Discussion:1031 exchange with replacement property financing
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| I think best case scenario is that your client will have $548,777 of boot. ($50,741 cash out from sale + $1,979,500 installment note - $500,000 cash in for purchase of land - $978,463 construction costs [this issue still not resolved] - $3,001 replacement property expenses). | I think best case scenario is that your client will have $548,777 of boot. ($50,741 cash out from sale + $1,979,500 installment note - $500,000 cash in for purchase of land - $978,463 construction costs [this issue still not resolved] - $3,001 replacement property expenses). | ||
| - | This same result can also be achieved using the "top down" equity calculation method such as the Tax Tools Exchange Worksheet. Although, you should always proof this worksheet using the "bottom up" boot calculation method as I did in the prior paragraph. The equity calculation method has a flaw that I have spoke about many times. | + | This same result can also be achieved using the "top down" equity balancing calculation method such as the Tax Tools Exchange Worksheet. Although, you should always proof this worksheet using the "bottom up" boot calculation method as I did in the prior paragraph. The equity calculation method has a flaw that I have spoke about many times. |
| Editorial note: This is a great textbook example of an advanced exchange transaction. I think this has everything in it.}} | Editorial note: This is a great textbook example of an advanced exchange transaction. I think this has everything in it.}} | ||
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| {{ForumReplyPost|UserID=Linzlrs|Date=30 July 2009|Text=Paul, what is the flaw with the tax tools worksheet? I was going to try using it this morning.}} | {{ForumReplyPost|UserID=Linzlrs|Date=30 July 2009|Text=Paul, what is the flaw with the tax tools worksheet? I was going to try using it this morning.}} | ||
| - | {{ForumReplyPost|UserID=PVVCPA|Date=July 30, 2009|Text=The Tax Tools worksheet ignores the constructive receipt rules and allows the netting of cash-boot out with cash-boot in. For example, your client took $50,741 of cash out of the sale. That is constructive receipt of boot. If she re-deposited this back into the purchase, the Tax Tools worksheet would ignore her constructive receipt and give you a result with no boot.}} | + | {{ForumReplyPost|UserID=PVVCPA|Date=July 30, 2009|Text=The Tax Tools worksheet uses the equity balancing calculation method which will sometimes ignore the constructive receipt rules by allowing the netting of cash-boot out with cash-boot in. For example, your client took $50,741 of cash out of the sale. That is constructive receipt of boot. If she re-deposited this back into the purchase, the Tax Tools worksheet would ignore her constructive receipt and give you a result with no boot.}} |
Revision as of 14:43, 30 July 2009
Discussion Forum Index --> Advanced Tax Questions --> 1031 exchange with replacement property financing
Discussion Forum Index --> Tax Questions --> 1031 exchange with replacement property financing
| 29 July 2009 | |
| I have a 1031 exchange with the following facts:
FMV relinquished property = 2,192,400 Exchange expenses = 95,156 Cash received at closing = 50,174 Mortgage payoff at closing = 74,159
Exchange expenses = 3,001 New loan to purchase the replacement property = 505,000
Any thoughts? | |
| 29 July 2009 | |
| TaxTools has a great worksheet to help you pencil this out. You have boot. | |
| 29 July 2009 | |
| do you use the TaxTools software? you can download a trial/demo version for free at taxtools.com
(if you choose to purchase, drop me an email and I can refer you so you can get a discount) | |
| 29 July 2009 | |
| I'll give it a try. I believe the only online subscription we have is RIA, which has been less than helpful. | |
| July 29, 2009 | |
| Can you please provide some more info:
Was this a deferred (3-party) exchange? How much money was transferred through the QI? You said there was seller financing. How much of the sales price did your client finance? Was the new loan on the replacement property taken out at closing or did this happen after the fact? How much cash did your client get out of the replacement escrow? I have a hunch your client has a big pile of boot. | |
| 30 July 2009 | |
| The seller financing is boot. The recognized gain on that boot will be reported and taxed over the term of the note. | |
| 30 July 2009 | |
| PVVCPA:
I have seen you post on many of the 1031 discussions and you seem to be quite knowledgable in this area. I would really appreciate some insight as this is a big client and we have a big realized gain at stake. This was a deferred exchange. There were 2 properties given up in the exchange, both were seller-carry for a combined total of 1,979,500. The QI is the note-holder and has been receiving the payments. My client obtained a line of credit to provide the funding for the replacement property (substitute for equity in notes). She transferred 500,000 to the QI to purchase land. She then used 978,463 from the line of credit to construct a house on the land. She bought a commercial property for 175,000 (seller-financed) and a condo for 330,000 (bank financed). The new loans (not the line of credit) were included in the closings of the replacement property. My client did not get any cash out of the repaclement escrow. Thoughts??? | |
| 30 July 2009 | |
| Taxteck:
The QI is the note-holder and has been receiving the payments. See details above. I think we are ok on the seller-carry??? | |
| 30 July 2009 | |
| The note & security docs are in the name of the QI. The QI will be receiving the payments (interest only) until the balance is due in the form of a balloon pmt in approx 18 months. QI is using the interest payments to make payments on my client's line of credit. The QI will use the balloon payment to payoff my client's line of credit.
