Private Letter Ruling on Deferred Sales Trust Issued

July 3, 2009 by admin
Filed under: Financing Real Estate

Deferred Sales Trusts have been around for about three (3) years now and have been used successfully to assist taxpayers in deferring the payment of their capital gain taxes and under certain circumstances their depreciation recapture taxes over a predetermined period of time into the future.

Deferred Sales Trust Compared To The 1031 Exchange

The Deferred Sales Trust is not the same as a 1031 exchange. In fact, the 1031 exchange is generally a better income tax deferral strategy because it allows the taxpayer to indefinitely defer the payment of their income tax liabilities, including 100% of their depreciation recapture taxes. The taxes will never come due as long as the taxpayer continues to structure 1031 exchange transactions by reinvesting in replacement properties throughout their lifetime.

Deferred Sales Trusts can be an incredibly powerful tax deferral strategy when the taxpayer does not want to continue 1031 exchanging by reinvesting in replacement property as required by the 1031 tax deferred exchange.

Taxpayers can sell their highly appreciated property - whether it be real estate or personal property or a business or company - and avoid getting hit with the capital gain taxes all in the year of sale by deferring the payment of the capital gain taxes through the Deferred Sales Trust.

Private Letter Ruling Now Available

We have used the Deferred Sales Trust for almost three (3) years now in helping taxpayers defer the payment of their capital gain taxes when they do not wish to 1031 exchange or their 1031 exchange fails and they would still like to defer the payment of their capital gain taxes.

And, we now have a Private Letter Ruling to further support the process. The Internal Revenue Service has issued a PLR or Private Letter Ruling addressing the tax deferred structure of the Deferred Sales Trust.

Can I 1031 Exchange Into a Promissory Note?

Buying Distressed Notes

I overheard a conversation recently while circulating at a commercial real estate networking event in Los Angeles. The person speaking said they were buying distressed loans (promissory notes) at significant discounts from commercial banks. The loans were already in foreclosure, and the person speaking (buyer) wanted to buy the notes now so that they would end up with the actual real estate by completing the foreclosure.

Buying Notes Through a 1031 Exchange

She indicated that she would like to sell certain real estate that she already owns through a 1031 exchange, and then acquire the promissory notes from the commercial bank as her like-kind replacement property to complete her 1031 tax deferred exchange transaction.

She indicated that she had asked a couple of 1031 exchange Qualified Intermediaries about doing just this but that the two Qualified Intermediaries said that the transaction would not qualify for 1031 exchange treatment because the installment notes were personal property and not real estate.

Expertise and Experience Counts Here

The answer that she received appears to be correct on the surface. She wants to sell real estate, so it stands to reason that she must acquire real estate in order to qualify for tax deferred exchange treatment under Section 1031.

However, there actually is a way to structure the transaction so that it will qualify as a 1031 tax deferred exchange. The concept is relatively easy and straight forward. The strategy combines the concepts of the Reverse 1031 Exchange parking structure and the Build-To-Suit 1031 Exchange improvement strategy.

Reverse 1031 Exchange Parking Structure

She could implement the Reverse 1031 Exchange parking structure under Revenue Procedure 2000-37 where the note would be acquired and “parked” by the Exchange Accommodation Titleholder (EAT) as her intended like-kind replacement property.

The note is absolutely personal property as the two 1031 exchange Qualified Intermediaries pointed out to her when asked if it could be done. It is clearly not real estate, yet.

Build-To-Suit 1031 Exchange Improvement Strategy

Real estate is often acquired and parked by an Exchange Accommodation Titleholder in order to improve the property. The real estate is then transferred to the taxpayer to complete his or her 1031 tax deferred exchange once the improvements have been completed. This is referred to as an Improvement 1031 Exchange or a Build-To-Suit 1031 Exchange or a Construction 1031 Exchange.

The same concept can be used for her proposed 1031 tax deferred exchange. The note would be acquired and parked by the EAT. The EAT would “improve” the property by completing the foreclosure. The EAT would end up with the actual real estate upon completion of the Trustee’s Sale. The real estate can then be transferred to her to complete her 1031 exchange.

You really can acquire a Promissory Note as part of your 1031 tax deferred exchange transaction as long as the like-kind replacement property is actually a real property interest when it is received by the taxpayer completing the 1031 exchange.

More Good Economic News: Private Sectors Jobs

The pace of job losses in the Private Sector in the United States slowed considerably last month, while planned layoffs for the future also dropped, and the hard-hit residential real estate sector continued to show signs of economic improvement.

These economic reports on the slowing of job losses, planned layoffs and continued improvement in the residential real estate sector are the latest indications that the United State’s economy is pulling out of the freefall.

Residential real estate, the initial center of the economic downturn, showed an increase in mortgage applications last week, even while mortgage interest rates increased to their highest levels since mid-March 2009.

The aggregate number of private sector job losses in the United States were much lower than what was expected in April 2009, and hit its lowest level since November 2008. Meanwhile, planned layoffs at private firms in the United States dropped for a 3rd month in a row in April 2009, which was the lowest level of planned layoffs since October of 2008.

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