Tennessee taxes no personal income at all, from wages to capital gains, having fully repealed its Hall Tax on interest and dividends on January 1, 2021, so the entire benefit of a 1031 exchange here is federal. Its population growth, led by Nashville, supports multifamily demand, and effective property taxes stay moderate at 0.6% to 0.9%, below the national average.
Tennessee's tax advantage
Tennessee is one of nine states with no personal income tax on earned income, and it taxes no capital gains from real estate sales. The Hall Tax, the state's old levy on interest and dividend income at 1-2%, was fully repealed on January 1, 2021. Residents and out-of-state investors now pay zero state income tax of any kind.
A 1031 exchange - swapping one investment property for another to defer the federal capital-gains bill - works differently when the destination state takes nothing. In Tennessee there is no state tax to defer, so the benefit is entirely federal. A non-resident who sells here faces no state withholding. Nothing about the exchange triggers a state filing. And there is no state clawback on deferred gains, the kind California tracks through its Form 3840.
That matters most on the way out of a high-tax state. A $500,000 gain exchanged from California, where the top rate is 13.3%, or New York, at 10.9%, into Tennessee is eliminated at the state level, not merely deferred, because Tennessee will never tax it. The federal tax is postponed; the state exposure is gone for good.
How Tennessee compares on tax
Here is how the main costs line up against three states exchangers often leave.
Tax Component | Tennessee | California | New York | Illinois |
|---|---|---|---|---|
State income tax on gains | 0% | 13.3% | 10.9% | 4.95% |
Property tax effective rate | 0.6-0.9% | 0.7-1.0% | 1.4-2.0% | 1.7-2.5% |
Transfer tax | $0.37 per $100 | Varies by county | $2-$4 per $500 | $0.50-$1.50 per $500 |
Non-resident withholding | None | 3.33% | Varies | None |
Property tax mechanics
Tennessee property taxes are moderate by national standards, with effective rates typically between 0.6% and 0.9% of market value. How the assessment is calculated, though, depends on the property type:
- Residential property: assessed at 25% of appraised value
- Commercial/industrial property: assessed at 40% of appraised value
- Farm property: assessed at 25% of appraised value, with agricultural-use valuation available
The higher commercial assessment ratio means commercial investors carry a proportionally higher effective rate than residential investors. A $1,000,000 commercial property might owe $12,000 to $14,000 a year, while a residential property of the same value might owe $7,500 to $9,000.
County-level variation is significant. Rates in Davidson County (Nashville) differ from those in Shelby County (Memphis) and Knox County (Knoxville). Calculate the specific property's bill from the county assessor's data.
Market analysis by metro
Nashville
Nashville has been one of the fastest-growing metros in the Southeast, driven by healthcare, music and entertainment, technology, and corporate relocations. Major employers include HCA Healthcare, Bridgestone, Amazon, and Oracle, with significant expansion continuing.
Multifamily: the workhorse exchange asset here. Cap rates - a property's annual net income as a share of its price - run 4.5% to 6% for stabilized Class B and C buildings, the older mid-market tier. Nashville has absorbed a lot of new supply in recent years, which has cooled rent growth from its pandemic-era peaks, but the fundamentals remain strong. Suburban markets like Murfreesboro, Franklin, and Hendersonville offer higher yields than the urban core.
Single-family rentals: the build-to-rent segment, houses put up specifically to lease rather than sell, is active in Nashville's outer suburbs. Demand comes from transplant workers who want a suburban home but are not ready to buy. Cap rates run 4.5% to 5.5% for newer homes.
Short-term rentals: Nashville has restricted non-owner-occupied short-term rentals in residential zones, so many properties that once earned Airbnb income are now limited to long-term tenants. The city-by-city rules are below; check permit status and zoning before identifying any Nashville property for STR use.
Risk factor: new supply. Nashville has a robust construction pipeline, and absorption may not keep pace in a slowdown. Class A properties in overbuilt submarkets face the sharpest rent competition from that new construction.
Memphis
Memphis offers the highest yields in Tennessee. The economy is anchored by FedEx, its largest employer, plus healthcare and logistics. Memphis has not appreciated the way Nashville has, which is exactly what makes it work for cash-flow-focused exchangers.
Multifamily: cap rates run 6% to 8% for Class B and C properties, well above Nashville. Rent growth is modest but consistent. The tenant base is primarily working-class, so property-management quality matters more here than in higher-income markets.
