Latest Century 1031 Exchange Developments

February 15, 2008

IRS UNVEILS NEW REVENUE PROCEDURE THAT PROVIDES A SAFE HARBOR FOR LIKE-KIND EXCHANGES OF DWELLING UNITS.
Revenue Procedure 2008-16 provides a safe harbor under which the IRS will not challenge whether a dwelling unit qualifies as property held for productive use in a trade or business or for investment for purposes of Section 1031.

February 11, 2008

IRS NOTICE ADDRESSES SECTION 1031 EXCHANGES AND DEPRECIATION RECAPTURE IN THE GO ZONE.
Taxpayers who transfer Go Zone property in a like-kind exchange or involuntary conversion must acquire property in the GO Zone or substantially used in the GO Zone, or the IRS will recapture the extra depreciation benefit under Section 1400N(d).

February 1, 2008

IRS RULES THAT DEVELOPMENT RIGHTS ARE LIKE-KIND TO FEE INTEREST IN REAL PROPERTY.
In an Private Letter Ruling the IRS rules that Development Rights are like-kind to fee interest in property exchanged through a qualified intermediary. (P.L.R. 200805012)

January 15, 2008

PROPOSAL LIMITING EXCHANGES OF COLLECTIBLES REMOVED FROM FARM BILL.
The Federation of Exchange Accommodators successfully lobby to remove provision disallowing exchanges of collectibles from Senate Farm Bill.

November 9, 2007

A TAXPAYER’S DISREGARDED ENTITY THAT RECEIVES ALL INTERESTS IN A PARTNERSHIP THAT OWNS REPLACEMENT PROPERTY QUALIFIES UNDER SECTION 1031.
In a Private Letter Ruling the IRS addresses two issues regarding the exchange of property held for productive use or investment. (P.L.R. 200807005)

August 10, 2007

ACTIONS OF SUBSIDIARIES ARE ATTRIBUTABLE TO TAXPAYER FOR PURPOSES OF SECTION 1031.
In a Private Letter Ruling the IRS concludes that the actions of subsidiaries are attributable to the Taxpayer in a like-kind exchange. (P.L.R. 200732012)

July 27, 2007

SECTION 1031 WILL NOT APPLY TO TRIGGER GAIN RECOGNITION ON LIKE-KIND EXCHANGE.
In a Private Letter Ruling the IRS rules that because the parties involved did not have the intent to avoid federal income tax by the exchange of their interests and subsequent sale of some of the interests being exchanged within two years, the transaction was not structured to avoid the purposes of Section
1031(f). (P.L.R. 200730002)

July 13, 2007

SECTION 1031(f) WILL NOT APPLY TO TRIGGER RECOGNITION OF ANY GAIN REALIZED WHEN A TAXPAYER BUYS REPLACEMENT PROPERTIES FROM UNRELATED PARTIES.
In a Private Letter Ruling the IRS concludes that Section 1031(f) will not apply to trigger recognition of any gain realized when a Taxpayer buys replacement properties from unrelated parties. (P.L.R. 200728008)

May 30, 2007

MOORE V. COMMISSIONER: VACATION HOMES.
The Tax Court finds the disposal of one vacation home and acquisition of a second vacation home does not qualify as a tax-free like-kind exchange under Section 1031 because the homes were not held for investment.

IRS UNVEILS NEW REVENUE PROCEDURE THAT PROVIDES A SAFE HARBOR FOR LIKE-KIND EXCHANGES OF DWELLING UNITS.

Revenue Procedure 2008-16 provides a safe harbor under which the IRS will not challenge whether a dwelling unit qualifies as property held for productive use in a trade or business or for investment for purposes of Section 1031.

Effective March 10, 2008, Rev. Proc. 2008-16, will enable taxpayers to conduct tax-free exchanges of dwelling units that are rented to others, but occasionally used by the owners for personal purposes. Traditionally, the IRS has held that gain or loss from an exchange of personal residences may not be deferred under Section 1031 because a personal residence is not property held for productive use in a trade or business or for investment. With this revenue procedure, the IRS now recognizes that many taxpayers hold dwelling units primarily to rent, but occasionally use the properties for personal purposes, and these situations could qualify for a Section 1031 exchange.

