If you’ve inherited your mom’s 1960s-style house, you might be wondering what to do with it. 

The most obvious options are moving in, renting or selling it.

But another, lesser-known option exists.

That choice is called the 1031 exchange: It allows you to sell the house and buy the same type of property with an equal or higher value as an investment. 

You won’t immediately have to pay taxes on the deal if you do it correctly. The new property can even be “better, bigger, more expensive property,” said Rob Matt, director of tax services at the certified public accounting firm Kaufman Rossin in Miami.   

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A 1031 exchange won't be easy, especially with its strict timeline requirement. But with professional help, “it can be pretty beneficial if part of your wealth-building journey includes real estate,” said Dimitri Pan, senior wealth adviser at the financial services firm Ally.  

How does a 1031 exchange work? 

Note that "like-kind" means that the property has the same nature or character, not quality.

The new investment property must also have a purchase price equal to or higher than the selling price of your current property. And any loan amount must equal or be higher than the original one, otherwise, you may trigger a tax on any benefit or money you pocket in the deal. 

Basic example: You sell a property for $650,000 with a $150,000 mortgage.  You’d have to buy a replacement property for at least $650,000 and borrow at least $150,000 to pay for it. 

Have you done a 1031? Share your story with Medora: [email protected]

Timing and the money trail are key 

Important steps you must follow to stay compliant with IRS rules: 

1. You only have 45 days from the date of the sale of the inherited property to identify a replacement property that must be equal to or greater in value than the sold property 

1. You have only 180 days from the date of the sale of the inherited property to close on the new property.  

1. You must use a neutral qualified intermediary to hold the money from the sale until it's used to acquire the replacement property. You can’t ever hold that money or you’ll be disqualified from a 1031 exchange. 

Note: In the case of your parent's old home, experts differ on whether you can immediately sell that house in a 1031 exchange.

Matt of Kaufman Rossin says the IRS considers the “intent” of a property, such as how long you may have actively sought or had tenants. He suggests putting “a year of daylight between transactions” to be safe.

“It’s easy to have a tenant and rent for a year and then sell it for a larger, better place,” he says.

Other finance experts say that’s not necessary. But it’s best to consult with a professional before doing anything. 

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What are the benefits of a 1031 exchange? 

Deferring taxes is the biggest benefit. You don’t have to pay capital gains tax, or tax on profits of the property you sell, because you’re using all the proceeds to buy another property.  

With a property inherited as a result of a death, you also benefit from the “step-up basis,” which means the property is valued at the current market value, not the original purchase price.  

So, if the house your mother bought for $100,000 is worth $500,000 at her death, you would inherit it at the $500,000 value. If you sold it immediately, you wouldn’t pay tax on the $400,000 increase in value. If you used it in a 1031 exchange, you also wouldn't immediately pay tax, but you’d also own a half-million-dollar or more investment property. 

Is there a limit on 1031 exchanges? 

Because there’s no limit on how many times you can use a 1031 exchange, you can split the inherited house with a sibling. You each can use a 1031 for an investment property worth $250,000 or more if the house is worth $500,000. Neither of you would immediately pay taxes. 

Once you have an investment property, you can repeat this as often as you like. If you have investment property but your kid goes to college, you can do a 1031 exchange for property where your child is attending school and rent it out to your child and classmates. You just can’t do this with overseas property, the IRS says. 

Can I use a 1031 exchange to build wealth? 

Yes.  

“You can sell a property, buy another, and keep building up your portfolios of property," said Pan, the adviser from Ally. “If it gets to the point that I pass away, all these capital gains die with me. Heirs get the properties at a step-up cost basis and won’t inherit tax liability.”   

Or they can use your properties in 1031 exchanges to build their portfolios and continue deferring taxes. "This can create generational wealth,” Pan said. 

When do you finally pay taxes? 

Taxes are due when the property is sold without replacement. You’d pay capital gains tax on the appreciation of any property you sell. 

Even then, there's one last way to avoid some of those taxes you’ve put off. 

“The 1031 exchange lets you kick the can down the road, and then when you’re done, you throw out the can,” Matt said. "When you pass away, you step up the tax basis of the property, so if you (your heirs) sell shortly after death, you (heirs) won’t realize much gain if any.” 

Medora Lee is a money, markets and personal finance reporter at USA TODAY. You can reach her at [email protected] and subscribe to our free Daily Money newsletter for personal finance tips and business news every Monday through Friday morning.