Discussion:1031 EXCHANGE-mortgage

From TaxAlmanac, A Free Online Resource for Tax Professionals
Note: You are using this website at your own risk, subject to our Disclaimer and Website Use and Contribution Terms.

From TaxAlmanac

Jump to: navigation, search

Discussion Forum Index --> Tax Questions --> 1031 EXCHANGE-mortgage

TAXMANMITCH (talk|edits) said:

8 February 2007
If the mortgage on the property given up is 250,000.00 and the property received mortgage is 200,000.00. and none of them is assumed by anyone. Is the difference between the two of 50,000.00 considered income?

Riley2 (talk|edits) said:

8 February 2007
Not enough information here. In a "safe harbor exchange", If the FMV of the relinquished property is greater than the FMV of the acquired property and the exchange expenses, there will be boot.

TAXMANMITCH (talk|edits) said:

8 February 2007
The fair market value of the acquired property is 295000.00 and the fair market value of the relinquished property was 232000.00. My question is concerning the 50,000.00 difference between the two mortgages.

Mauro (talk|edits) said:

8 February 2007
See IRC Sec. 1031 like kind exchange rules to avoid taxable gain on the exchange of "like-kind" property.

Also, If we assune that were no mortgage assumptions, the boot(cash)received or given is simply the difference in the FMV of the qualifying like-kind property relinquished OR received.

PVVCPA (talk|edits) said:

9 February 2007
"Also, If we assune that were no mortgage assumptions, the boot(cash)received or given is simply the difference in the FMV of the qualifying like-kind property relinquished OR received."

Mauro, your statement is not true with respect to DEFERRED exchanges. Using this formula for calculating boot, may erroneously allow boot netting, e.g. if you take boot out on the sale of the relinquished property, you cannot avoid the tax on that constructive receipt by putting the boot back in when purchasing the replacement property. This is one reason why most Exchange Worksheets do not work.

Almost every deferred exchange I have seen has some boot coming out on the sale. e.g. transfer of security deposits, proration of rent, credit for property taxes,

Mauro (talk|edits) said:

9 February 2007
PVVCPA I'm not sure if I agree with your statement, however, if you use the formula provided on Pub 544 I believe you will conclude the same assumption originally stated above.

Guadalupe (talk|edits) said:

9 February 2007
CFS software has a very good worksheet for 1031 exchanges, really unexpensive and lots of forms and worksheets (kwoledge in the matter is needed)with calculations

PVVCPA (talk|edits) said:

9 February 2007
The CFS Worksheet makes this same error that I described in my prior post. In a deferred exchange, you cannot net the boot taken out on the sale of the relinquished property with boot put in during the purchase of the replacement property. The constructive receipt of boot cannot be undone.


See prior discussion about this at Discussion:1031 Exchange "Net Boot" Question

Riley2 (talk|edits) said:

9 February 2007
PVVCPA, you may net boot received with boot given in a nonsimulatneous exchange if the "safe harbor" restrictive language is included in the exchange agreement. The CFS worksheet assumes that the safe harbor language is present.

Taxmanmitch, if there were no mortgage assumptions, you need not be concerned about the mortgage balances at all. Instead, focus on the fair market values of the respective properties.

PVVCPA (talk|edits) said:

9 February 2007
The safe harbor language in a deferred exchange using a qualified intermediary (QI) places restrictions on all the cash that is being HELD by the QI. But if the exchanger receives some cash or boot ahead of the QI, then the safe harbor language does not apply to that boot. And the exchanger cannot cure the constructive receipt of that boot by re-depositing those funds back into the transaction.


The Regulations allow the exchanger to receive certain items of boot that are incidental to the sale without affecting the safe harbor provisions on the rest of the sales proceeds. See Reg § 1.1031(k)-1(g)(7).

PVVCPA (talk|edits) said:

12 February 2007
Mauro, Guadulupe or Riley2, I am interested to hear back. The use of this "FMV Approach" by most exchange worksheets (including CFS) has baffled me. I know these guys spend more time researching these issues than I do. But I still cannot understand how the constructive receipt of boot by an exchanger at the time he/she sells the relinquished property can be forgiven just because the exchanger repurchases new property at equal or higher value. It just doesn't make sense to me.

Riley2 (talk|edits) said:

12 February 2007
The constructive receipt problem should not be a problem unless the exchange is "non-safe-harbor" exchange. Interestingly enough, many QI's put the safe harbor language on a separate piece of paper that oftentimes mysteriously disappears when the taxpayer needs the cash.