For the purposes of Rev. Proc. 2008-16, a dwelling unit is described as “real property improved with a house, apartment, condominium or similar improvement that provides basic living accommodations including sleeping space, bathroom and cooking facilities.” The IRS will not challenge whether a dwelling unit qualifies as a Relinquished Property under § 1031 if the property is owned by the taxpayer for at least 24 months immediately prior to the exchange and within each of the two 12-month periods immediately preceding the exchange (comprising the 24-month period), the taxpayer (a) rents the dwelling unit to another person at a fair rental for 14 days or more, and (b) the period of the taxpayer’s personal use of the property does not exceed the greater of 14 days or 10 percent of the number of days during the 12-month period that the dwelling unit is rented at a fair rental.

A property will qualify as Replacement Property if it is owned by the taxpayer for at least 24 months immediately following the exchange, and, in each of the 12-month periods immediately after the exchange the taxpayer (a) rents the dwelling unit to another person at a fair rental for 14 days or more, and (b) the taxpayer’s personal use of the dwelling unit does not exceed the greater of 14 days or 10 percent of the number of days during the 12-month period that the dwelling unit is rented at a fair rental. If a taxpayer files a federal income tax return and reports the transaction as an exchange based on the expectation that the Replacement Property will meet these qualifying use standards, but the Replacement Property does not, the taxpayer should file an amended tax return and not report the transaction as a Section 1031 exchange.

Lastly, personal use means use by (a) the taxpayer or any other person who has an interest in the unit (including a tenant in common), or by any member of the family of the taxpayer or other such person; (b) any individual who uses the unit under an arrangement which enables the taxpayer to use some other dwelling unit; or (c) by any individual if rented for less than a fair market rental. A taxpayer may rent the unit to a family member if the family member uses it as a principal residence, not as a vacation home, and pays fair market rent.

Click here to read Rev. Proc. 2008-16 in its entirety.

Diagram:
A Taxpayer’s Basic Requirements Under Rev. Proc. 2008-16

Relinquished Property	Replacement Property
1. Own unit for at least two consecutive 12-month periods (total of 24 consecutive months) immediately prior to the exchange.	1. Own unit for two consecutive 12-month periods (total 24 consecutive months) immediately following the exchange.
2. Within each 12-month period, the unit must be rented at a fair rental to another person for 14 days or more.	2. Within each 12-month period, the unit must be rented at a fair rental to another person for 14 days or more.
3. Personal use during each 12-month period cannot exceed the greater of 14 days or 10 percent of the number of days the unit is rented as a fair rental.	3. Personal use during each 12-month period cannot exceed the greater of 14 days or 10 percent of the number of days the unit is rented as a fair rental.

IRS NOTICE ADDRESSES SECTION 1031 EXCHANGES AND DEPRECIATION RECAPTURE IN THE GO ZONE.

Taxpayers who transfer Go Zone property in a like-kind exchange or involuntary conversion must acquire property in the GO Zone or substantially used in the GO Zone, or the IRS will recapture the extra depreciation benefit under Section 1400N(d).

On February 11, 2008 the IRS issued Notice 2008-25 to provide guidance for taxpayers who transfer Gulf Opportunity Zone (“GO Zone”) property in a like-kind exchange or involuntary conversion. Taxpayers who own GO Zone property, in the wake of Hurricane Katrina and the other Gulf Coast storms of 2005 and 2006, are generally eligible for a 50 percent additional first-year depreciation deduction on the property. Notice 2008-25 says that if a Taxpayer wishes to relinquish GO Zone property in a like-kind exchange or as the result of an involuntary conversion, and the Replacement Property is not Go Zone property or substantially used in the GO Zone, or in the active conduct of a trade or business by the taxpayer in the GO Zone, there will be recapture.

The IRS will not recapture if the Replacement property is not GO Zone property, but substantially used in the GO Zone in the active conduct of a trade or business.

Click here to read Notice 2008-25.

IRS RULES THAT DEVELOPMENT RIGHTS ARE LIKE-KIND TO FEE INTEREST IN REAL PROPERTY.

In an Private Letter Ruling the IRS rules that Development Rights are like-kind to fee interest in property exchanged through a qualified intermediary. (P.L.R. 200805012)

The Taxpayer, a Subchapter C corporation, owns Property 1 and Property 2 located in the same City. The Taxpayer intends to transfer its fee interest in Property 1 (the “Relinquished Property”) to a Qualified Intermediary (“QI”) pursuant to an Exchange Agreement that intends to meet the deferred like-kind exchange provisions of the Internal Revenue Code. The QI will sell the Relinquished Property to a third-party purchaser in an arms-length transaction. The QI will then use part of the cash proceeds from this sale to purchase Development Rights (“Replacement Property”) from a third-party seller, then transfer the rights to the Taxpayer, who will cause them to be recorded with respect to Property 2. Thus, Property 2 can be developed with greater floor space than would have otherwise been allowed.

