--- title: What Are the Pros and Cons of a 721 Exchange? description: Learn more about the pros and cons of a 721 exchange. image: https://www.realized1031.com/hubfs/iStock-2168744763-modified-7b6ec2db-d6d9-43ef-b51e-dd6c8526e38a.jpg --- [![Realized 1031 Exchange Marketplace](https://www.realized1031.com/hs-fs/hubfs/Images/Brand/Logo/Realized/Realized-Logo-Black.png?width=240&height=80&name=Realized-Logo-Black.png "Realized 1031 Logo") ](https://www.realized1031.com/) - [Wealth Management Gap](https://www.realized1031.com/the-wealth-management-gap) - [Our Process](https://www.realized1031.com/how-realized-works) - [Financial Advisors](https://www.realized1031.com/advisor) - [Resources](https://www.realized1031.com/resources) - [The Company](https://www.realized1031.com/about-us) - [Articles](https://www.realized1031.com/blog) [Register](https://www.realized1031.com/marketplace) [Log In](https://www.realized1031.com/login) - Better Business Bureau Rating: **A+** - [FINRA BrokerCheck](https://brokercheck.finra.org/firm/summary/22333) - [Call](tel:1-877-797-1031) **(877) 797-1031** # What Are the Pros and Cons of a 721 Exchange? Posted Feb 19, 2025 ![iS-2168744763](https://www.realized1031.com/hs-fs/hubfs/iStock-2168744763-modified-7b6ec2db-d6d9-43ef-b51e-dd6c8526e38a.jpg?width=1254&height=705&name=iStock-2168744763-modified-7b6ec2db-d6d9-43ef-b51e-dd6c8526e38a.jpg) Real estate investors have various options when deferring capital gains taxes and depreciation recapture on investment property sales. One such method is a [721 exchange](https://www.realized1031.com/blog/what-are-the-pros-and-cons-of-a-721-exchange?hs_preview=cGZcojkS-185808227141), or Umbrella Partnership Real Estate Investment Trust (UPREIT). When used correctly, the UPREIT process can help defer tax liability from property that appreciates. However, it’s essential to understand the benefits and disadvantages of participating in a 721 exchange involvement. Doing so can help determine if the process is right for your investment and financial goals. ### Defining an UPREIT Internal Revenue Code Section 721–”Nonrecognition of Gain or Loss on Contribution”--allows you to contribute an investment property into a partnership (supported by a real estate investment trust, or REIT) in exchange for an interest in that partnership.  That interest comes in the form of Operating Partnership (OP) units. The OP units correspond to the value of the underlying REIT, allowing you to potentially earn a portion of the operating partnership’s income. Over time, you can convert those OP units into REIT shares or cash. However, this action will trigger a taxable event, subjecting any previously deferred gains to capital gains tax. ### 721 Exchange Advantages The UPREIT process can generate the following benefits: Workable tax deferral strategy. Section 721 states that contributing property to a REIT via [an UPREIT](https://www.realized1031.com/blog/upreits-real-estate-and-natural-disasters?hs_preview=naFSWaUA-185739314730) transaction means nonrecognition of any gain or loss on that contribution. This can help you defer taxes while obtaining income from the OP units. Greater portfolio diversification. Contributing a single property into an operating partnership via the UPREIT gives you access to a broader range of income-producing properties owned and managed by the underlying REIT. This diversification could help lower risks from market downturns or property value decreases. Higher potential liquidity. After a holding period, you can convert OP units to REIT shares or cash. It can be easier to “cash out” of OP units rather than owned real estate. No management headaches. Contributing your property to an operating partnership through a 721 exchange means the REIT takes on the responsibility of property and asset management. The REIT’s experienced team understands operational best practices and market trends that could help generate a higher return on investment. ### UPREIT Downsides While participating in a 721 exchange can generate advantages, be sure to consider the potential pitfalls of this strategy: Loss of control. You become a hands-off investor when you contribute your property through an UPREIT. While this can eliminate “trash, toilet and tenant” headaches, it also means you have no say in how the property is managed, financed or sold.  Tax implications. You don’t eliminate tax liability through an UPREIT. You must pay capital gains taxes once you convert OP units into REIT shares or cash. The best bet here is to plan so you can pay the taxes. Market volatility. Your OP shares appreciate or depreciate depending on the performance of the underlying REIT. The REIT owns and manages diverse properties. However, those properties are regularly exposed to market and economic conditions, and a downturn could impact the value of your shares. Lock-up period. It’s almost certain that you won’t be able to convert your OP units into REIT shares or cash immediately. Depending on the UPREIT agreement, you might have to wait a year or longer while the REIT integrates your property into its operations. This could be a problem if you need immediate cash. ### Understanding UPREITs  A 721 exchange can be advantageous for your investment and financial goals. But, glossing over the possible issues could cost you time and money and lead to frustration. When considering an UPREIT as a tax-deferral tool, talk with your tax advisor or other real estate professionals to learn more and to determine if using an UPREIT makes sense for your situation.   *The tax and estate planning information offered by the advisor is general in nature.  It is provided for informational purposes only and should not be construed as legal or tax advice.  Always consult an attorney or tax professional regarding your specific legal or tax situation.*   A Guide to UPREIT Transactions [![A Guide to UPREIT Transactions](https://www.realized1031.com/hs-fs/hubfs/Images/UI/graphics/composites/UPREIT-eBook-250b.png?width=250&height=250&name=UPREIT-eBook-250b.png "Learn more about the UPREIT ...") ](https://www.realized1031.com/blog/what-are-the-pros-and-cons-of-a-721-exchange#blogform) Download eBook ---   --- ### A Guide to UPREIT Transactions ![A Guide to UPREIT Transactions](https://www.realized1031.com/hs-fs/hubfs/Images/UI/graphics/composites/UPREIT-eBook-550b.jpg?width=550&height=600&name=UPREIT-eBook-550b.jpg) Learn more about the UPREIT process. 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However, it’s essential to understand the benefits and disadvantages of participating in a 721 exchange involvement. Doing so can help determine if the process is right for your investment and financial goals. Defining an UPREIT Internal Revenue Code Section 721–”Nonrecognition of Gain or Loss on Contribution”--allows you to contribute an investment property into a partnership (supported by a real estate investment trust, or REIT) in exchange for an interest in that partnership. That interest comes in the form of Operating Partnership (OP) units. The OP units correspond to the value of the underlying REIT, allowing you to potentially earn a portion of the operating partnership’s income. Over time, you can convert those OP units into REIT shares or cash. However, this action will trigger a taxable event, subjecting any previously deferred gains to capital gains tax. 721 Exchange Advantages The UPREIT process can generate the following benefits: Workable tax deferral strategy. Section 721 states that contributing property to a REIT via an UPREIT transaction means nonrecognition of any gain or loss on that contribution. This can help you defer taxes while obtaining income from the OP units. Greater portfolio diversification. Contributing a single property into an operating partnership via the UPREIT gives you access to a broader range of income-producing properties owned and managed by the underlying REIT. This diversification could help lower risks from market downturns or property value decreases. Higher potential liquidity. After a holding period, you can convert OP units to REIT shares or cash. It can be easier to “cash out” of OP units rather than owned real estate. No management headaches. Contributing your property to an operating partnership through a 721 exchange means the REIT takes on the responsibility of property and asset management. The REIT’s experienced team understands operational best practices and market trends that could help generate a higher return on investment. UPREIT Downsides While participating in a 721 exchange can generate advantages, be sure to consider the potential pitfalls of this strategy: Loss of control. You become a hands-off investor when you contribute your property through an UPREIT. While this can eliminate “trash, toilet and tenant” headaches, it also means you have no say in how the property is managed, financed or sold. Tax implications. You don’t eliminate tax liability through an UPREIT. You must pay capital gains taxes once you convert OP units into REIT shares or cash. The best bet here is to plan so you can pay the taxes. Market volatility. Your OP shares appreciate or depreciate depending on the performance of the underlying REIT. The REIT owns and manages diverse properties. However, those properties are regularly exposed to market and economic conditions, and a downturn could impact the value of your shares. Lock-up period. It’s almost certain that you won’t be able to convert your OP units into REIT shares or cash immediately. Depending on the UPREIT agreement, you might have to wait a year or longer while the REIT integrates your property into its operations. This could be a problem if you need immediate cash. Understanding UPREITs A 721 exchange can be advantageous for your investment and financial goals. But, glossing over the possible issues could cost you time and money and lead to frustration. When considering an UPREIT as a tax-deferral tool, talk with your tax advisor or other real estate professionals to learn more and to determine if using an UPREIT makes sense for your situation. The tax and estate planning information offered by the advisor is general in nature. It is provided for informational purposes only and should not be construed as legal or tax advice. 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