Beginning January 1, 2018, Section 1031 like-kind exchange tax deferral will no longer apply to exchanges of tangible personal property. Under the Tax Cuts and Jobs Act, only real property will qualify for tax deferral in a like-kind exchange.
Many exchanges of real estate also involve exchanges of tangible personal property. Common examples are the exchange of a hotel property that includes the room furniture, or the sale of a manufacturing plant that includes buildings, real estate, and manufacturing equipment. While the real estate will qualify for like-kind exchange treatment, the equipment and furniture will not, even if the taxpayer purchases other equipment and furniture as part of the replacement property.
All is not lost when it comes to a sale of tangible personal property associated with a sale of real estate. It has always been the rule under Section 1031 that to get a deferral on the sale of tangible personal property (even when the tangible personal property is part of the sale of real property), the taxpayer must acquire new tangible personal property.
Under the Tax Cuts and Jobs Act, for certain types of depreciable property, the taxpayer can depreciate 100% of its cost in the year it is acquired. This rule generally applies to property with a depreciable life of no more than 20 years where the taxpayer is not using the ADS depreciation method. The 100% bonus depreciation deduction applies to assets acquired from September 27, 2017, through December 31, 2022.
Without getting into all the details regarding ADS depreciation, if a taxpayer would otherwise have a limitation on its ability to deduct business interest under the Tax Cuts and Jobs Act (more about this in a future post), then the taxpayer may elect to use the ADS method of depreciation to avoid the interest deduction limitation. However, if the taxpayer elects to use the ADS method, then the taxpayer will not be eligible to take the 100% bonus depreciation deduction.
Depending on the amount of new tangible personal property acquired, the taxpayer may be able to lessen the tax burden from the gain on the sale of the tangible personal property with the 100% bonus depreciation deduction for the new personal property.
If you are buying or selling real estate that includes furniture or equipment, pay close attention to the purchase price allocations in the contract. If there is not a purchase price allocation included in the first draft of a contract, make sure it is added before you sign the contract.
Remember, you will not be able to defer the gain from the sale of the tangible personal property, but you may be able to get a complete write off in the year of acquisition for the purchase of the tangible personal property. The purchase price allocation in your real estate contract will provide valuable evidence of the sales price/purchase price of the tangible personal property.
For more on the Tax Cuts and Jobs Act, click here.