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Monday, October 29, 2012

Like-Kind Property: Does Federal or State Tax Law Control?

Like-Kind Property: Does Federal or State Tax Law Control?

The Internal Revenue Service’s Chief Counsel Advice (CCA) #201238027 addresses the issue of whether state law characterizations of property as real or personal are determinative of whether property is considered “like-kind” pursuant to Internal Revenue Code Section 1031. Section 1.1031(a)-1(b) of the regulations notes that the words “like-kind” refer to the nature or character of a property, but not its grade or quality. Since state laws differ in how they characterize real and personal property, relying strictly on state law property classifications would result in federal tax law being dependent on state laws and state policies. This would be problematic for investors seeking Section 1031 tax deferral involving properties with different property classifications in different states.

The conclusion reached in CCA 201238027 is that federal income tax law preempts state law for determining whether exchanged properties are treated as like-kind for purposes of IRC Section 1031. Although state law property classifications are one relevant factor for determining if property is considered real or personal, the determination should ultimately be made under federal tax law by considering all of the taxpayer’s facts and circumstances.

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