Under the local City ordinances, Development Rights exist permanently and are not at the discretion of a City agency or other decision-making authority, and the state tax statutes define real property to include such rights.

Therefore, the IRS concluded that the Development Rights the taxpayer intends to acquire as Replacement Property will be considered like-kind to the fee interest in the Relinquished Property for purposes of Section 1031.

Click here to read the Private Letter Ruling.

PROPOSAL LIMITING EXCHANGES OF COLLECTIBLES REMOVED FROM FARM BILL.

The Federation of Exchange Accommodators successfully lobby to remove provision disallowing exchanges of collectibles from Senate Farm Bill.

The 2007 Senate Farm Bill contained three proposals that impacted Section 1031 exchanges. These proposals, if passed, would have:

Disallowed exchanges involving subsidized farmland with nonagricultural land;
Disallowed exchanges of collectibles; and
Allowed exchanges of certain irrigation or ditch company stock if the state recognizes such stock as interests in real property.

The first 2 of these proposals would negatively affect Section 1031 exchanges. The Federation of Exchange Accommodators worked with members of the art community and successfully had the provision on collectibles removed from the Senate Farm Bill in December 2007.

Of note is the fact that the subsidized farmland limitation still remains in the Senate-version of the bill, but the House of Representatives’ version of the bill contains no Section 1031 provision. Therefore, the Senate and the House will have to meet on these differences, at which point the fate of the subsidized farmland provision will then be determined.

A TAXPAYER’S DISREGARDED ENTITY THAT RECEIVES ALL INTERESTS IN A PARTNERSHIP THAT OWNS THE REPLACEMENT PROPERTY QUALIFIES UNDER SECTION 1031.

In a Private Letter Ruling the IRS addresses two issues regarding the exchange of property held for productive use or investment. (P.L.R. 200807005)

In this Private Letter Ruling, the Taxpayer, a limited partnership, proposes a like-kind exchange though a qualified intermediary (“QI”), under which it will relinquish one property and create a disregarded wholly owned limited liability company that will receive all of the partnership interests of a partnership that owns the Replacement Property. The partnership will continue to operate after the closing with the Taxpayer and LLC holding all interests.

The letter addresses two issues:
1. Can a Taxpayer defer gain on the sale of a Relinquished Property under § 1031 if, through a QI, the Taxpayer acquires 100% of the interests of the partners in a Partnership which owns the Replacement Property; and

2. Can the Taxpayer hold the Replacement Property in a newly-created state law partnership that is disregarded for federal income tax purposes without violating the requirement of § 1031 that the Replacement Property and the Relinquished Property both must be held by the Taxpayer in a trade or business or for investment.

The IRS ruled that the taxpayer may defer gain on the sale of the Relinquished Property because, for federal tax purposes, the taxpayer would be considered the owner of the Replacement Property, as all interests in the partnership will be held by the taxpayer through the disregarded entity.

Additionally, the IRS said that the Taxpayer may hold the Replacement Property in a partnership disregarded for federal income tax purposes without violating the requirements of § 1031.

Click here to read the Private Letter Ruling.

ACTIONS OF SUBSIDIARIES ARE ATTRIBUTABLE TO TAXPAYER FOR PURPOSES OF SECTION 1031.

In a Private Letter Ruling the IRS concludes that the actions of subsidiaries are attributable to the Taxpayer in a like-kind exchange. (P.L.R. 200732012)

This Private Letter Ruling addresses the following situation:
LLC1 is 100 percent owned by LLC2, which is 100 percent owned by the Taxpayer, treated as a partnership for federal tax purposes. LLC1 and LLC2 are disregarded as entities separate from Taxpayer. LLC1 owns a hotel property (“Relinquished Property”) and is conducting an exchange through a Qualified Intermediary (“QI”). LLC1 will assign all of its rights, title, interest and obligations under the Exchange Agreement to LLC2, who will then assign all of its rights, title, interest and obligations under the Exchange Agreement to the Taxpayer.

The Replacement Property will be acquired by a newly created subsidiary, LLC3, which will also be 100 percent owned by Taxpayer and disregarded as an entity separate from the Taxpayer.

The IRS ruled that the actions of LLC1 and LLC2 are attributable to the Taxpayer and the acquisition of the Replacement Property by LLC3 will be treated as an acquisition by the Taxpayer for purposes of Section 1031.

