When investors first find out about how a 1031 exchange allows you to sell a highly appreciated property and replace it with another one and pay no capital gain taxes, they get excited. So excited that often they ponder the possibility of not just selling and replacing property, but selling and building the perfect replacement property.
This recent Bartell decision which opens the possibility of taking your construction exchange or reverse exchange well beyond the arbitrary 180 day limit is a game-changer.
But the problem they inevitably face is being able to complete the build to suit improvements within the traditional 180 day time frame which is a key part of the Internal Revenue Code statute which sets forth the rules for exchanges, Section 1031.
But that arbitrary 180 day window may have been thrown wide open based upon a recent court case and the decision of the IRS not to appeal a ruling which allowed an Exchanger in the Northwest to take seventeen months to complete their property improvements.
Bartell Drugs is a family owned group of 65 retail drug stores around greater Seattle, Washington. In 2000, as a result of changes in the competitive landscape they decided to transition into more stand-alone stores rather than their current retail locations; so they decided to build a new store as part of a Section 1031 construction exchange. But they went a little past the traditional Section 1031 six month exchange window, they went all the way to seventeen months to complete their exchange. Then, they subsequently filed their tax return, claiming a deferral of their capital gain taxes because the transaction was completed as a 1031 exchange.
As to be expected the IRS disallowed the exchange and the entire issue ended up in tax court for several years.
What was the upshot of the court case? The Bartell's prevailed when their exchange was upheld. And in a further shock to the real estate investment community, the IRS refused to appeal the decision, thereby allowing the Bartell case to act as a precedent of sorts.
So what does that mean for investors who want to do a construction exchange beyond the 180 day safe harbor? Can they assume that any time frame to complete a construction exchange is okay? Absolutely not! Can they casually approach their non-safe harbor (180 day plus) construction exchange and be unaware of the nuances which made the Bartell case complaint? Definitely not!
But, can you actually arrange a compliant, non safe-harbor construction exchange, while dotting your I's and crossing your T's, and complete it on a tax deferred basis? The answer now appears to be yes.
So how is it done? Very carefully. So carefully in fact that if you think you are a candidate for such a transaction you need to speak with one of just a handful of experts on the subject. According to Stan Freeman, President of Exchange Strategies Corp., a Campbell, California company which specializes in complex exchange transactions "the issues are often very involved, requiring extensive planning as well as an excellent legal foundation. But is it doable, it absolutely is."
Exchange Strategies, or ExStra as it is known in the 1031 exchange industry has recently developed a program that specifically organizes and accommodates this new type of non safe-harbor construction or build to suit exchange.
Now a caveat, the Bartell compliant approach from ExStra represents a complex strategy for sophisticated transactions. Don't expect it to be inexpensive. But, by extending the timeframe available to build, it is very likely to change the way big build to suit exchanges will be completed in the future.
If you need more information here is our contact information below.
Stan Freeman (877) 847-1031