The Senate Finance Committee under Sen. Max Baucus, D-Mont., wants to do away with the widely popular tax accounting regulation known in real estate circles as a 1031 tax-free exchange.
Section 1031 of the Internal Revenue Code allows exchanges of certain types of investment property with deferred capital gains taxation under certain conditions. Tax can be deferred in a series of transactions, carried over to each asset until a taxable transaction occurs, which means a sale without reinvestment.
The following transactions met the conditions. Would the deals have been dealt without it?
• David Le Norman's purchase of One Benham Place, the eight-story office building at 9400 Broadway Extension, in 2011.
• The office tower-retail mall 50 Penn Place, as it changed hands a time or two the past 10 years.
• The Warr family's 2006 sale of Mayfair Village, the shopping center developed by C.B. Warr in the 1950s on both sides of May Avenue between NW 47 and NW 50. The same goes the same year for the sales of Midland Plaza at Independence Avenue and Northwest Expressway, and Market Place Shopping Center in Edmond.
• Developer David Austin's Oak Hollow addition, on the north side of Memorial Road, between Bryant Avenue and Coltrane Road, in 2002.
Those are just a handful of investment purchases and sales made here with a tax-free exchange. Add to it lots of apartment sales — and other smaller, or just quieter, transactions that nobody said much about.
Would the deals have been struck without the 1031 exchange? The answer depends on the deal, of course. But probably not.
Property specialists weighed in this week, at my request, on the Baucus proposal, which the senator says is meant to “simplify tax rules, lessen the burden on small businesses and jump-start job growth.”
Here are excerpts:
• Richard C. Howell, Holliday American Mortgage LLC: “The rule ... increases the number of transactions. This benefits the real estate industry because there are a greater number of transactions. Repeal of the rule would decrease demand for real estate and, therefore, decrease values.”
• Ford Price, Price Edwards & Co.: “The intent is to allow and motivate people to sell investment property or business property and effectively recirculate that profit back into the economy by deferring the tax. Many people will not sell unless this is allowed, so profits are locked up and not reinvested. ...
“We just sold a property which would definitely not been sold without ability to do a 1031 deal; that person just put under contract another large property. This tax provision is a very important issue for a tremendous number of property owners and investors.”
• Mark Inman, CB Richard Ellis-Oklahoma: “Such a repeal would, for obvious reasons, discourage the selling of real estate. Without a transaction, there is a trickledown effect ... no doc stamps collected for the county, no absolute reassessing of the property based upon the latest value, no construction spending on the newly purchased property, which typically happens.
“The impact would seemingly bear more negatively upon the smaller owners/developers/investors who are using the 1031 exchange to build a real estate investment portfolio, yet not so much on the larger companies or large equity funds that oftentimes are users for real estate — and the acquisition is driven by a need to occupy the real estate with or without 1031 exchange money.”
• William T. Forrest, CB Richard Ellis-Oklahoma: “Many owners will not sell unless they have an exchange property available to purchase. This applies to new development as well as purchase of existing properties. We are involved in multiple transactions every year driven by 1031's. It would certainly slow down transaction volume.
“They have been trying to revise the tax code (1031) for years and thankfully have not been successful.
Despite what the reasoning is for doing away with the 1031 provision, these additional transactions create large sums of capital that gets reinvested back in the economy.”
Read about the proposal here from the Senate Finance Committee: tinyurl.com/1031X. Feedback on the entire cost recovery and tax accounting rules discussion draft is requested by Jan. 17.
Comments can be sent to: Tax_Reform@Finance.Senate.gov.