Basic §1031 Exchange Vocabulary
Code Sec. 1031 practitioners commonly use the following words when advising regarding Code Sec. 1031 exchanges or discussing Code Sec. 1031 issues.
Restrictions imposed by the Income Tax Regulations and the exchange agreement that prohibit the early distribution of the exchange proceeds. The (g)(6) restrictions help avoid the exchanger’s constructive receipt of the exchange proceeds.
An individual or other legal entity engaged by the exchanger to hold title to replacement property or in rare cases, relinquished property, to facilitate a parking transaction. This term is generally used to define the accommodator in non-safe harbor parking transactions.
Adjusted Tax Basis:
The adjusted tax basis of property used to compute gain or loss on the disposition of property and to compute depreciation. As a general rule, the adjusted tax basis is the acquisition cost, plus the cost of capital improvements, less depreciation.
Money or non like-kind property consideration received in connection with an exchange.
A technical federal income tax concept that treats an exchanger as receiving property or cash even though such payment of cash is not legally transferred to the exchanger. Generally, an exchanger is in constructive receipt of property or cash if the exchanger has the unrestricted use of the property or cash. Receipt by a qualified intermediary of the exchange proceeds should avoid constructive receipt.
Dealers and Developers:
Dealers and developers are individuals or other legal entities that generally hold property for resale. Such property does not qualify for Code Sec. 1031 treatment. Dealer and developers may, however, exchange property held for investment or use in a trade or business if certain requirements are satisfied.
Exchange Accommodation Agreement:
A contract entered into between the exchanger and an exchange accommodation titleholder providing that the exchange accommodation titleholder will take title to either the replacement property or relinquished property and hold it under the exchanger’s supervision.
Exchange Accommodation Titleholder:
An individual or other legal entity engaged by the exchanger to hold title to replacement property or, in rare cases, relinquished property, to facilitate a parking transaction. This term is generally used to define the accommodator in safe harbor parking transactions.
A contract entered into between an exchanger and a qualified intermediary providing, among other things, that the qualified intermediary will facilitate the exchange and hold the Exchange Proceeds subject to the (g)(6) Restrictions.
Exchange Clauses or Cooperation Clause:
The earnest money contract or purchase and sale agreement begin the paper trail that distinguishes the transaction as a Code Sec. 1031 exchange. An exchange or cooperation clause helps establish the exchanger’s intent to make an exchange and further seeks cooperation from the other party to accept an assignment of the sales contract.
A general term used to refer to those individuals or other legal entities that facilitate Code Sec. 1031 exchanges. The term exchange facilitator is broad enough to include qualified intermediaries and exchange accommodation titleholders.
That period ending 180 days following the date the relinquished property is transferred. The exchange period will be cut short if the exchanger files the tax return for the taxable year of the exchange prior to the 180th day. The first day of the exchange period is the day after the transfer of the relinquished property.
Consideration received for the relinquished property. Generally, in a deferred multi-party exchange, a qualified intermediary receives exchange proceeds.
An individual or entity pursuing a Code Sec. 1031 exchange.
That period ending forty-five (45) days following the date the relinquished property is transferred by the exchanger. The first day of the identification period is the day after the transfer of the relinquished property.
An individual or other legal entity that satisfies several requirements in the Income Tax Regulations. Qualified intermediaries are often used to facilitate Code Sec. 1031 exchanges.
The realized gain is the difference between the sales price received for a property and its adjusted tax basis.
That portion of the realized gain that is required to be reported as income on a federal income tax return.
The parties related to the exchanger as defined by Code Sec. 267(b) and Code Sec. 707(b)(1) . The definition of related party includes, but is not limited to, a spouse, ancestors, descendants, and brothers and sisters. Not related to the exchanger are aunts, uncles, cousins, nieces and nephews, in-laws, ex-spouse, employees, business associates, and friends. Further, corporations and partnerships are related to the exchanger if the exchanger owns more than a fifty percent (50%) interest in such entity. As discussed in the section on related parties, the group of persons treated as related parties is quite large and sometimes complicated to determine.
