has in the Relinquished Property. As in the replacement-parking alternative, the Holding Entity leases the relinquished property to the Exchanger under a triple net lease agreement. In the second half of the transaction when the Exchanger has located a suitable buyer for the relinquished property, the relinquished property is sold and deeded from the Holding Entity to the buyer. The cash proceeds from the sale go to the Holding Entity and are used first to retire any existing third-party debt the Holding Entity took subject to, and then to repay the Exchanger for the original loan to the Holding Entity. If the price paid by the Holding Entity for the parked property differs from the actual price paid by the ultimate buyer, the Exchanger and the Holding Entity will enter into a purchase price adjustment agreement to increase or decrease the original purchase price and loan amount from the Exchanger as necessary to reflect the final purchase price. |
| |
| PARKING REPLACEMENT VERSUS RELINQUISHED PROPERTY
|
| |
■ When dealing with replacement property of a residential nature quite often institutional lenders will not make the acquisition loan to the Holding Entity even if guaranteed by the Exchanger so the only alternative is to have the Holding Entity take title to the relinquished property so that the Exchanger can take direct title to the replacement property with a new loan from the institutional lender. |
|
| |
■ To prevent a boot issue and the payment of capital gain taxes on excess proceeds from the sale of the relinquished property the equity from the relinquished property must be reinvested in the replacement property prior to the Exchanger taking title. If the estimated proceeds from the relinquished property are greater than the funds available for the down payment on the replacement property, the Exchanger may wish to have the Holding Entity take title to the replacement property so that the Holding Entity has an opportunity to use the excess funds from the sale of the relinquished property to pay down the debt on the replacement property prior to transferring title to the Exchanger, or the Exchanger can try to acquire additional replacement property at the time the relinquished property is sold and the 45-day identification period and 180-day exchange period start to run. If the Holding Entity is taking title to the relinquished property the down payment on the replacement property should equal or exceed the estimated equity in the relinquished property to avoid boot. |
|
| |
■ Parking the relinquished property can be risky since the Exchanger must be careful not to trigger a due-on sale clause in the relinquished property loan when the relinquished property is deeded to the Holding Entity. |
|
| |
■ Often the Exchanger does not know which relinquished property will be used in the exchange, or which relinquished property will sell first. In this situation, it is advisable for the replacement property to be parked with the Holding Entity to allow the Exchanger the opportunity to tie up the replacement property until the Exchanger knows which relinquished property to use in the exchange or which one will sell first. |
| |
PRACTICAL CONSIDERATIONS
|
| |
■ To fall within the safe harbor protection of Rev. Proc. 2000-37, the Exchanger must identify the relinquished property to be exchanged within 45 days of the Holding Entity taking title to the parked replacement property, and the Holding Entity cannot remain on title for longer than 180 days. |
|
|
| |
■ During the time the Holding Entity is on title to the property the Holding Entity will require hazard and commercial general liability insurance, an acceptable recent Phase I Environmental Site Assessment Report and an indemnity from any liability from the Exchanger. |
|
| |
■ Additional costs incurred by the Exchanger for a reverse exchange may be substantial. Additional title insurance may be required when the Holding Entity deeds the replacement property to the Exchanger; additional state, county, or local documentary transfer taxes may be assessed when property is deeded first to the Holding Entity and then to the Exchanger or the buyer; and the accounting, legal and Holding Entity’s fees will almost certainly be significantly higher than the costs of a simultaneous or delayed exchange. |
|
| |
■ If the Exchanger’s transaction requires improvements be completed on the replacement property prior to the Exchanger acquiring title, the replacement property can be parked with the Holding Entity. The Holding Entity will enter into a construction agreement with the general contractor and will borrow funds from the Exchanger or a third-party lender to finance the construction. |
|
| |
■ In the light of the practical difficulties and associated costs for all types of reverse exchanges, the Exchanger may wish to consider other available alternatives to delay the close of the purchase of the replacement property until the relinquished property sells to allow the Exchanger to complete a regular simultaneous or delayed exchange. For example, the Exchanger could apply an additional or non-refundable earnest money deposit for the benefit of the seller as consideration for the seller delaying the close of the replacement property, or the Exchanger could enter into an option to purchase the replacement property at a later date thereby providing enough time to sell the relinquished property. |
|
| |
■ Recently Rev. Proc. 2000-37 was modified by Revenue Procedure 2004-51 to provide that the “safe harbor” of Rev. Proc. 2000-37 “does not apply to replacement property held in a QEAA if the property is owned by the taxpayer within the 180-day period ending on the date of transfer of qualified indicia of ownership of the property to an exchange accommodation titleholder” (Revenue Procedure 2004-51 Section 4). This new ruling has a potential impact on reverse improvement exchanges where the Exchanger is attempting to construct improvements on property it currently owns and provides a “warning” for reverse improvement exchange structures where the replacement property is currently owned by an affiliate or related party. |
| |
|
| Reverse and reverse build-to-suit exchanges can be a creative way to structure an exchange to best fit the Exchanger’s investment goals. However, it is essential that Exchangers seek adequate legal and tax counsel in planning a reverse or reverse build-to-suit exchange prior to entering into the exchange. |
| |
| |
|
 |
| |
