DO YOU WANT 360 DAYS TO EXCHANGE? “COMBINE A REVERSE EXCHANGE FOLLOWED BY A DELAYED EXCHANGE”

SAFE HARBOR GUIDANCE

Tax deferred exchanges have been part of the U.S. Tax Code since 1921. Since that time, the government has approved certain methods to structure exchange transactions that are so called “safe harbors.” For example, in 1991 the U.S. Treasury issued final regulations that provided important guidance on the structure of delayed exchanges including the 45 day identification period and 180 day exchange period timelines and certain other procedural requirements necessary to complete a tax deferred exchange safely. On September 15, 2000, the Internal Revenue Service released Revenue Procedure 2000-37 that provided guidelines for structuring reverse exchanges (a transaction in which replacement property is acquired by an accommodating party before the sale of the relinquished property and held as replacement property to complete the exchange). A replacement property may be acquired and held (sometimes called “parked”) by the accommodating party for up to 180 calendar days. Recently, the IRS provided guidance (See ILM 200836024) approving the combination of a reverse parking arrangement exchange and a forward delayed exchange resulting in two sequential 180 day exchange periods associated with one exchange transaction.

Since the accommodating party in a reverse exchange can only hold the replacement property for 180 days, the relinquished property must generally be sold by the taxpayer within that 180 day accommodation period. If the parked replacement property is the only property that is desired by the taxpayer to complete the exchange, then the exchange is complete upon the accommodator’s transfer of the replacement property to the exchanger. But what if the parked replacement property is just one of several replacement properties desired by the taxpayer? In that event, the standard delayed exchange that commences with the sale of the relinquished property may be used to acquire other replacement properties over the second 180 day exchange period commencing with the sale of the relinquished property. In this fashion, the exchange transaction spans two exchange periods starting with the accommodator’s acquisition of the parked property and ending on the exchanger’s acquisition of the last replacement property, potentially spanning 360 calendar days.

Many areas in the nation have experienced significant price declines in the past couple of years. Although this trend may leave a seller with less equity in his or her relinquished property, there is a silver lining: prices for replacement property have decreased as well providing investors with a once in a lifetime opportunity to purchase quality real estate at steeply discounted prices.

Suppose that an exchanger owns an office building in Parsippany, NJ which he has contracted to sell for $10,000,000 to close in December, 2009. The exchanger would like to take advantage of a couple of excellent opportunities to purchase property in the Northeast at a significant discount. The investor negotiates to purchase one such property in Westchester, NY for $4,000,000. The investor acquires such property by using a reverse exchange which closes at the end of June, 2009. When the relinquished property in Parsippany is finally sold in December, 2009 as part of a regular delayed exchange, the net sale proceeds are used to purchase the parked Westchester replacement property held by the accommodator. Now, in this second leg of the exchange transaction, the exchanger has 45 days following the sale of the relinquished property in Parsippany to identify other suitable replacement property to spend the remaining $6,000,000 needed to obtain 100% deferral and a maximum of 180 days to close on one or more identified replacement properties.

PRESERVING YOUR INVESTMENT IN YOUR COLLECTIBLE CAR: “A 1031 EXCHANGE CAN DEFER CAPITAL GAIN TAXES”

O.K., so you bought that sweet XKE some years ago just knowing that it would become a rare collectible. Well, it has: according to www.NADAguides.com, the average increase in collectible car values from February 2004 to February 2008 was 36 percent, which is over double the S&P 500 Index for the same timeframe. Collectible cars valued over $125,000 appreciated the highest amount of any pricing category, a sizeable 47%. Appreciation of this magnitude is good news for car collectors. It may seem like a good thing to sell your gem at today’s market value . . . that is, until the tax man cometh.

Gains realized on the sale of collectibles are taxed at a special capital gains rate of 28%. For collectibles held for less than one year, the short-term rate is equal to the seller’s marginal tax rate on ordinary income. To learn more about these tax rates, see the article, Understand the Impact of Tax Treatment: Ordinary Income vs. Capital Gain.

PAY TAXES AT 28% OR 0% WITH A 1031 EXCHANGE?

