www.marejournal.com
4C — June 26 - July 16, 2015 — Mid-Year Review — M id A tlantic
Real Estate Journal
1031 E xchange By William Webster, Esq. & Pamela Michaels, Esq., Asset Preservation Inc. §1031 Exchanges: Available options for partners and partnerships
L
to the sale of property by the partnership. Some partners may wish for the partner-
est in the capital asset owned by the partnership. One method for accomplish- ing this, known as a “drop and swap,” involves the liquida- tion of a partnership interest by distributing an interest in the property owned by the partnership. After comple- tion of the “drop,” the former partner will have converted his or her partnership interest into an interest in the actual property itself, as a tenant-in- common with the partnership. The property can then be sold, with the former partner and the partnership each entitled
to do what they wish (sale or exchange) with their respective interests. Related to the “drop and swap” is the “swap and drop.” This involves the same two steps, but in reverse order. The partnership completes the ex- change (the “swap”), and then distributes an interest in the replacement property to the departing partner. Holding period issues Both the “drop and swap” and the “swap and drop” alter- natives raise potential holding period issues. If the “drop” oc- curs close in time to the “swap” (or vice versa), there may be some question as to whether the relinquished property (or replacement property) was “held for investment.” Also, if the drop appears too close in time to the swap, the partner’s exchange may be deemed an exchange by the partnership under the Court Holding case [See Commissioner v. Court Holding Co., 324 U.S. 331, 65 S.Ct. 707 (1954) ]. Clearly, the more time that passes between the “drop” and the “swap” (or vice versa), the better. Regarding the above issues, a line of federal cases ( Bolker , Mason , Maloney , etc.) provides taxpayer-friendly authority against challenges by the IRS. However, some state taxing authorities (notably, the Cali- fornia Franchise Tax Board) aggressively challenge ex- changes, and argue that they are not bound by these federal cases. Also, changes made in 2008 to the federal partnership tax return (IRS Form 1065) make it easier to detect when drop and swap transactions have occurred, thus making such transactions more vul- nerable to challenge by taxing authorities. Partners getting cashed out In some instances, a majority of the partners may want the partnership to complete an exchange, but one or more of the other partners may want to be “cashed out” with the sale of the relinquished property. One way to accomplish this is for the partnership simply to receive cash from the sale in an amount sufficient to purchase the departing partners’ part- nership interests. This cash, however, would be “boot,” and would require the partnership to allocate the resulting gain among all of the partners. A better alternative, known continued on page 12C
ike any taxpayer, a part- nership (and a limited liability company taxed
Partners doing separate exchanges A taxpayer must own a capi- tal asset to do a 1031 exchange. The fact that a partnership owns a capital asset does not mean that the individual part- ners have an ownership inter- est in that asset. The partners merely own partnership in- terests. Partnership interests are specifically excluded from Section 1031 under section 1031(a)(2)(D). Therefore, if an individual partner wants to do a 1031 exchange, the partner must convert his or her part- nership interest into an inter-
ship to stay t o g e t h e r and do an e x c h a n g e ; others may want to do their own ex- change with their portion of the prop-
as a partner- ship, gener- ally referred to herein as a “partner- sh i p ” ) c an engage in a like-kind ex- change un- der IRC Sec-
Pamela Michaels
erty; still others may wish to receive cash and simply pay the tax. What alternatives are available to the partners in the Northeast? William Webster
tion 1031 to defer paying tax on capital gains. Difficulties can arise, however, when the individual partners desire dif- ferent outcomes with regard
Exchange Smart. Security you can bank on
Pamela Michaels, Esq. Vice President / Division Manager Manhattan: 866.317.1031 | Long Island: 866.394.1031 pmichaels@apiexchange.com | apiexchange.com Call for a complimentary consultation.
A National IRC §1031 “Qualified Intermediary”
Made with FlippingBook - Online magazine maker