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While it is anyone’s guess what tax reform or the Obama Administration’s FY17 budget will bring for the long-standing Section 1031 tax-free exchange, as we begin a new year it may be time to dust off the mechanics of this taxpayer-friendly provision. Taxand USA investigates further.
Enacted almost 100 year ago, Section 1031 provides that no gain or loss shall be recognised on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind that is to be held either for productive use in a trade or business or for investment.
While the application of Section 1031 does not actually eliminate tax, it does create a valuable deferral that allows taxpayers to efficiently reinvest their proceeds as they continue their economic investment in a similar asset. Will this deferral be repealed, significantly lessened or materially altered otherwise?
Last year’s budget suggested a USD 1 million capital gain deferral from the exchange of real property, with an effective date for exchanges completed after December 31, 2015. The proposed budget would have also disqualified art and collectible exchanges and the aggregation of multiple properties exchanged by related parties. If a similar proposal is put forth, and is passed into law, perhaps exchanges will at least be unchanged for the rest of the year.
Given the length of time generally necessary to execute a proper exchange, it is not too early to consider replacement property if you are inclined to sell. The rules and mechanics may be complex, but the concept is generally straightforward. Like many areas of the tax code, nuanced planning techniques abound, but this article is meant to address the high-level issues.
Discover more: Like-kind exchanges
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While many professionals in taxation, economics and industry have written about the economic harm that a repeal or material change may bring, now may be an appropriate time to revisit your awareness and understanding of the rules as you consider executing an exchange.