Sunday, August 31st, 2014

1031 Exchange from one GO Zone property to another without the recapture of the bonus depreciation?

The following article was written by our GO Zone tax advisor.

The appropriate use of IRC 1031-type exchanges is a legitimate tax concern as it can materially effect the economics of (1) Developing a portfolio of real estate investments via the deferral of gain and (2) Exiting from real estate investments to a cash position at a future point.

IRC 1031-type exchanges have been a strong tax tool over an extended period of time and it is only logical taxpayers would not like to see it’s use limited to specific geographical areas or the deferral benefits of gain restricted to only a portion of the total gain.

However, this is exactly the position the legislations seem to take and certainly the position which governs most of the IRS’s direction.

In December of 2007, I called the appropriate department at the IRS and requested to speak to the individual which prepared the latest authoritative pronouncement on this question. The individual’s response was as follows:
• The IRS is aware of the debate regarding the use of a Section 1031-exchange from a GO Zone property to a non-GO Zone property.
• The IRS believes a key premise to the GO Zone legislation is the keeping of the GO Zone tax benefits within the GO Zone.
• The IRS is, at the current time, drafting a direct response to this GO Zone to non- GO Zone issue.
• The IRS will not provide any hints of their position on this issue at this time but did reaffirm their position that GO Zone benefits should stay in the GO Zone.
• The IRS appears to be giving tacit approval to the use of IRC 1031-type exchanges where two GO Zone properties are involved.
• There is not a public release date for the release of their position.
• The safest tax answer as of December of 2007 is if you use an IRC 1031 exchange from a GO Zone status property to a GO Zone status property before the end of the depreciation period (use 27.5 years as a good guidance), you will not need to recapture the bonus depreciation as ordinary income at the time of the exchange.

My personal opinion based on the authoritative literature at this time?
An IRC 1031 exchange between GO Zone properties will not result in recapture of the bonus depreciation.

(Please note that this article does not imply an IRC Section 1031-type exchange with some limits cannot occur. The tax issue is whether the GO Zone bonus depreciation will need to be recaptured as ordinary income at the time of the exchange. Note also that this question deals with a current owner of a GO Zone property desiring to perform an IRC 1031-exchange to another property. This question does not discuss the issue of a 1031-exchange from a non-GO Zone property into a GO Zone property.)