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California 1031 Clawback and Form FTB 3840: Exchanging Out of State

By Matthew Martinez, Founder, CEO & Managing Broker, Diamond Real Estate Group. California DRE #01869679.

The California “clawback” is the state’s right to tax the gain you deferred when you exchanged California property for property in another state, once that replacement property is later sold in a taxable sale, even if you no longer live in California. To keep track of it, the Franchise Tax Board requires Form FTB 3840 for the year of the exchange and every year after until the deferred gain is recognized. Residency does not matter: anyone who exchanges California real property for like-kind property outside California must file.

This matters most to long-time owners of Bay Area and North Bay rentals who plan to trade into property in a lower-cost state, often as part of a move. The exchange still defers the tax; it just does not erase California’s claim. This page covers how the rule works, the Form 3840 filing, what triggers the tax, the Form 593 step at escrow and a worked example. For exchange basics, start with our California 1031 exchange guide.

How California keeps its claim on the deferred gain

California taxes nonresidents on income from California sources, and the FTB’s guide for nonresidents says the state “taxes real property based upon where the property is located.” For exchanges, the same guide says that when a nonresident exchanges California property for out-of-state property, “the realized gain or loss will be sourced to California,” and that “taxation will not occur until the gain or loss is recognized.”

The Form 3840 instructions put it simply: the source of the gain on California property is fixed when the gain is realized, at the exchange, and that source stays with it however long the gain is deferred. The FTB’s own example is a Texas resident who deferred a $15,000 gain on a California condo; when the Texas replacement property was later sold, that deferred gain “has a source in California and is taxable by California.”

Who has to file Form FTB 3840

Revenue and Taxation Code section 18032 requires an annual information return when gain or loss on an exchange of property in California is not recognized because of Section 1031 and the property received is outside the state. It applies to exchanges in taxable years beginning on or after January 1, 2014.

Who: individuals, estates, trusts, partnerships, LLCs and corporations, regardless of residence or commercial domicile. A disregarded entity does not file separately; its owner does.
What property: for 2025 and later tax years, real property only, matching the federal limit on like-kind exchanges.
More than one exchange: file a separate Form 3840 for each exchange in which California property was given up for out-of-state property.

Owners who sell through an LLC or partnership should ask their CPA which return carries the form; entities have their own due dates.

When and how to file

You file Form 3840 for the year of the exchange and for each later year until the California-sourced deferred gain is recognized.

Your situation	How to file
You file a California return that year	Attach Form 3840 to the return; no separate signature is needed
You have no other California filing requirement	Complete the whole form, sign Side 1, and mail it to Franchise Tax Board, PO Box 1998, Rancho Cordova, CA 95741-1998
Each year the gain stays deferred	Check the “Annual FTB 3840” box and report the original exchange year
The year the gain is recognized	File a “Final FTB 3840,” identify the exchange year, and attach a statement explaining how the gain was recognized

For the 2025 tax year, individuals, estates and trusts filing on a calendar year had a due date of April 15, 2026, or October 15, 2026 with an extension. Partnerships and LLCs taxed as partnerships had March 16, 2026, or October 15, 2026 extended.

What the form reports

The form carries the federal figures from Form 8824 and then California’s own: the address and ownership share of each property given up, the sales price, selling expenses and California adjusted basis, which can differ from your federal basis, and the California-sourced deferred gain. Schedule A then allocates that deferred gain among the properties received.

What happens if you do not file

If you skip Form 3840 and also do not file a California return, section 18032 lets the FTB estimate your net income from any available information, including the deferred gain, and propose an assessment of tax, interest and penalties. In other words, the FTB can treat the deferred gain as taxable now. Keeping the filing current is cheap protection, and it also keeps a clean record of the California basis your CPA will need when you eventually sell.

What triggers California tax on the deferred gain

The California-sourced gain is recognized when you sell or otherwise dispose of the property you received in a later taxable transaction. A few situations to raise with your tax adviser:

A taxable sale of the replacement property. The California-sourced deferred gain becomes taxable by California, and you file the Final Form 3840.
An installment sale. The FTB’s nonresident guide says California taxes installment proceeds received by a nonresident to the extent the gain came from California; interest on the note generally is not California-source for a nonresident.
Another exchange. The instructions do not specifically address exchanging the out-of-state property again. Ask your CPA how the California-sourced gain carries into a later exchange and whether annual filing continues.
Boot in the original exchange. Cash or other property you receive in the exchange is generally taxable in the year of the exchange, to the extent of your gain, rather than deferred. See boot and partial exchanges.

