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Recent Private Letter Ruling Allows Minimal Qualified Use Period for Distribution from Trust to TIC Owners and Subsequent Sale
The IRS Private Letter Ruling (PLR) 202416012 issued on April 19, 2024, addresses the potential issues in a Internal Revenue Code Section 1031 states that "no gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held for productive use in a trade or business or for investment." 1031 Exchange of a trust beneficiary’s Tenancy in Common (TIC) interest in an asset that had formerly been owned by the trust. This PLR involves a testamentary Trust (a trust established by the will of a deceased person) that continued to hold property long after the death of the creator of the Trust to presumably assure the Trust property would devolve to specific beneficiaries. When it became apparent the conditions for termination of the Trust had occurred, the trustees of the Trust petitioned the probate court to approve the sale of the Trust real property.
As part of the termination of the Trust, the Trustees initially considered the sale by the Trust and a 1031 exchange into replacement property. However, certain beneficiaries, including the beneficiary (“Exchangor” or “Taxpayer”) Person intending to conduct a 1031 tax deferred exchange, who transfers a relinquished property and thereafter receives a replacement property. Exchanger requesting the PLR, advised the Trustees and the probate court they wished to effect individual 1031 exchanges of their respective TIC interests in the real property into what would be their individual Replacement Properties. The Trustees and exchanging Beneficiaries, including the (“Exchangor” or “Taxpayer”) Person intending to conduct a 1031 tax deferred exchange, who transfers a relinquished property and thereafter receives a replacement property. Exchanger , agreed as part of the Trust Termination Plan to distribute tenancy in common (TIC) interests in the trust property to separate single member LLCs created by each of the exchanging beneficiaries. Upon approval of the Termination Plan by the Probate Court, each of the LLC’s will complete 1031 exchanges of their TIC interests into Replacement Property.
The IRS ruled that the distribution from the Trust to (“Exchangor” or “Taxpayer”) Person intending to conduct a 1031 tax deferred exchange, who transfers a relinquished property and thereafter receives a replacement property. Exchanger of the TIC interest will not preclude such interest from being deemed “held for investment or for productive use in a trade or business” within the meaning of § 1031(a) of the Code. In issuing the PLR, the IRS distinguished this transaction from similar transactions described in Rev. Rul. 75-292, 1975-2 C.B. 333 and Rev. Rul. 77-337, 1977-2 C.B. 305 where the IRS ruled that distributions of real property out of a business entity with a short-term hold disqualified the real property as being held for investment/business use. The IRS distinguished those scenarios due in large part to the fact that the distributions were voluntary and pre-planned.
The facts provided in this PLR which seem to favor the (“Exchangor” or “Taxpayer”) Person intending to conduct a 1031 tax deferred exchange, who transfers a relinquished property and thereafter receives a replacement property. Exchanger are as follows:
The Trust was a testamentary trust subject to a predetermined termination event beyond the control of the exchanging beneficiaries.
The holding period by the Trust was very lengthy.
The Trust always held the subject property for investment/business use.
The Termination Plan was part of a court-ordered disposition.
The (“Exchangor” or “Taxpayer”) Person intending to conduct a 1031 tax deferred exchange, who transfers a relinquished property and thereafter receives a replacement property. Exchanger /beneficiary is going to acquire and hold qualifying like-kind property and therefore there is a continuity of investment.
The (“Exchangor” or “Taxpayer”) Person intending to conduct a 1031 tax deferred exchange, who transfers a relinquished property and thereafter receives a replacement property. Exchanger ’s LLC is a Single Member LLC and therefore a disregarded entity.
We’re left with the question of whether this PLR is a harbinger of a softer stance by the IRS in the area of “drop and swap” transactions incident to a Internal Revenue Code Section 1031 states that "no gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held for productive use in a trade or business or for investment." 1031 Exchange . Keep in mind that private letter rulings are not the same as a legal precedent and any reliance is only warranted by the Exchanger seeking the ruling and compliance with the facts set forth in the ruling. Though this ruling may not constitute carte blanche approval of “Drops and Swaps”, it may provide comfort for those Exchangers involved in involuntary distributions which otherwise comport with a substantial amount of the facts in this PLR.
The material in this blog is presented for informational purposes only. The information presented is not investment, legal, tax or compliance advice. Accruit performs the duties of a Qualified A person acting to facilitate an exchange under section 1031 and the regulations. This person may not be the taxpayer or a disqualified person. Section 1.1031(k)-1(g)(4)(iii) requires that, for an intermediary to be a qualified intermediary, the intermediary must enter into a written "exchange" agreement with the taxpayer and, as required by the exchange agreement, acquire the relinquished property from the taxpayer, transfer the relinquished property, acquire the replacement property, and transfer the replacement property to the taxpayer. Intermediary , and as such does not offer or sell investments or provide investment, legal, or tax advice.
