1031 Exchange Blog

Over the past 17 years, we have had the pleasure of guiding thousands of Exchangors through the 1031 Exchange process. Our Blog draws from that experience and includes content ranging from the basics of an Exchange for first time Exchangors to detailed commentary on complex exchanges for the expert investor. If you do not find the topic or specific question you are looking for, reach out to us via email at info@atlas1031.com or call our office to speak with our team at 1 800 227 1031.

1031 Exchange and Leases

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In a 1031 exchange, the Internal Revenue Service considers a lease of thirty or more years the same as real property. This is significant because lessees are able to sell their interest and replace with any type of real estate of equal or greater value. Fast food franchises, retail, cell tower and bill board lessees benefit from the 1031 exchange allowing them to defer the gain into another property. Lessor’s or landlord’s lease interest is not exchangeable and is treated as the receipt of advance rental income per Pembroke v. C.I.R. (1931) and Crooks v. C.I.R. (1989).

Leasehold Interests

A fee interest in land is like-kind to a lease interest in land given a term of thirty years or more. The lease qualifies if the term has renewable options extending over the thirty year threshold. The initial term could be ten years. If the lessee has five optional renewable five year terms, the thirty-five year periods would satisfy the 30-year requirement. The option to renew must be the lessee’s and not the lessor’s.

A taxpayer’s reversionary interest or the right to take back the property ownership interest upon the death of the lease holder allows the taxpayer to exchange out of the leasehold interest as the tenant and acquire a sublease in the same property qualifying as replacement property. Revenue Ruing 76-301 provides that the taxpayer may transfer its leasehold interest in the entire building and acquire a sublease of a portion of the building as replacement property.

Mineral Leases

A lessee’s interest in a mineral lease of thirty years or more is considered like kind to a real estate interest qualifying, for a 1031 tax deferral. In a mineral lease, the lessee has the right to extract the minerals for a set period of time or until exhaustion.  Leasehold interests of less than thirty years is considered a carve out and not eligible for a 1031 exchange. A production payment represents a right to the mineral for a mutually agreed upon price and does not qualify for a 1031 exchange.

A mineral royalty allows the holder to receive a percentage of all minerals produced until exhaustion or in perpetuity. Per Revenue Ruling 73-428 and 72-117, a royalty interest is considered a real property interest for federal tax purposes and is eligible for a 1031 exchange. The Internal Revenue Service determined an overriding oil and gas royalty qualifies for 1031 treatment. An overriding royalty interest is when the mineral lessee grants a sublease while retaining a royalty interest. The lessor ceding the mineral lease maintains a royalty interest and does not qualify for a 1031 exchange.

In Crooks v. C.I.R. (1989), a transfer of mineral rights underlying farm property was exchanged for a 25 percent royalty interest in the oil and gas produced and a fee interest in other land was determined to be not like kind. The Tax Court found that the transaction was a lease because of the taxpayer retained economic interest.

Mineral interests transferred with real estate are not a separate asset to the taxpayer who conveys the property per Butler Consol. Coal Co. v. C.I.R. (1946).  In Beeler v. C.I.R. (1997) unmined sand in land containing a sand mine was not separate property and not eligible for a 1031 exchange. In Peabody Natural Resources Co. v. C.I.R. (2006), the Tax Court determined that coal supply contracts are a bundle of rights subordinate to the ownership of the coal mines and not separable from the ownership of the land and the coal mine reserves.

Atlas 1031 Exchange has accommodated 1031 exchanges for cell tower, fast food franchise and mineral interests when the lessor is selling their thirty year leasehold interest. Mineral leases require an understanding of the rights to establish whether they are eligible for a 1031 tax deferred exchange.

We Can Help 

Atlas 1031 Exchange has been accommodating tax-deferred exchanges of all kinds for more than 17 years. We are fluent in the rules and regulations of IRC Section 1031 and able to help you navigate your exchange.

Contact us today to discuss any questions you may have. Call our office at 1-800-227-1031, email us at info@atlas1031.com, or submit your question through the online form at the top of this page.

1031 Exchange Foreign Property

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In a 1031 exchange, foreign real and personal property, when exchanged for foreign real and personal property, qualify for a federal capital gain tax deferral. Real property can be any real property given the nature and character of rights of the exchange properties are essentially alike including likeness of physical properties, character of title conveyed, rights of the parties and duration of interests. Personal property must be exchanged for like-kind or like-class property, such as aircraft for aircraft, gold bullion for gold bullion or oil painting for oil painting. Predominance of use over the prior two years determines the property’s location.

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1031 Exchange Examples

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Thinking outside the box, a 1031 exchange applies to any property held in the productive use of a trade, business or investment. Property must be real property. 1031 exchange rules must be strictly followed to support the outcome, which is the deferral of federal and state capital gains and depreciation recapture taxes that can amount to over forty percent of the property sales price. The deferral is indefinite and ultimately due unless the property is stepped up to the taxpayer’s heirs upon death. When a replacement property sells, the gain can be deferred again and again in a 1031 exchange. Those otherwise paid out tax dollars represent interest free additional working capital available to taxpayers, both individual and corporate, trusts and limited liability companies subject to federal income taxes.

Real Property

Any real property located in the United States (US) can be exchanged for real property in the US while real property held internationally is eligible for real property held overseas. For example, if the taxpayer is subject to US federal taxation inherits property in India, when sold, the sale may trigger both Indian and US capital gains taxes. A 1031 exchange can defer the US capital gains tax when replacing the real property with another either in India or outside the US.

Examples of Real Property

  • Single family residential held as an investment for commercial property.
  • Condominium held for investment exchanged for another condominium.
  • Timberland for a farm or ranch.
  • Subway franchise as lessee, selling their thirty plus year lease interest for real property.

