Dallas, Texas, February 2018 – With the passage of the “Tax Cuts and Jobs Acts”, property once considered for a like-kind exchange could no longer qualify. Generally, when a taxpayer sells business or investment property and has a gain, it is considered a taxable transaction at the time of sale. Internal Revenue Code (“IRC”) Section 1031 provides the commonly utilized like-kind exchange exception, which allows a taxpayer to postpone paying tax on such gain if the proceeds are reinvested in similar property as part of a qualifying like-kind exchange.
Section 13303 of H.R. 1 (Tax Cuts and Jobs Act) strikes the term “property” and replaces it with “real property.” This distinction limits the like-kind exchange rules under IRC Section 1031 to real property, such as land, buildings, etc. For years, other categories of property were not specifically excluded from like-kind exchange treatment. Not all real property qualifies for like-kind exchange treatment under the new rules, though. Real property held primarily for sale is excluded from like-kind exchange treatment. In addition, real property located in the United States cannot be exchanged for real property located outside the United States, or vice versa.
The theory behind like-kind exchange treatment is that when a taxpayer sells a business or investment property to purchase similar property, the taxpayer has not realized an economic gain; therefore, the gain on sale is not recognized for tax purposes. An example of an acceptable Section 1031 exchange would be a real estate investor selling a duplex, then using the funds to purchase an apartment building.
Under the Section 1031 rules, certain types of property, even if used for business purposes are excluded from like-kind exchange treatment. These exclusions include stocks, bonds, notes, and partnership interests. For example, the sale of a bond for another bond is not considered a Section 1031 exchange. These exclusions remain the same under the new amendment.
Historically, no guidance has existed about the treatment of Cryptocurrencies such as Bitcoin, Ripple, or Ethereum regarding 1031 exchange treatment. In general, tax laws and regulations that apply to Cryptocurrencies fall into a gray area. Additionally, Cryptocurrencies were not specifically excluded from a Section 1031 exchange like stocks, bonds, notes, and partnership interests were. Due to the lack of guidance, some taxpayers took the position that Section 1031 can apply to Cryptocurrencies when exchanging one for another. Based on the amendment to Section 1031, however, Cryptocurrencies will not qualify for like-kind exchange treatment because of the new “real property” requirement.
The new rules provided under the H.R. 1 apply to exchanges completed after December 31, 2017. However, the new section 1031 rules do not apply to any exchange if a taxpayer disposed of relinquished property or received replacement property, on or before December 31, 2017.
When entering into a like-kind exchange it is important to involve a tax professional to help administer and review the transaction to ensure that it complies with the rules and regulations.
If you have questions about how provisions of the new law will affect you, please consult the Howard team and we will be happy to walk through your specific situation. Howard aims to share valuable insight that can help you prepare for the months ahead on your personal returns, as well as in businesses so we encourage you to visit the news section of our website where we will continue to post updates and announcements.