With high market prices available for collectible cars (and other collectibles such as paintings and photographs), long term investors are discovering that the taxes due on a sale can be substantial. To avoid the tax on the sale of a collectible that has been held for investment, the investor may complete a tax deferred exchange under Internal Revenue Code Section 1031. Real estate investors and business owners have been taking advantage of the tax deferral afforded by Section 1031 since 1921, but investors in collectibles have been slower to utilize an exchange to defer taxes. There is a growing realization among savvy investors, however, that they can reinvest all the profits resulting from the sale of a collectible tax deferred instead of paying capital gain taxes.

The “like-kind” requirements for personal property are much narrower than the standards applicable to real property. Moreover, an investor must establish to the satisfaction of the IRS that the collectible exchanged under Section 1031 was held primarily for investment or for use in a trade or business and not for personal enjoyment. This can be trickier with collectibles that may be purchased, at least in part, for the owner’s personal enjoyment. For more information on the property that can be exchanged under Section 1031, see the article Personal Property Exchanges: Planes, Trains and Automobiles.

To defer paying capital gain taxes, the investor’s replacement collectible car should be equal or greater in value than the car being sold in the exchange. In addition, all of the net proceeds (after paying commissions and closing costs) must be reinvested in qualifying replacement property if there is to be full tax deferral. Finally, an investor has up to 180 calendar days to complete the acquisition of the replacement car. It is important to work closely with a reputable qualified intermediary to facilitate the tax deferred exchange. Ordinarily, the qualified intermediary will prepare the necessary exchange documents and hold the sale proceeds securely in a separate account until they are disbursed on behalf of the investor to acquire the replacement car. We can help you understand your options, so give us a call to learn more.

Buffett Says Buy Single Family Rentals

Billionaire and Berkshire Hathaway CEO Warren Buffett gave out some free investment advice on TV Monday. Buffett said on CNBC that Americans should buy distressed houses, which are really cheap right now, and rent them out (after fixing them up a bit, of course). Buffett said he'd snatch up "millions" of single family homes if it were practical, but said he isn't very handy.

America's investment grandpa also was optimistic about the economy: He said it's bouncing back in almost all sectors, except home construction, but he predicts it will bounce back there, too.

CELL EASEMENTS ARE JUST EASEMENTS: “TAX DEFERRAL BENEFITS AVAILABLE TO SELLERS UNDER IRC SECTION 1031”

With the continuing expansion of cellular coverage across the United States, owners of land suitable for placement of cellular towers are being approached by cellular communications companies that desire to acquire easements, licenses or leasehold interests as a means of expanding their cellular coverage. Depending on the amount of suitable sites in the area and amount of cellular traffic, a cellular transaction can present a windfall for the property owner, but the way in which the transaction is structured can produce very different tax results for the owner.

An easement, sometimes characterized as a “communications easement”, constitutes a transfer of an interest in the real property under state law. As such, the conveyance of an easement for consideration results in a sale taxable at (currently) lower capital gain rates. The creation of a lease or the grant of a license, on the other hand, results in a contract right to receive rent or license fees over time. Rents and license fees are generally included in the owner’s income when received and are taxed as ordinary income, at rates that are generally higher. Looking at the transactions from a non-tax perspective, the grant of an easement is usually not terminable by the owner since the grantee acquires a deeded interest in the real property itself. The grant of a license or fee, on the other hand, will be terminable upon the expiration of the lease or license term. Given the greater limitations on the owner’s future use of a property subject to a perpetual easement, the grant of an easement generally commands a much greater premium than the grant of a terminable license or term lease.

If the communication easement is perpetual (e.g., runs with the land), then there is yet another structuring opportunity that sets the easement apart from the grant of a license or leasehold. In many instances, the IRS has characterized a perpetual easement as property that is “like kind” to a fee interest in real property for purposes of tax deferral under Internal Revenue Code § 1031. Accordingly, if the transaction is structured as sale of a communication easement, the property owner would likely be able to engage a qualified intermediary to facilitate a 1031 exchange of the perpetual easement for other real property to be held by the owner for investment or for use in a trade or business. There is no similar opportunity to defer the tax arising out of a license fee or rent in the case of a lease apart from the limited deferral afforded by the owner’s receipt of license or lease payments over time.