I think this is where I run into a snag. It appears to me that the QI will be left with funds that were not reinvested. That is why I am concerned about the 505,000 of new loans. I am afraid the QI may not have executed this exchange properly. | |
| 30 July 2009 | |
| Money borrowed from third-party lenders cannot be treated as boot. Boot, by definition, is that portion of the amount realized that is nonqualifying proeprty. The note held by the QI is an example of boot. | |
| July 30, 2009 | |
| Good news: I believe you are OK with the new loans on the replacement property as these loans did not have the effect of creating any additional boot out.
Bad News: As Taxteck stated above, the $1.9+ seller carryback is boot and gain will be recognized under the Installment Sale rules. Unless your client's basis in the relinquished property is < $220K, then your client received no real benefit from structuring this as an exchange. Any chance that line of credit was obtained by the QI as the agent for your client? Or does that line fully belong to your client? If it was obtained by the QI and the QI will be using a portion of the balloon payment to pay it off, then maybe there is some relief. But that would require some research, as I have never seen this type of transaction. Especially past the 180 day exchange period. BTW, $978K to construct a house? Smells like personal use property to me. Your client may not even have a qualified exchange in the first place. Riley2 & I do not always see eye to eye on exchanges. You should try to get his point of view on this transaction, too. | |
| 30 July 2009 | |
| PVVCPA:
I understood that you could prevent the seller carryback from being classified as boot if the QI takes the note into the exchange account and the exchangor later replaces the note with cash. Boot paid out (the note) should be offset by cash boot paid in. I really don't understand why the QI is holding the note until payoff, this doesn't appear to be necessary to me. The only document I have on the line of credit is a loan history from the bank which does have my client's name on it. I am not sure about any of the underlying documents. I think I need to follow-up on this. The worksheets that I have used all end up with the new loans as boot and so does Lacerte, could they be wrong? The newly constructed home is not a personal residence. It is a "spec house" that my client will not be living in. Hopefully Riley2 will see this discussion, if not I will try sending him a message. | |
| 30 July 2009 | |
| Not sure that the entire $1.9 million in buyer notes will be boot. Theoretically, the boot should not really exceed $209,000 less exchange expenses. In other words, I am not really sure that your client really owns the entire $1.9 million in mortgage notes. Also, new loans taken out before, during or after the exchange should not create boot. However, assuming debt on the replacement property can create boot. | |
| July 30, 2009 | |
| Lindsey, Correction to my last post. I believe your client can reduce the boot from the $1.9M+ installment note by the $500K that she deposited into the exchange. Cash-boot in and cash-boot out can be netted if the cash-boot in occurs first.
Was the $500K land purchase assigned by the QI to your client before or after your client spent the $978K in construction costs? Did your client also deposit this money (the $978K) with the QI, and then the QI paid the construction bills? Was the construction completed before the 180 days? If your client and the QI did everything right with this, then this should offset the boot from the installment note, too. I think best case scenario is that your client will have $548,777 of boot. ($50,741 cash out from sale + $1,979,500 installment note - $500,000 cash in for purchase of land - $978,463 construction costs [this issue still not resolved] - $3,001 replacement property expenses). This same result can also be achieved using the "top down" equity balancing calculation method such as the Tax Tools Exchange Worksheet. Although, you should always proof this worksheet using the "bottom up" boot calculation method as I did in the prior paragraph. The equity calculation method has a flaw that I have spoke about many times. Editorial note: This is a great textbook example of an advanced exchange transaction. I think this has everything in it. | |
| 30 July 2009 | |
| The QI purchased the land, my client then opened a bank account and took advances on the line of credit to pay for the construction. She wrote all the checks. The QI then prepared a settlement statement with the total of the land and the construction costs as the sales price.
The construction was completed before the 180 days. The combined basis of the relinquished properties is only 137886. | |
| 30 July 2009 | |
| Paul, what is the flaw with the tax tools worksheet? I was going to try using it this morning. | |
| July 30, 2009 | |
| The Tax Tools worksheet uses the equity balancing calculation method which will sometimes ignore the constructive receipt rules by allowing the netting of cash-boot out with cash-boot in. For example, your client took $50,741 of cash out of the sale. That is constructive receipt of boot. If she re-deposited this back into the purchase, the Tax Tools worksheet would ignore her constructive receipt and give you a result with no boot. | |