Exchange Strategies

A 1031 exchange is either a forward or reverse exchange. In a forward exchange, the old or relinquished property is sold prior to acquiring the replacement property. In a reverse, the replacement property is acquired before selling the old property. Timing is the critical component when there is more than one property to be sold or purchased. If the taxpayer wants to exchange two relinquished properties into one or more replacement properties, given the two old properties can be sold within forty five calendar days of each other, a forward exchange strategy can be deployed. If the second property cannot be sold in the same forty five day period, then a combination forward/reverse exchange strategy is used to allow a percentage of the replacement property to be acquired by an Exchange Accommodation Titleholder, or EAT. The second relinquished property must be closed within 180 calendar days from the date the replacement property is closed. Upon closing, a deed conveys the interest to the taxpayer.

If the intent when selling real and personal property held in a business or for investment is to replace with like-kind or like-class property, then a 1031 exchange should be considered.

We Can Help 

Atlas 1031 Exchange has been accommodating tax-deferred exchanges of all kinds for more than 17 years. We are fluent in the rules and regulations of IRC Section 1031 and able to help you navigate your exchange.

Contact us today to discuss any questions you may have. Call our office at 1-800-227-1031, email us at info@atlas1031.com, or submit your question through the online form at the top of this page.

Class “C” 14 Unit Apartment – 1031 Exchange Eligible

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Multi-Family 14 Unit in Fort Lauderdale, FloridaBuilt in 1968, this fourteen unit, 1031 eligible apartment is one hundred percent occupied featuring four two bedroom, one bathroom, ten one bedroom, one bathroom units, and twenty-one parking spaces with easy access to I-95 and Florida Turnpike. Located near city transportation, the property is easily managed and well maintained.

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Easements and 1031 Exchange

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A taxpayer frequently incurs capital gains taxes as the result of gain realized in a traditional sale of property. Given the often high rate at which capital gains are often taxed, taxpayers look to legal strategies that allow them to limit their exposure to capital gains taxes. One option is to enter into a Section 1031 exchange instead of a conventional sale. A 1031 exchange allows a taxpayer to relinquish one property and replace it with another “like-kind” property. A transaction that satisfies all of the requirements for a Section 1031 exchange will allow the taxpayer to defer any capital gains that would otherwise be due on gain realized in a traditional sale. To qualify, the property involved must be held by the taxpayer for productive use in a trade or business or be held for investment purposes. In addition, a 1031 exchange must be completed within a 180 day time frame and a qualified intermediary, or QI, must be used to facilitate the exchange.

While many 1031 exchanges are straightforward, textbook examples, others are not. Since taxpayers began taking advantage of 1031 exchanges almost a century ago, the variety and diversity of transactions that taxpayers have attempted to qualify as an exchange has caused the Internal Revenue Service to continuously review and refine the Section 1031 requirements. One type of 1031 exchange that has been the cause of confusion and litigation over the years is the use of an easement as either the relinquished property or the replacement property. The issue, when an easement is part of a 1031 exchange, is whether an easement qualifies as “like-kind” property if the other property involved in the exchange is real property.

Easement

In legal terms, an easement is a right to cross or use someone else’s property. A utility company, for example, may have an easement on your property that allows them to cross over a portion of your property. Just as real property has value, so does an easement. Therefore, an easement can be bought, sold, or exchanged. The issue, however, is whether an easement can be exchanged for real property.

Revenue Ruling and Tax Court

In Rev. Rul. 72-549 (1972) Taxpayer granted an easement to an electric power company over property used in the taxpayer’s trade or business. Taxpayer was compensated for the easement. Taxpayer subsequently purchased real property for an amount that exceeded the compensation received from the electric company. Taxpayer attempted to defer capital gains on the compensation received from the electric company on the grounds that the transactions qualified for Section 1031 exchange treatment. The issue became whether or not the exchange was for “like-kind” properties. The ruling pointed to previous rulings in similar fact scenarios where the focus was on the “nature or character of the property and not its grade or quality”. The ruling held that the easement and the real property are “both continuing interests in real property and of the same nature and character, and as such qualify as “like kind” property under section 1031 of the Code.” A reverse exchange of two easements was also found to qualify in PLR 9814019.

More recently, in PLR 200649028 (2006), taxpayer owned a significant amount of land that the county wished to designate a portion of as a “stewardship area.” In essence, this would grant the county a special type of conservation easement on taxpayer’s land. In return, taxpayer would be compensated with “credits” for the reduction in value of the land as a result of the loss of use caused by the easement. Taxpayer would then be able to use those “credits” to purchase a suitable replacement property. Pursuant to a contract drafted between all parties involved, taxpayer wished to structure the transactions as a Section 1031 exchange. Again, the issue was whether an easement exchanged for real property qualified as a “like-kind” exchange. The ruling once again focused on the grade or quality of the property and not its kind or class. The ruling also focused on the fact that the right to grant an easement stems from taxpayer’s interest in the underlying land as well as that easements are frequently considered to be an interest in real property under state law (as was this case in the instant case) and, therefore, should be treated as such for purposes of a Section 1031 exchange.

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Timberland 1031 Exchanges

American Saddlebred Horse 1031 Exchange

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HS Daydream's Celebrity 1031 Exchange“The 1031 exchange went smoothly, our questions were answered thoroughly and we are very satisfied with the work performed by Atlas 1031 Exchange,” are the words the American Saddlebred horse owner used in a post-exchange review. His attorney found Atlas 1031 Exchange on the Internet along with other Qualified Intermediaries and selected Atlas 1031.

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