Property an exchanger transfers in an exchange.
Property an exchange identifies and ultimately receives in an exchange.
Structure approved by the IRS, which if followed, will produce a foreseeable tax consequence. For example, the use of a qualified intermediary or exchange accommodation titleholder under the Income Tax Regulations and Rev. Proc. 2000-37 creates safe harbors. Following the rules pertaining to these safe harbors allows an exchanger to know the tax consequences of a transaction. Structuring a transaction outside the safe harbors creates some uncertainty regarding the tax consequences of the transaction.
The contract price of the property less closing costs. Also referred to as the net sales price.
A financing arrangement under which the seller of property provides the buyer with the financing needed to acquire the property. The financing is often a note from the buyer secured by the property without money changing hands.
At-risk limitations: The at-risk limitations are provisions of IRC §465 that limit a taxpayer’s deductible loss for income tax purposes to the amount that the taxpayer has at risk in the activity generating the loss. Because the at-risk limitations apply to real property, a taxpayer can deduct losses from a real property investment only to the extent of the amounts personally invested or for which the taxpayer is personally liable (recourse debt).
Buyer: In this book, buyer refers to the party that ultimately acquires the relinquished property on completion of the exchange transaction.
Buyer cooperating three-party exchange: A buyer cooperating three-party exchange is one in which the buyer of the relinquished property acts as the intermediary in the exchange by acquiring the replacement property from the seller and conveying it to the taxpayer in exchange for the relinquished property.
Chief Counsel advice: Chief Counsel advice refers to written guidance issued by the National Office of the Chief Counsel of the Internal Revenue Service to the IRS and Treasury (IRC §6110(i)). This guidance takes a variety of forms including Chief Counsel memorandums (CCM), general counsel memorandums (GCM), field attorney advice (FAA), and field service advice (FSA). The purpose of Chief Counsel advice is to advise IRS personnel on legal matters at varying stages of development. Chief Counsel advice cannot be cited as precedent (see IRC §6110(k)(3)), although it may influence an agent or appellate conferee’s evaluation of a matter. See §1.13. See also General counsel memorandum; Field service advice.
Chief Counsel memorandum: See Chief Counsel advice.
Escrow agents or officers: In real property transactions, the escrow agent or officer is the entity or person that receives documents and funds from the principals in the transaction (e.g., the buyer, seller, and exchanger), holds the documents and funds, and delivers them on the occurrence of specified conditions in accordance with instructions from the principals. In some regions, escrow agents are employed to structure the exchange itself.
Exchange counterparty: In all exchange transactions, the taxpayer actually does or is deemed to swap properties with another party referred to as the exchange counterparty. In a deferred exchange, when the buyer of relinquished property and the seller of replacement property are different parties, an intermediary generally serves as the exchange counterparty.
Exchange equity credit: Exchange equity credit is the amount held by the intermediary in a deferred exchange, for the benefit of the exchanger, after selling the relinquished property. The intermediary applies the exchange equity credit to one or more items of replacement property.
Exchange escrow: An exchange escrow is the escrow through which properties are exchanged between two parties. In a seller-cooperating three-party exchange, the taxpayer and the seller are the parties to the exchange escrow. See §1.40. In a buyer-cooperating three-party exchange, the buyer and the taxpayer are the parties to the exchange escrow. In a four-party exchange, there is typically no exchange escrow; rather, the deeds for transferring the properties between the taxpayer and the intermediary are recorded as an accommodation in the sale escrows.
Exchanger: Exchanger is a term often used in exchange agreements to describe the taxpayer, i.e., the party intending to complete an exchange to obtain nonrecognition treatment under IRC §1031. See also Taxpayer.
Facilitator: See Intermediary.
