Serving as qualified Intermediary to Professional Advisors and their Clients since 1989 on Forward, Improvement, Reverse, Parking, Personal Property Multi Asset  and  Foreign Section 1031 Exchanges

Second Case Issued on Related Party Exchanges Reinforces Revenue Ruling 2003-83

In Ocmulgee Fields, Inc. vs. IRS, 132 TC 6 (March 31, 2009), the Tax Court (properly) disallowed a like-kind exchange under Section 1031(f)(4) because the exchange was part of a transaction structured to avoid the purposes of Section 1031(f), governing exchanges between related persons.  This case reiterates the existing holding in Revenue Ruling 2002-83 and Teruya Brothers.¹

Facts:   The taxpayer sold property to an unrelated party for a gain of approximately $6M using a Qualified Intermediary.  Six days later, the taxpayer entered into an agreement to acquire replacement property from a related party. The taxpayer acquired the replacement  property  from the related  party prior to the expiration of  the 45-day identification period. The related party recognized approximately $4.2M of gain on the sale, and thus the parties accomplished a basis shift of $1.8M.  In addition, the related party’s tax rate was 15% on the recognized gain, whereas the taxpayer’s tax rate would have been 34% on any recognized gain.

Points to Consider:

General Rule.  IRC Section 1031(f)(1) provides that where a taxpayer exchanges property with a related person (pursuant to IRC Section 1031—determined without regard to IRC Section 1031(f)) within two years after the date of the last transfer (as part of the exchange), and either the related person or the taxpayer disposes of the like-kind property received in the said exchange, then IRC Section 1031 does not apply with respect to the taxpayer.  Section 1031(f)(4) provides that any exchange structured to avoid the purposes of Section 1031(f) will be taxable.

Let Strategic Property Exchanges, LLC guide you through the Section 1031 Exchanges of  Related Party transactions.  We provide tax reporting that conforms to statutory requirements, generally accepted accounting principles and Circular 230.  We can help you plan your related party exchanges with confidence through our tax guarantee

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¹Note that in Teruya Bros., Ltd. vs. Comr.,² the Tax Court, in 2005,  expanded upon the IRS’ interpretation of IRC Section 1031(f)(4) and held, in part, that the exception in IRC Section 1031(f)(2)(C) applies to IRC Section 1031(f)(4) in addition to IRC Section 1031(f)(1). Teruya Brothers is on appeal to the 9th Circuit and a decision is expected this year.

²This Ruling illustrates the meaning of basis shifting, the implication that, absent an exception to the contrary, both related parties to the exchange must continue to own property acquired in the exchange for a period of two years, and that IRC Section 1031(f)(4) prevents IRC Section 1031(f)(1) from being circumvented by the use of a qualified intermediary in a forward deferred exchange.  In the ruling, the taxpayer could not sell the relinquished property to an unrelated party followed by a purchase of the replacement property from a related party where the related party had a high tax basis and cashed out of the transaction.

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