PVVCPA (talk|edits) said:

12 February 2007
Riley2, please refer to my February 9th post. In a safe harbor exchange using a QI, the safe harbor language only applies to the sales proceeds that the QI holds. If boot is paid out of the sales proceeds before the funds go to the QI, then those funds are outside the safe harbor rules.

The most common types of boot that I see are the prorations of rents, or transfers of security deposits, or deposits held back by the buyer to guarantee rents, or property tax credits. Almost every exchange I see has at least one of these.

Are these not the constructive receipt of boot?

The fact that the exchanger received the benefit of the sales proceeds means that these funds are no longer protected by the safe harbor provisions. And they can't be "re-protected" by purchasing a replacement property for equal or greater value.

Riley2 (talk|edits) said:

12 February 2007
Under the de minimis rule, rent prorations and transactional costs are not treated as boot. If a client is foolish enough to accept an earnest money deposit in a 1031 exchange, he will need to accept the fact that the earnest money deposit is boot. CFS will accomodate the situation where the money is received outside of escrow. Simply put this amount in "nonqualifying property."

PVVCPA (talk|edits) said:

12 February 2007
Do you have a cite for this de minimus rule? The only rule I know of is what I mentioned in my Feb 9th post. Reg § 1.1031(k)-1(g)(7) states that the payment of "transactional costs" will not affect the safe harbor provisions on the rest of the money being held by the QI. This Reg. does not say that the payment of transactional costs are exempt from the Constructive Receipt rules.

Riley2 (talk|edits) said:

12 February 2007
I should clarify, rent prorations would not be treated as an item that would cause a violation of the safe harbor rules (even though it is treated as cash received that can be netted against the cash given) § 1.1031(k)-1(g)(7)(i) -- Items that a seller may receive as a consequence of the disposition of property and that are not included in the amount realized from the disposition of property (e.g., prorated rents), and

Blrgcpa (talk|edits) said:

12 February 2007
WAIT A MINUTE! The mtge on the property sold is more than the value of the property!! Can that be?

It's stated that the relinquished property had a mtge of $250,000 and a value of $232,000. (See posts 1 & 3)

PVVCPA (talk|edits) said:

13 February 2007
Riley, Thank you for participating in this discussion. I appreciate your input on this, and I hope you don't feel like I am beating up on you. Me and another associate had this come up on an exchange and have been trying to resolve this issue ever since. We (and our client) would like to believe that the CFS Worksheet is doing this right, but it just doesn't 'seem' right.

You stated "even though it is treated as cash received that can be netted against the cash given." What do you mean?

The netting of cash boot is only applicable in a simultaneous exchange not a deferred exchange. In a deferred exchange, you cannot net cash boot received during the sale against cash boot given during the purchase. If you received cash at the sale, then you have constructive receipt. And constructive receipt cannot be fixed.

Riley2 (talk|edits) said:

13 February 2007
I agree that in a non-simultaneous exchange, there are certain items paid by the exchange intermediary that would result in constructive receipt to the seller (e.g. brokerage commissions). However, the “netting effect” will cure this in many instances. See Revenue Ruling 72-456, wherein the Service ruled that cash received could be offset by brokerage commissions paid. In addition, rent prorations would usually constitute boot received, and property tax prorations would constitute boot received or given. I also agree that the CFS program does not really lend itself to analyzing the net effect of these various prorations on the first leg of the exchange, and if the net effect were material, then the recognized gain would be materially misstated.

PVVCPA (talk|edits) said:

13 February 2007
In this case, netting was allowed because brokerage commissions are considered an exchange expense. This Rev Rul simply states that exchange expenses can offset any boot received. That we already knew.

---

See Example #2 at Reg § 1.1031(k)-1(j)(3). In this example, the exchanger receives $10,000 of cash boot at the time of the sale. He contributes the $10,000 later at the time of repurchasing the replacement property. The sale price of the relinquished property and the purchase price of the replacement property are both $100,000. In this example, the exchanger must recognize the $10,000 that he received as boot.

I believe the sole purpose of this example is to illustrate that the netting of cash boot is disallowed. Therefore, as I suspected, CFS's (and almost every other worksheet's) approach to comparing the FMV of the two properties for determining "net boot" is a substantial flaw.

Riley2 (talk|edits) said:

13 February 2007
I agree that the CFS program has a trap for the unwary in cases where either the safe harbor language is missing or there are substantial prorations or adjustments (e.g. security deposits). Back in the days before personal computers, I would painstakingly analyze every item on the excrow statement for the "boot effect."

To join in on this discussion, you must first log in.
Personal tools