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Avoid tax on sale of business, real estate: (Sec. 1031 "like-kind exchange").

Internal Revenue Service Code Section 1045 permits an individual to roll over capital gain from the sale of "qualified small-business stock" held for more than six months if other small-business stock is purchased within 60 days. But if the transaction is an asset sale, as opposed to a stock sale, Section 1045 is not applicable.

Asset sales still can qualify for favorable tax treatment if the transaction falls within the "like-kind exchange" rules of Section 1031. Section 1031 provides that gain or loss is not recognized if property held for productive use in a business or for investment is exchanged for property of a "like-kind" to be held for similar purposes. Machinery, buildings, land, trucks and rental houses are examples of property that may qualify.

Unfortunately, the rules for like-kind exchanges do not apply to exchanges of the following types of property:

* Property used for personal purposes, such as a home or a family car

* Stock in trade or other property held primarily for sale, such as inventories, raw materials, and real estate held by dealers

* Stocks, bonds, notes, or other securities or evidences of indebtedness, such as accounts receivable

* Partnership interests

To qualify under Section 1031, there must be an exchange of like-kind property. The exchange of real estate for real estate and the exchange of personal property for similar personal property are exchanges of like-kind property. For example, the exchange of land improved with an apartment building for land improved with a warehouse, or a panel truck for a pickup truck, are like-kind exchanges. An exchange of city property for farm property, or improved property for unimproved property, would also qualify as like-kind exchanges.

An exchange of personal property for real property does not qualify as a like-kind exchange. For example, an exchange of a piece of machinery for a warehouse would not qualify. In addition, an exchange of the assets of a business for the assets of a similar business cannot be treated as an exchange of one property for another property. Whether you engaged in a like-kind exchange in that situation depends on an analysis of each asset involved in the exchange.

Depreciable tangible personal property (not to be confused with property held for personal use) can be either "like-kind" or "like-class" to qualify under Section 1031. Like-class properties are depreciable tangible personal properties within the same general asset class or product class. Asset classes would include the following:

* Office furniture, fixtures and equipment

* Information systems, such as computers and peripheral equipment

A like-kind exchange need not be simultaneous, nor must it involve only two people. In other words, you need not sell your property to a buyer in exchange for his or her property. In fact, such an exchange would be rare. The more typical situation would be for the seller to sell his property to a buyer, and then purchase like-kind property from a different person. This is known as a deferred exchange. A deferred exchange is one in which you transfer property you use in business or hold for investment and later receive like-kind property to use in business or hold for investment. Detailed rules govern deferred exchanges, so be sure to consult with your accountant or attorney before undertaking such an exchange.

Special rules apply to like-kind exchanges between related persons. Under these rules, if either person involved in the exchange disposes of the property within two years after the exchange, the exchange will not qualify under Section 1031.

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Title Annotation:TAXES
Publication:The Business Owner
Date:Sep 1, 2010
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