Industrial/logistics: Memphis is a premier logistics hub. Memphis International Airport handles more air cargo than any other airport in the Western Hemisphere, thanks to FedEx. Industrial and warehouse properties near the airport and the logistics corridors offer strong yields with institutional-quality tenants.
Risk factor: uneven population trends. The metro is growing, but some neighborhoods in the city proper have lost residents, so submarket-level data is what separates a stable area from a declining one.
Knoxville
Anchored by the University of Tennessee and Oak Ridge National Laboratory, Knoxville is a stable but smaller market. Multifamily cap rates run 5.5% to 7%. Student housing near UT provides a consistent tenant base, with the higher turnover and management intensity that come with it.
Knoxville tends to fit smaller deals, roughly $500K to $2M, in a stable, university-anchored market. Liquidity is thinner than in Nashville or Memphis.
Chattanooga
An emerging market with a technology and entrepreneurship bent. Volkswagen's manufacturing presence and the city's municipal fiber-optic network have drawn a younger, tech-oriented population. Multifamily cap rates run 5.5% to 7%. The market is small but growing.
Common exchange scenarios
High-tax state exit: A California investor sells a $2M coastal property with a $1.2M gain and exchanges into a Nashville apartment building. That permanently eliminates $159,600 in California state tax (13.3%) and defers the full federal bill. Nashville's higher cap rates also direct more of the purchase price toward current income than the coastal property did.
Memphis cash-flow play: A Midwest investor moves from a single-family portfolio into a Memphis Class C apartment complex. The Memphis property carries higher cap rates (7%+) than the homes it replaces, and it leans on quality local property management to hold up.
Nashville appreciation play: A growth-focused investor exchanges into a Nashville suburban multifamily property and accepts a lower current yield, around 5%, for exposure to the city's population and employment growth.
Cross-state portfolio build: A Tennessee investor sells an appreciated Nashville property and exchanges into Memphis at higher cap rates, spreading across the state while keeping the zero state income tax intact.
Short-term rental rules by city
Tennessee's approach to short-term rentals varies sharply by municipality:
- Nashville: non-owner-occupied STRs are banned in residential zones (since 2022 for new permits), and existing permits are being phased out. Only owner-occupied properties in residential zones can operate as STRs.
- Memphis: less restrictive than Nashville. Permits are available, but the regulations are still evolving.
- Gatlinburg/Pigeon Forge: the state's premier STR market. Cabin and resort-style rentals earn strong seasonal income, with the high seasonality and management complexity that come with mountain properties.
- Knoxville: moderate regulation with a permitting process.
If your exchange strategy relies on short-term rental income, verify the specific municipality's current rules before identifying replacement property.
Pre-exchange checklist for Tennessee
Run the numbers for a specific Tennessee property and model the property tax and insurance costs for your target.
Tennessee's zero state income tax is why exchangers leaving higher-tax states look here. The metros split cleanly: Nashville is the growth market, Memphis the higher-yield one, and Knoxville the smaller, university-anchored option. Moderate property taxes and a low transfer tax keep the carrying costs down.
Frequently asked questions
Does Tennessee tax capital gains from real estate sales?
No. Tennessee levies no state income tax on wages, salaries, or capital gains, and it fully repealed its Hall Tax on interest and dividends in 2021. Sell an investment property here and your only income-tax bill is federal, which is what makes the state so tax-efficient for real estate investors.
How do Nashville's short-term rental restrictions affect 1031 exchanges?
Nashville stopped issuing new non-owner-occupied short-term rental permits in residential zones in 2022 and is phasing out the ones already in place. To run an STR there, the property generally needs to sit in a commercially zoned area that allows it; otherwise the use is limited to long-term tenants. Do not assume an existing STR permit will come with the property when you buy.
What is the property tax difference between residential and commercial property in Tennessee?
Tennessee assesses residential property at 25% of appraised value and commercial property at 40%, so commercial owners carry a proportionally higher effective rate. On a $1,000,000 building, that can mean roughly $12,000 to $14,000 a year in commercial property tax versus $7,500 to $9,000 on residential. The exact figure depends on the county, so verify its rate.
Is Memphis or Nashville better for a cash-flow-focused 1031 exchange?
For cash flow, the number that matters is the cap rate, and Memphis's run higher (6-8%) than Nashville's (4.5-6%). Memphis's yield comes with more active management and closer submarket selection, while Nashville's lower yields put more of the return in appreciation. Which one fits depends on whether you want current income or long-term growth.