Involuntary Conversion Rules May Offer Help to Owners of Condemned Properties
Last fall’s Superstorm Sandy carved a wide path of destruction through New York and New Jersey. In Westfield, N.J., a dozen homes were condemned. Hundreds more incurred a similar fate in New York City. On Long Island’s South Shore, several houses fell victim to condemnation after a raw sewage leak ran through them. While losing one’s home or business to condemnation or eminent domain is emotionally devastating, as a taxpayer, you should also keep in mind that certain possible tax planning opportunities may become available when this sort of “involuntary conversion” happens. If you do the proper planning, you may be able to defer income taxes as well as minimize the increase in your property taxes when you obtain your replacement property.
According to the Internal Revenue Service, an involuntary conversion takes place when a “property is destroyed, stolen, condemned, or disposed of under the threat of condemnation and you receive other property or money in payment, such as insurance or a condemnation award.” Section 1033 of the tax code permits taxpayers in these situations to defer the gains they realize from involuntarily converted property. The provisions of Section 1033 are more favorable than those contained in Section 1031, which governs like-kind exchanges.
This option is especially important to taxpayers whose income tax basis, and property tax base in the converted property, was low. That’s because, under this rule, the taxpayer does not realize a gain on the old property if taxpayer purchases another property that is “similar or related in service or use” within the time period specified by the statute.
Section 1033 also gives you anywhere from 2-4 years to acquire a replacement property, far more time than the 45 days allowed under Section 1031. Be aware, though, that the replacement must be complete, not just in progress, and if you do not meet the deadline established by Section 1033, you lose any benefits under the section. If that happens, the gain you received from the sale or condemnation immediately becomes fully taxable. You must show that you intend to use the new property as a replacement for the converted property, and take care to document that you are purchasing the new property as a replacement. If you do not prepare and maintain the proper documentation, the IRS may try to declare the gain immediately taxable.
If you own property that has been subject to a condemnation, eminent domain action or any other type of an involuntary conversion, and you receive either property or cash in exchange for that property, it is important you consult knowledgeable tax experts about what options you have. To get knowledgeable advice about the most advantageous tax plan for your situation, consult the experienced tax attorneys at Samuel C. Berger, P.C. and CPAs at S.C. Berger, P.C. Our diligent and sensitive attorneys and CPAs cannot get your old home back, but they can make sure that you minimize the tax burden of getting a new one. To consult our attorneys and CPAs, contact us online or call (201) 587-1500 or (212) 380-8117.
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