Investor Report: Section 1031

Here's some great news for the thousands of real estate investors and brokers who use "Section 1031" (ten thirty-one) tax-deferred real exchanges every year: Congress has backed off its latest plan to narrow the definition of "like kind" for real estate swaps.

That's important because under current tax law, real estate investors have broad flexibility in choosing properties and structuring exchanges. For example, they can exchange a rental house for farmland, an apartment building for a commercial shopping strip. They can even exchange office buildings for mineral rights.

Given the tight statutory timetables to choose qualified properties for exchanges, that flexibility can be crucial.

Other types of investment assets, by contrast, get much stricter treatment under the tax code -- and that difference in treatment opens the door to periodic attempts by green-eyeshade tax reformers on Capitol Hill to raise federal revenues by cutting down the number of eligible real estate exchanges.

If you could only swap a rental condo for another rental condo, cornfields for cornfields or commercial buildings for commercial buildings, there'd be a lot fewer exchanges every year -- and probably a lot more IRS audits of taxpayers to make sure the properties swapped met all the "like kind" requirements.

So when tax reformers tucked away a tiny, technical amendment deep inside the massive federal farm bill pending in Congress, they apparently hoped they could sneak it through with nobody looking. But instead, alarm bells went off among real estate lobbyists who get paid to read through thousand-page bills like the farm legislation to make sure there are no unpleasant surprises lurking for real estate.

That's precisely what they found. The tax reformers had inserted a provision that would have only affected only certain agricultural property exchanges by narrowing the window for what constitutes "like kind."

But any restriction on "like kind" for real estate would be the proverbial "camel's nose in the tent." It would open the door to still further revenue-driven restrictions that could seriously limit the utility of tax-deferred exchanges for all real estate owners.

Linda Goold, chief tax lobbyist for the National Association of Realtors and a leader in the effort to get the 1031 amendment dropped from the final legislation approved by Congress, confirmed the successful deletion. In comments to Realty Times earlier this week, she said:

"Yes, we killed that obnoxious farm bill 1031 provision. (And) it felt good, I might add."

Real estate investors nationwide should share that sentiment.


Written by Kenneth R. Harney