The FTB materials we reviewed do not address what happens to the California-sourced gain if the owner dies holding the replacement property, so ask your estate planner and CPA.

A worked example (illustrative numbers)

These figures are invented to show the mechanics. They are not a forecast or tax advice.

An owner sells a Sonoma County fourplex for $1,800,000 with $100,000 of selling expenses. Her California adjusted basis is $600,000, so the realized gain is $1,100,000.
Through a qualified intermediary, she buys a $2,000,000 rental property in Nevada, reinvesting all the proceeds and replacing her debt, so the full $1,100,000 is deferred.
She files Form 3840 with her California return for the exchange year, reporting $1,100,000 of California-sourced deferred gain, and files it every year after, including after she moves to Nevada.
Eight years later she sells the Nevada property in a taxable sale. Under the FTB’s rule, the $1,100,000 of deferred gain has a California source and is taxable by California, even though she is a Nevada resident. She files a Final Form 3840.

How California treats any appreciation that built up after the exchange, and how depreciation and basis adjustments flow through, depends on her facts; that is a question for her CPA. The example also ignores federal tax, which is a separate calculation.

The Form 593 step at escrow

When the California property sells, escrow handles state withholding on Form 593. The instructions treat a deferred exchange as exempt from withholding at the initial transfer; the seller certifies the exchange in Part IV and signs under penalty of perjury.

If you receive more than $1,500 in cash or other property out of the exchange, the qualified intermediary must withhold on that boot.
If the exchange fails, the intermediary withholds 3 1/3% of the sales price, or an amount based on the gain if you elect the alternative method.
A false certificate carries a penalty of $1,000 or 20% of the required withholding, whichever is greater.

Our Form 593 withholding guide covers the form line by line, and our qualified intermediary guide explains the intermediary’s role. Diamond may refer you to partners we work with; you’re free to choose any provider.

Exchanging out of California when you retire or move

Many owners pair an exchange with a move. Two practical points:

The filing follows you. Moving out of California does not end the Form 3840 requirement or California’s claim on the deferred gain. Put the annual filing on your new CPA’s checklist.
Timing the sale and the move. Plan the listing, the 45-day identification and the 180-day closing around your move; our guide to selling a home while living outside the area covers handling a sale remotely, and our post on retiring from California to Las Vegas covers the relocation side.

An exchange only covers investment or business property. If you are selling the home you live in, see our guide to capital gains on a home sale in California. Owners selling a rental outright can compare options in selling a rental property in California, and owners unwinding several properties can read our page on portfolio disposition.

This is general information, not tax advice; talk to a California CPA or tax adviser about your exchange before you sign a listing or exchange agreement.

Questions people ask

What is the California 1031 clawback?

It is California’s right to tax the gain deferred on California property exchanged for out-of-state property when the replacement property is later sold in a taxable transaction. The gain keeps its California source no matter where you live then.

Do I have to file Form 3840 if I no longer live in California?

Yes. The requirement applies regardless of residence. If you have no other California filing requirement, you complete and sign the form and mail it to the FTB on its own.

How long do I have to file Form 3840?

Every year from the year of the exchange until the California-sourced deferred gain is recognized, usually when you sell the replacement property in a taxable sale.

What happens if I forget to file Form 3840?

If you also file no California return, the FTB may estimate your income, including the deferred gain, and propose an assessment of tax, interest and penalties. Ask a CPA to bring missed years current.

Is California withholding taken at closing on a 1031 exchange?

Not at the initial transfer of a deferred exchange. The intermediary withholds if you receive more than $1,500 in boot, and withholds 3 1/3% of the price, or the alternative amount, if the exchange fails.

Does the clawback apply if I exchange into another California property?

No. Form 3840 applies only when the replacement property is outside California; California property stays within the state’s reach anyway.

Does the clawback apply to exchanges before 2014?

The annual filing in section 18032 applies to exchanges in taxable years beginning on or after January 1, 2014. The sourcing rule in the FTB’s nonresident guide is not limited that way, so ask your CPA about an older exchange.

If you own California rental property and are weighing an exchange into another state, we can help you plan the sale side and coordinate with your intermediary and CPA. Learn how Diamond works with investors.

Sources & notes

The worked example uses invented numbers. Tax rules and forms change each year; check the current FTB instructions with your CPA.

Last reviewed October 2026 by Matthew Martinez.