In PLR 9621012, the IRS determined that a perpetual scenic conservation easement on ranch land was like-kind with timberland, farmland, and ranch land. This ruling is based on the State’s civil code, which characterized a conservation easement as an interest in real property.

In PLR 9232030, the IRS ruled that an agricultural easement was like-kind to a fee simple interest in real estate.

In PLR 200201007, the IRS ruled that a taxpayer’s exchange of a perpetual conservation easement on a ranch for other ranch property qualified for Section 1031 tax deferral.

In PLR 200651018, the IRS determined that a perpetual stewardship easement was like-kind to a fee interest in other real property.

In PLR 9851039, the IRS came to the conclusion that the exchange of an agricultural conservation easement for a fee interest in other farm property was like-kind.

In Rev. Rul. 72-549, easement and right-of-way that the taxpayer granted and the real estate properties that the taxpayer acquired [fee interests] qualify as like-kind property under §1031 of the Code.

In Rev. Rul. 59-121, C.B. 1959-1, 212, conveyance of easement for land. Thus, the consideration received for the easement constituted proceeds from the sale of an interest in real property.

In Rev. Rul. 68-331, C.B. 1968-1, 352, conveyance of an interest in a producing oil lease for a fee interest in an improved ranch held to be an exchange of property of a like-kind under §1031(a) of the Code since both the leasehold interest and the fee interest are continuing interests in real property.

In Rev. Rul. 55-749, C.B. 1955-2, 295, land exchanged for perpetual water rights considered real property rights under applicable state law. This Revenue Ruling holds that the fee interest in the land and a water right in perpetuity are sufficiently similar to constitute property of like-kind for purposes of §1031(a) of the Code.

For more information on the computation of capital gain taxes see: Capital Gain Tax Calculation. To learn more about a 1031 exchange, see: Asset Preservation - 1031 Exchange

AIRCRAFT OWNERS CAN DEFER CAPITAL GAIN TAXES in a 1031 EXCHANGE

Many aircraft owners, whether dealing with a requirement to upgrade from a current aircraft to meet new business needs, delayed delivery times, or steep depreciation schedules resulting in increased capital gain, can benefit from the tax deferral benefits of a Section 1031 exchange. Business owners and investors are well aware of this valuable tax strategy and frequently use §1031 exchanges of real property to improve their investment position or expand business operations with full tax deferral. These same tax benefits also present a tremendous opportunity in the arena of aircraft dispositions. In the absence of a §1031 exchange, depreciation taken on aircraft is subject to depreciation recapture at the time of sale and any potential appreciation of the aircraft further compounds the tax consequences for the aircraft owner. Once a tax advisor calculates the amount of value remaining after taxes to reinvest into a new aircraft, it may not seem like a smart move to sell after all.

PERFORM A 1031 EXCHANGE RATHER THAN SELLING

The answer to this dilemma lies in exchanging an aircraft, instead of selling. Many aircraft owners are unaware that a method exists for deferring what can be significant capital gain taxes and depreciation recapture due on the sale of an aircraft. A §1031 exchange is nearly as simple as a typical aircraft sale. Once a purchaser for an aircraft is located, you or your broker should contact a Qualified Intermediary who will structure an exchange within the IRC requirements. It is not necessary to purchase a replacement aircraft from the same party you are selling to, nor is it necessary to close the sale and the purchase at the same time. The tax code has built in timeframes and structures to allow you flexibility in your exchange.

ASSET PRESERVATION PROVIDES A TAX SOLUTION

Aircraft owners look to Asset Preservation, Inc. (API) for answers to their capital gain tax dilemmas. Aircraft owners have learned that API has helped structure hundreds of aircraft sales as §1031 exchanges, thereby deferring capital gain taxes that would otherwise be due! API has been facilitating aircraft exchanges for over twenty years as a Qualified Intermediary as defined by §1031 of the Internal Revenue Code. As a Qualified Intermediary, Asset Preservation, Inc. has designed a system for facilitating aircraft exchanges which allows owners to sell aircraft, search for replacement aircraft, and complete tax deferred exchanges within the time limits specified. API's sole purpose is to guide aircraft owners through their exchange transactions with minimal interruption to their everyday business activities. API’s professionals monitor each exchange carefully through communication with sellers and brokers to address issues as they arise. Our experienced staff and aircraft specialists allow us to accommodate all types of exchange transactions. API has CPAs and legal counsel on staff who are available to assist in interpreting exchange rules. However, API does not replace independent tax or legal counsel; we work together to reach the best possible exchange solution for each unique situation. Give API a call to learn how we can help you keep your sale proceeds available for reinvestment in a new or upgraded aircraft. Our exchange counselors are always available to answer questions and provide guidance in determining if a §1031 tax deferred exchange might be an excellent alternative for you.

