Have you ever traded in your old car for a new car? If so, you have done a like-kind exchange. For individuals trading in their personal vehicles, there is no gain or loss on transactions involving personal assets. However, for businesses, there can be significant tax implications to these transactions.
A business trading in a fully depreciated vehicle for a new vehicle may defer the gain if they meet certain requirements. Not only can this be done for vehicles, but for any 'like-kind' property. 'Like-kind' property refers to the nature or character of the property and not to its grade or quality. This could include trading in an old forklift for a new forklift or trading in an old machine for a new machine. 'Like-kind' property can also include unimproved land for an apartment building.
With increased tax rates in 2013, this is a perfect planning idea for entities that want to dispose of appreciated assets, but defer paying tax on the gain. Under Code Section 1031, “No gain or loss shall be recognized 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 which is to be held either for productive use in a trade or business or for investment within a specific time frame and with exceptions.”
In general, the gain is deferred and the basis of the new asset is reduced (for tax purposes) by the gain on like-kind property given. Additionally, any cash received in a like-kind exchange will usually be taxable.
In most real estate transactions, it would be unlikely that the purchaser of your building would also be the seller of a building you want to purchase. In these cases, three-party exchanges are permitted which are facilitated by a Qualified Intermediary (QI).
Remember this is a mandatory provision, so if you meet the requirements, no gain or loss is recognized. If you do not want this provision to apply, you must structure the transaction so it will fail to qualify as a like-kind exchange.
Need help determining whether or not your property or investment qualifies for a 1031 &/or the steps needed in order to accomplish a tax deferred exchange? Post a comment below or contact our Tax Planning & Preparation Group at 440-449-6800.