Added Flexibility For Like-Kind Exchanges

Federal tax law provides a valuable benefit to property owners who want to dispose of one property and acquire another at about the same time. By following strictly crafted rules, these owners can defer some or all of the taxes that would otherwise be payable on the sale of the property. One of the myriad rules is that the same taxpayer must sell the old property and buy the replacement property. This means that if a partnership owns the property to be sold, the same partnership must buy the new property. It also means that if the property to be sold, sometimes called “relinquished,” is owned by an individual, the new property must be owned in the individual’s own name.

In a common situation, the property to be relinquished is owned in the name of a particular taxpayer, be it an individual, partnership, or corporation. The property owner wants to reduce its risk and liability in owning the new, replacement property. It also wants to defer taxes that would otherwise be payable on the sale of the property to be relinquished. However, until recently there was no safe way to satisfy both of those goals. Now, with the advent of limited liability companies and the near universal availability of “single member” LLCs, this may be possible.

The secret is that an LLC having just one member (owner) is ignored as an entity for federal tax purposes. Most states also have adopted this tax concept. For purposes of enjoying the shield from liability offered by an LLC, however, a single member LLC offers the same protection as one with two or more members. Therefore, for tax purposes, a single member LLC is considered to be the very same taxpayer as its “owner.” Consequently, for the purposes of the “like-kind exchange” rules, there is no difference in the identity of the taxpayer between the original property owner and its single member LLC that buys the replacement property.

Even with this relaxation, the rules for a tax deferred, like kind property swap remain complex and any slip may be fatal to the taxpayer’s pocketbook. If you have any thought of selling one property and buying another within about a six month period, you should begin your planning even before you offer your property for sale. Various types of property qualify (not just real estate). The time deadlines are strictly enforced, so you’ve got to be sure what you want to do before you trigger the start of any critical time period. Our advice is that you contact your accountant or attorney before beginning the process so that you don’t inadvertently lose an important tax benefit.

Lastly, at the time of this article, the laws in over 40 states allow formation of single member limited liability companies but New Jersey was not yet among them. That may soon be changed by a bill to permit single member limited liability companies which is now before the New Jersey legislature and is expected to be adopted soon.  In the meantime, in states that do not yet provide for domestic single member limited liability company, such entities can be formed in a “foreign” state and apply for authorization to do business in the state where the property is located.