Vineyard Exchanges

“Wine is sunlight, held together by water.” —Galileo

“I cook with wine and sometimes I even add it to the food.” —W.C. Fields

People have enjoyed vineyards and wine for thousands of years. With demand increasing, prospective vintners are buying up vacant land and planting grapes. When sold, many of these vineyards are suitable properties for a tax deferred 1031 exchange. The sale of a vineyard or winery may include several different types of property that qualify for tax deferral in a 1031 exchange, including:

1. The land associated with the vineyard itself;

2. The facilities and outbuildings that are a part of the wine making operations, including the caretaker’s house, wine tasting facility or other property used in the wine operations;

3. Water rights (if treated as a real property interest under local law); and

4. Equipment and other personal property used in the production of wine.

VINEYARDS AND DEPRECIATION

Many of the components of a vineyard may be depreciated over 10 years using straight line depreciation. Although this provides a nice tax advantage for the property owner during the depreciation period, the deprecation creates a considerably higher tax liability at the time of sale. When the property is sold, depreciation is recaptured and taxed at a Federal rate of 25% — a rate much higher than the current Federal capital gain tax rate of 15%. When a vineyard owner adds this depreciation recapture tax to the applicable Federal tax on the remaining gain, as well as state and local income taxes, they may end up with considerably less after-tax dollars than they expected. By contrast, through a 1031 exchange, the property owner can dispose of the vineyard and defer some or all of the capital gain and depreciation recapture taxes.

If the owners also have a residence on the wine property, the residence may qualify for exclusion of capital gain taxes under IRC Section 121. This residence portion of the property sale is normally excluded from the portion of the sales price allocated to the exchange, since IRC Section 1031 only applies to property held for investment or used in a business. For more information on the tax exclusion under IRC Section 121, click on Primary Residence Rules.

PERSONAL PROPERTY

Section 1031 also permits personal property held for investment or used in a business to be exchanged for other similar personal property, provided that the replacement property is in either the same General Asset Class or the same Product Class as the relinquished property. A vineyard sale may include significant amounts of irrigation equipment and tractors, as well as the machinery used to extract juice from the grapes and to bottle the wine. Note that the IRS has established 13 General Asset Classes, while the more detailed Product Classes are specified in the North American Industry Classification System (NAICS).

Wine collectors may also exchange their collections, provided the wine is held primarily for investment. So if a wine connoisseur wants to exchange a collection of Mouton-Rothschild for a collection of Latour, they might also obtain the tax deferral benefits of a 1031 exchange.

In Vino Veritas!

Question regarding Holding for Investment

I got a question yesterday regarding "held for investment."  Here it is:  "What if I do a 1031, and two weeks after I buy the replacement property I sell it?"  Answer: only property that is held for use in a business or held for investment qualifies under Section 1031 of the federal tax code.  Some people think this means that if the exchanger holds the property for a certain period of time, the 1031 works, and if the holding period is too short, the 1031 doesn't qualify.

In truth, there is no minimum time period that dictates qualification.  ” To qualify, an exchanger must have the intent to hold for investment. Intent is a subjective thing, so the IRS will look to objective factors that evidence the purpose for which property is held. Time is only one factor that may be considered in assessing the exchanger’s intent. Many other factors (in fact, “all facts and circumstances”) surrounding the taxpayer’s ownership and transfer of property may be considered in determining the taxpayer’s intent. Ideally, an exchanger could point to multiple factors to establish that the property is held for investment, such as a long period of ownership, a use consistent with an investment intent and a tax reporting history that demonstrates the investment use of the property.