If you or your organization intend to sell real or personal property and replace it with similar assets, you should consider a like-kind exchange transaction. Your organization may be able to enjoy significant tax advantages as well as a variety of other financial benefits.
A like-kind exchange may be an appropriate strategy if you are planning to sell business or investment property in order to acquire, modify or upgrade "like-kind" property. With a like-kind exchange that meets the requirements of the federal tax code (Section 1031), you or your organization can defer payment of capital gains taxes that might otherwise be due on the sale of appreciated assets.
Like-kind exchanges need not be simultaneous. The tax law sanctions deferred exchanges when specific requirements are met. If you opt to use the Forward Deferred Exchange, for example, you must ensure that proceeds from the sale of your asset are placed in a trust or escrow account and that you identify the replacement asset within 45 days of the sale date. You must actually acquire the replacement asset within 180 days of the sale date (or by the due date of your tax return, including extensions, if earlier).
Another type of deferred like-kind exchange is known as a Reverse Exchange Transaction. Under this approach, you receive the replacement property prior to the date on which you transfer the relinquished property.
Qualifying Assets - Real Property
The tax law grants a wide degree of flexibility when it comes to exchanging real estate assets. "Like-kind property" includes:
- land with improvements of any type
- a leasehold with a remaining term of at least 30 years
There is a great deal of interchangeability within these three categories. For example, you can exchange one type of real estate for another - a warehouse for raw land, a manufacturing facility for the lease on an office building, and so on.
Qualifying Assets - Personal Property
Much less flexibility exists in the exchange of personal property. Depreciable tangible personal property must be exchanged for like-kind property or for property within the same general asset class or product class. The law would permit you to exchange, for example, a heavy-duty dump truck for another heavy-duty dump truck, but it would not allow you to exchange a dump truck for a tractor-trailer or an automobile.
The tax law excludes certain types of property such as inventory, securities, partnership interests, trust certificates, and choses in action. Plus, you cannot exchange U.S. property for foreign property.
Benefits of a Like-Kind Exchange
A carefully structured like-kind exchange may allow you to make intergenerational asset transfers or distributions and can also effect intercorporate asset transfers.
While like-kind exchanges can be used in many circumstances, corporations employ them when they are planning a merger or acquisition or are engaged in an asset rationalization program. Very often, owners of closely held C or Subchapter S corporations use like-kind exchanges for succession planning. Like-kind exchanges can also be used in corporate economic value-added evaluations.