Field attorney advice: See Chief Counsel advice.
Field service advice: A field service advice is a memorandum prepared by the National Office of the Chief Counsel of the Internal Revenue Service, analyzing issues presented by an agent relating to an ongoing audit. Unlike letter rulings and technical advice memorandums, a field service advice is not binding, although it generally influences an agent or appellate conferee’s evaluation of a case. Field service advice may not be cited as authority or precedent in any tax controversy. See also Chief Counsel advice; Letter rulings; Technical advice memorandum.
Four-party exchange: A four-party exchange involves the taxpayer, the buyer, the seller, and an independent intermediary to facilitate the exchange. The taxpayer transfers the relinquished property to the intermediary, who sells it to the buyer, uses the proceeds to purchase the replacement property from the seller, and then transfers the replacement property to the taxpayer. A four-party exchange can be simultaneous or nonsimultaneous.
General counsel memorandums: General counsel memorandums (GCM) are legal memorandums prepared by the National Office of the Chief Counsel to provide legal advice to branches of the Internal Revenue Service. GCMs cannot be cited as precedent. IRC §6110(k)(3). See also Chief Counsel advice; Letter rulings, Technical advice memorandum.
Intermediary: A party who receives and transfers a taxpayer’s relinquished property to a buyer and receives and transfers a taxpayer’s replacement property from a seller, thus facilitating an exchange transaction by eliminating the need for buyer or seller cooperation in the exchange. See also Four-party exchange; Deferred exchange.
Letter rulings: Letter rulings are written advice issued by the Internal Revenue Service, on written request from taxpayers, regarding the tax treatment of their specific proposed transactions. Letter rulings may be relied on by the taxpayers involved but may not be used or cited as precedent by anyone else, unless the IRS establishes otherwise by regulation. IRC §6110(j)(3). Letter rulings are also called private letter rulings and private rulings.. See also Revenue ruling; Technical advice memorandum.
Like-kind exchange: Exchanges under IRC §1031 are alternatively referred to as “like-kind,” “tax-deferred,” “tax-free,” and “nontaxable” exchanges. “Like-kind exchange” is the most accurate term used to refer to transactions that are the subject of IRC §1031.
Nonqualifying property: As used in this book, nonqualifying property is any property that is excluded property ( property not held for the required business or investment purpose, or non-like-kind property ). .
Nonrecourse financing: If a loan is secured by specified collateral and, under the terms of the loan or the antideficiency laws, the lender’s only recourse in the event of default is to foreclose against the security, that financing is called nonrecourse financing. See also Qualified nonrecourse financing.
Other property: Other property consists of nonqualifying property received by the taxpayer in the exchange. . See also Nonqualifying property.
Passive loss rules: Losses from a passive activity generally may be offset only against gains from passive activities?not gains from other types of activities. The rules governing these offsets are known as the passive loss rules. Passive activity includes the conduct of a trade or business in which the taxpayer does not materially participate, or engaging in rental activity above a certain dollar threshold regardless of the taxpayer’s participation. IRC §469.
Private letter ruling: See Letter rulings.
Private rulings: See Letter rulings.
Qualified nonrecourse financing: Qualified nonrecourse financing is financing on real property that is (1) borrowed from a qualified person (generally someone actively and regularly engaged in the business of lending money, but not the seller of the property), (2) borrowed from a government entity, or (3) guaranteed by a government entity, which the taxpayer is not personally liable to repay and which is not convertible debt. IRC §465(b)(6). As an exception to the at-risk limitations, a borrower who receives qualified nonrecourse financing is still considered at risk in terms of qualified nonrecourse financing. IRC §465(b)(6)(A). . See also At-risk limitations; Nonrecourse financing.
Relinquished property: Relinquished property is the property given up by the taxpayer in an exchange.
Replacement property: Replacement property is the property ultimately received by the taxpayer in an exchange.
