As is the case with most tax legislation, decisions that were made as part of the Tax Cuts and Jobs Act of 2017 are now under attack. One such decision is related to Section 1031 which applies to like-kind exchanges (also known as 1031-exchanges in reference to the section of the tax code they are addressed in). In the simplest of terms, the like-kind exchange rules allow taxpayers to defer (not avoid) capital gains taxes on the exchange of one property with another of “like kind.” The provision allows for the deferral of part or all of the capital gains tax payment, that would accompany a conventional sale, to be reinvested into another asset. Previously, this section applied to a variety of transactions but the TCJA removed this tax deferral option for everything except real estate transactions.
While some argue that the transactions are designed to dodge taxes, like-kind exchanges are not only still subject to tax but also come with strict rules and deadlines which, if not met, require capital gains tax to be paid immediately. Additionally, property owners might face significant liabilities since Section 1031 waives their ability to write off losses incurred on the property.
Like-kind exchange transactions are critical for communities. They promote savings, investment, allow capital to flow more efficiently, encourage commerce and ultimately stimulate US economic growth and job creation. A recent study confirmed that these 1031-exchanges have led to a more dynamic real estate sector that encourages reinvestment and building improvement.
Opponents are looking at Section 1031 as a source of additional revenue for the federal government. However, this short-term solution creates a long-term problem – the economic benefit these transactions generate in local communities would be lost.
Not only do more than a third of like-kind exchanges pay some amount of federal tax in the year of the exchange, but more importantly, over time they boost tax revenue due to the higher tax liability that arises in the years following. Additionally, these exchanges help support the tax base at all levels of government. State and local governments rely on the revenues generated by these transactions since more frequent turnover of real estate generates property transfer and recording fees, as well as property reassessments that increase the property tax base. Any attempt to revoke this tax deferral would undermine the real estate marketplace, raise taxes and discourage job-creating improvements.
Tom McGee is Pres. and CEO of ICSC, serving the retail real estate industry. ICSC provides its 70K+ members with resources, connections and industry insights, and work to shape public policy.
- Originally posted on Forbes