Personal Property Overview
The Treasury Regulations provide for the exchange of personal property held for productive use in a trade or business provided that the property transferred is like-kind or like class to the property acquired. Similar to real property exchanges, a personal property exchange provides the opportunity to defer capital gains taxes and depreciation recapture. However, for personal property exchanges, depreciation recapture may be of much more concern than it is in real property exchanges due to the shorter depreciation periods allocated to personal property. By deferring these taxes, you have more funds available to acquire assets and build your wealth.
Personal property exchanges are much more restrictive than real property exchanges with regard to the interpretation of like kind or like class. Consult with your legal and/or tax advisors with regard to your exchange transaction.
Some types of personal property exchanges
- Franchise Licenses
- Construction Equipment
- Fleet Vehicles
- Office Furniture and Equipment
- Professional sports contracts
- Restaurant Equipment
- Hotel Furnishings and Equipment
- Broadcast licenses
- Art and Coin Collections
The replacement property must be identified within 45 days of the transfer of the first relinquished property. (the "Identification Period"). This 45-day rule may not be extended even if the 45th day should happen to fall on a Saturday, Sunday or legal holiday.
Manner of IdentificationThe replacement property or properties must be identified in a written document (the "Identification Notice") signed by the Taxpayer and hand-delivered, mailed, emailed, faxed, or otherwise sent and received before the end of the identification period. Written identification should be made to the party obligated to transfer the replacement property to the Taxpayer, or any other person involved in the exchange other than the Taxpayer or a disqualified person. Examples of persons involved in the exchange include any of the parties to the exchange, an intermediary, an escrow agent and a title company.
The acquisition of the replacement property must be completed by the earlier of:
- 180 days of the transfer of the first relinquished property; or
- The due date of filing your federal income tax return for the year in which you transferred the first relinquished property, including extensions. This 180-day rule may not be extended even if the 180th day should happen to fall on a Saturday, Sunday or legal holiday.
Original purchase price $1,000,000 Depreciation -250,000 Capital improvements +50,000 Adjusted basis $800,000 $1,200,000 Adjusted basis -800,000 Gain $400,000 Depreciation recapture ($250,000 x 35%) (max.) $87,500 Capital gains tax on balance of gain ($150,000 x 15%) $22,500 Total tax on sale $110,000
Example:You acquire an airplane for $1,000,000, which is its initial tax basis. Over time you take depreciation deductions in the amount of $250,000, and add capital improvements in the amount of $50,000.Your original purchase price, minus the depreciation of $250,000, plus the capital improvements of $50,000, results in an adjusted basis of $800,000. If you sell the airplane in a taxable sale for $1,200,000, you will have to recognize all of the gain of $400,000 and pay the associated tax shown below.
Original purchase price
Depreciation recapture ($250,000 x 35%) (max.)
Capital gains tax on balance of gain ($150,000 x 15%)
Total tax on sale
Description of Personal Property
The rules are more restrictive for personal property exchanges than for real property exchanges. In addition to the other requirements for a proper identification, replacement personal property must be identified by a specific description of the particular type of property. For example, for tangible personal property, replacement property must be of a like-kind or like-class. Relinquished property and replacement property must be of the same General Asset Class or Product Class as described in the North American Industry Classification System (NAICS). The NAICS Manual was updated in 2002. Copies of the NAICS Manual may be obtained from the National Technical Information Service of the Department of Commerce and may be accessed, with a more complete listing of manufactured products and manufacturing industries, on the internet at http://www.census.gov/naics.
In the case of intangible personal property, section 1031 applies only if the exchanged properties are "like-kind." The rules are less clearly defined for Intangible personal property and depends on the "nature or character" of the property rights involved and also consideration of the "nature or character" of the underlying property related to the Intangible personal property.
When complying with the identification rules, the Taxpayer should unambiguously describe the particular type of property. The Regulations to Section 1031 provide that a truck is unambiguously described if it is described by a specific make, model, and year. Due to the nature and complexity of personal property exchanges, it is recommended that independent tax or legal advice be obtained prior to starting an exchange.
For additional information specifically related to personal property exchange transactions, please contact your local First American Exchange office.
The recapture provisions of Internal Revenue Code Section 1245 generally apply only to depreciable personal property (“Section 1245 property”).
In a taxable sale of Section 1245 property, depreciation is recaptured as ordinary income [and taxed at ordinary income rates (maximum rate of 35% for individuals)], but only to the extent of gain recognized. In the above example, if the taxpayer were to dispose of the airplane in a taxable sale, since his gain is greater than the depreciation taken, all of the depreciation taken ($250,000) would be recaptured at ordinary income rates.
In a 1031 exchange, however, depreciation recapture on Section 1245 property is only applicable to the extent of: (1) the taxable boot recognized in the exchange, plus (2) the fair market value of any non-Section 1245 property received in the exchange, but which still qualifies for nonrecognition under Section 1031.
Therefore, in the above example, if the taxpayer acquired a replacement airplane in a 1031 exchange for $1,200,000, and reinvested all of his equity, there would no boot recognized in the exchange and no non-Section 1245 property received. Consequently, no depreciation recapture or capital gains tax would be due.
The following chart illustrates the benefits of completing an exchange over a taxable sale, assuming a loan balance of $300,000:
Depreciation Recapture and Capital Gains Tax
Available for Reinvestment
Title Insurance for Aircraft and VesselsFirst American Transportation Title Insurance Company may be able to provide title coverage and services for owners and lenders on aircraft and vessels. As with any type of investment property you will want to protect your ownership interest against any title problems that may occur from documentation errors, fraud or any unknown liens against the asset.
For additional information on First American Transportation Title Insurance Company and their products, please visit their web site at http://www.firstam.com/movables/main.html