form has four parts:

Part I — Identification of the like-kind property given up and received, plus the key dates that prove you met the 45-day identification deadline and the 180-day exchange completion deadline.
Part II — Related-party rules. If your exchange involves a related party (family member, controlled entity), there are two-year holding rules that, if violated, retroactively unwind your deferral.
Part III — The calculation engine. Line 15 captures cash and net debt relief received (boot); line 16 captures fair market value of like-kind property received; lines 18–22 compute realized gain, recognized gain, and the carryover basis of the replacement property.
Part IV — A separate regime for federal employees or judges using Section 1043, almost never relevant.

Recognized gain from line 22 flows to Schedule D (for capital gain) or Form 4797 (for Section 1231 gain), with character split between unrecaptured Section 1250 gain and remaining long-term capital gain.

A few Form 8824 line items reliably trip people up:

Line 15 includes net debt relief. Mortgage boot lives here, not on a separate line. Many preparers forget that debt relief on the relinquished side, net of debt assumed on the replacement side, is added to cash received.
Exchange expenses reduce boot first, then increase basis. Qualified intermediary fees, title charges, recording fees, and direct exchange costs reduce the amount of cash boot received before the recognized-gain limitation applies.
State tax treatment may differ. California, Pennsylvania, and a handful of other states have nonconformity rules or clawback regimes ("California claw-back" for in-state-to-out-of-state exchanges) that require continued tracking even after the federal exchange is closed.

Five Practical Rules to Minimize Boot

After watching enough exchanges go sideways, here is the short list of habits that keep deferral intact:

Trade up, not down. Buy a replacement property with equal or greater value, equal or greater equity, and equal or greater debt. This is the "trading up" rule of thumb and it eliminates almost all boot risk by definition.
Solve for total purchase price first, then financing structure. Calculate the minimum acceptable replacement price (relinquished sale price net of exchange expenses) before you start shopping. Walking away from $90K because you couldn't bridge a $50K equity gap is a costly mistake.
Run a draft Form 8824 before signing the replacement contract. A spreadsheet that projects realized gain, boot, and recognized gain takes 30 minutes and prevents six-figure surprises.
Watch personal property carve-outs and prorations. A turnkey rental deal can hide $20K of furniture, appliances, and supplies as boot. Negotiate the closing statement so personal property is paid for outside the exchange, not by the intermediary.
Coordinate with your QI on every wire. Cash that touches your own bank account—even briefly—is constructive receipt and can blow up the exchange entirely, not just create boot. Always direct refunds, earnest money returns, and seller concessions through the intermediary.

Recordkeeping That Survives an Audit

Section 1031 deferral creates one of the longest-lived recordkeeping obligations in the tax code. Your replacement property's basis depends on your relinquished property's basis, which depends on its original cost and depreciation history, which may itself date back to a prior exchange. A property held for thirty years through three exchanges can have a basis traced back to a transaction from the 1990s.

Keep, indefinitely:

The closing statement (HUD-1 or settlement statement) for every property in the chain
The qualified intermediary's accounting of all funds, including timing of deposits and disbursements
The 45-day identification letter
The original adjusted basis worksheet for every property in the exchange chain
Depreciation schedules showing accumulated depreciation, broken out between Section 1250 and any Section 1245 cost-segregated components
Each year's Form 8824
For multistate exchanges, state-specific clawback or reporting forms

When you eventually sell the final replacement property in a taxable transaction, that file is what supports your gain calculation, your unrecaptured Section 1250 gain allocation, and—if you elected the Section 121 home-sale exclusion at some point—your prorated exclusion.

Keep Your Real Estate Books Ready for the Next Exchange

A 1031 exchange is only as clean as the accounting behind it. Tracking adjusted basis across multiple properties, splitting depreciation between original cost and cost-segregated components, capturing each closing statement, and maintaining the audit trail for decades is where most investors lose visibility—and where surprise tax bills are born.

Beancount.io gives real estate investors plain-text accounting that's transparent, version-controlled, and built for the long-horizon recordkeeping that exchanges demand. Every basis adjustment, every depreciation entry, and every property's history lives in human-readable files you actually own. Get started for free and put your exchange chain on a foundation you can still audit ten years from now.