Click here to read the Private Letter Ruling.

SECTION 1031 WILL NOT APPLY TO TRIGGER GAIN RECOGNITION ON LIKE-KIND EXCHANGE.

In a Private Letter Ruling the IRS rules that because the parties involved did not have the intent to avoid federal income tax by the exchange of their interests and subsequent sale of some of the interests being exchanged within two years, the transaction was not structured to avoid the purposes of Section 1031(f). (P.L.R. 200730002)

This transaction proposed the exchange of partial interests in two parcels of real property between related persons and the sale of one of those parcels to a City within two years of the exchange.

There are three parties to the exchange and each party holds an inherited one-third interest as tenant-in-common in and to two real properties. Two out of the three parties wish to sell the real estate and use their share of the proceeds for alternative investments and personal purposes. The third party, the “Taxpayer”, wishes to retain the real estate investment. One of the properties has one-half the value of the other.

The local City has agreed to purchase the more valuable property. Therefore, the two parties who wish to sell the real estate, will exchange their interests in the less valuable property for the Taxpayer’s interest in the more valuable property. The taxpayer will then fully own the less valuable property and the other two parties will each respectively own half of the more valuable property, which they will then sell to the City and split the proceeds.

The IRS ruled that the parties do not have the intent to avoid the federal income tax by the exchange of their interests and subsequent sale of some of the interests being exchanged within two years. Therefore, the transaction is not structured to avoid the purposes of Section 1031(f).

Click here to read the Private Letter Ruling.

SECTION 1031(f) WILL NOT APPLY TO TRIGGER RECOGNITION OF ANY GAIN REALIZED WHEN A TAXPAYER BUYS REPLACEMENT PROPERTIES FROM UNRELATED PARTIES.

In a Private Letter Ruling the IRS concludes that Section 1031(f) will not apply to trigger recognition of any gain realized when a Taxpayer buys replacement properties from unrelated parties. (P.L.R. 200728008)

Section 1031(f) was enacted to accord nonrecognition treatment only to exchanges and conversions where a taxpayer can be viewed as merely continuing his or her investment.

In this Private Letter Ruling, the IRS concluded that Section 1031(f) will not apply to trigger recognition of any gain realized when a Taxpayer:

1. Purchases two replacement properties from unrelated parties through an Exchange Accommodation Titleholder or Qualified Intermediary;

2. Sells two Relinquished Properties to a Related Party for cash consideration received by the Qualified Intermediary; and

3. The related party disposes of the Relinquished Properties within two years of the acquisitions.

The Taxpayer held properties before the exchange and continued his investments after the exchange. The Related Party did not hold properties before the exchange and purchased the Relinquished Properties for cash, and therefore the Related Party’s proposed disposal of the Relinquished Properties will not result in a “cashing out” of any investments or shifting of bases between Taxpayer and Related Party.

The IRS held that Taxpayer did not transfer the Relinquished Properties as part of a transaction structured to avoid Section 1031(f).

Click here to read the case summary.

MOORE V. COMMISSIONER: VACATION HOMES.

The Tax Court finds the disposal of one vacation home and acquisition of a second vacation home does not qualify as a tax-free like-kind exchange under Section 1031 because the homes were not held for investment.

In 1988, Barry and Deborah Moore purchased a Vacation Home (“Vacation Home 1”) which the family used on weekends for recreational purposes. In 1999, the family disposed of Vacation Home 1 and purchased another Vacation Home (“Vacation Home 2”) pursuant to a series of transactions intended to qualify as a like-kind exchange under I.R.C. Section 1031. Both Vacation Home 1 and Vacation Home 2 were used by the families exclusively for recreational purposes and were never rented to third parties. The Moore’s argued that the properties were held for investment, specifically for long-term appreciation purposes, and thus qualified for deferral under Section 1031.

The Tax Court held that because of the significant personal use of both properties, the properties were held primarily for the taxpayers’ personal use and enjoyment, and not for investment. The court concluded that mere hope or expectation that the property may be sold at a gain cannot establish investment intent if the taxpayer uses the property as a residence. The court ruled that the disposal of the former and acquisition of the latter does not qualify as a tax-free like-kind exchange under Section 1031.

Click here to read the case summary.

Disclaimer

The information contained on this website is not intended to be, and should not be construed to be, legal or tax advice. Before entering into a transaction you should consult your legal and tax advisers as to your specific facts and objectives.