Revenue procedure: A revenue procedure is a statement of procedure issued by the National Office of the Internal Revenue Service that affects the rights or duties of taxpayers or other members of the public under the Internal Revenue Code and related statutes, or information that, although not necessarily affecting the rights and duties of the public, should be a matter of public knowledge. Treas Reg §601.601(d)(2)(i)(b).
Revenue ruling: A revenue ruling is a statement of the Internal Revenue Service’s conclusion on the application of the law to a specific set of facts. Taxpayers and IRS personnel are expected to rely on these published rulings as precedent. Rev Proc 89?14, 1989?1 Cum Bull 814. Courts generally do not regard revenue rulings as binding on them.
Reverse exchange: A reverse exchange is a form of nonsimultaneous exchange in which the taxpayer receives the replacement property before transferring the relinquished property.
Round-robin exchange: A round-robin exchange is a type of three-party exchange in which each party has contractual obligations to transfer his or her relinquished property to a different party than the one from whom the replacement property will be received.
Seller: In this article, the seller is the party that owns the replacement property before the exchange transaction occurs. The seller sells the replacement property to the buyer in a buyer-cooperating three-party exchange or to an intermediary in a four-party exchange. In a seller-cooperating three-party exchange, the seller transfers the replacement property to the taxpayer in exchange for the relinquished property and then sells the relinquished property to the buyer.
Seller cooperating three-party exchange: A three-party exchange in which the taxpayer transfers the relinquished property to the seller of the replacement property in exchange for the replacement property, and the seller of the replacement property then sells the taxpayer’s relinquished property to the buyer of the relinquished property.
Substance-over-form doctrine: Under the substance-over-form doctrine, the courts and the Internal Revenue Service determine tax consequences based on the substance of a transaction rather than its form, if the form chosen by the taxpayer is a legal construct that does not reflect the economic realities of the transaction. Commissioner v Court Holding Co. (1945) 324 US 331, 334, 65 S Ct 707.
Suspended loss: For any taxable year, a taxpayer generally may not deduct the excess of losses from passive activities over income from passive activities sustained or earned during that year. IRC §469(a). The net losses from passive activities that are disallowed are carried over and treated as losses from passive activities in the next taxable year. IRC §469(b). The net passive losses that are carried over are referred to as suspended losses. When the passive activity that generated suspended losses is disposed of by the taxpayer in an otherwise taxable transaction, the suspended losses are treated as a loss that is not from a passive activity. . See also Passive loss rules.
Tax-deferred exchange: See Like-kind exchange.
Taxpayer: All exchanges and their tax ramifications are analyzed from the point of view of a specific taxpayer. For example, if party A to a two-party exchange owns property 1 and party B to that exchange owns property 2, the relinquished property (i.e., the property given up by the taxpayer) will be property 1 if party A is viewed as the taxpayer but property 2 if party B is viewed as the taxpayer. Attorneys normally think of their client as the “taxpayer” for these purposes, but all parties to an exchange transaction are likely to have tax consequences resulting from the transaction. . See also Exchanger; Relinquished property.
Technical advice memorandum: A technical advice memorandum (TAM) is a written statement issued to a district director of the Internal Revenue Service on a closed and completed transaction in connection with the examination of a taxpayer’s return or consideration of a taxpayer’s refund claim. A TAM may not be used or cited as precedent by anyone other than the taxpayer involved unless the IRS establishes otherwise by regulation. IRC §6110(b)(1), (k)(3).
Three-party exchange: A three-party exchange is one in which three principal parties are involved. It may be structured as a buyer cooperating, seller cooperating, or round-robin exchange. A three-party exchange does not involve an independent intermediary. . See also Round-robin exchange; Buyer cooperating three-party exchange; Seller-cooperating three-party exchange.
Two-party exchange: A two-party exchange is a reciprocal transfer of properties in which each party is both a transferor of relinquished property and a recipient of replacement property.. See also Relinquished property; Replacement property.