Internal Revenue Service (I.R.S.)

Revenue Ruling (Rev. Rul.)

LIKE KIND EXCHANGE; BARGAIN SALE TO A STATE

26 CFR 1.1031(a)-1: Property held for productive use in trade or business or for investment.

(Also 1.1031(d)-1.) (Also Section 170, 1011; 1.170A-4, 1.1011-2.)

Like kind exchange; bargain sale to a state. An exchange of timberland owned by a producer of forest-related products for bare land of lesser value owned by a state, which is a bargain sale as defined in section 1.170A-4(c)(2)(iii) of the regulations, constitutes an exchange of like kind property under section 1031(a) of the Code.  The basis of the property received from the state is determined under section 1031(d) as adjusted by applying section 1011(b).

Advice has been requested whether the gain realized upon the exchange described below involving a bargain sale to a state, is not recognized by reason of section 1031(a) of the Internal Revenue Code of 1954.  Advice is also requested as to the manner in which the basis of the property received by the taxpayer is computed.

The taxpayer is a producer of forest-related products. During the taxable year the taxpayer exchanged 550x acres of timberland with State R for 150x acres of bare land.  The fair market value of the property given up was 400x dollars while the fair market value of the property received was 100x dollars. The taxpayer's adjusted basis of the property exchanged was 50x dollars.

Because the fair market value of the property transferred by the taxpayer exceeded the fair market value of the property received from the state, a 'bargain sale' exists.  The phrase 'bargain sale' is defined in section 1.170A-4(c)(2)(iii) of the Income Tax Regulations as meaning a transfer of property that is in part a sale or exchange of the property and, in part, a charitable contribution as defined in section 170(c) of the Code.

Section 170(c)(1) of the Code defines a charitable contribution as meaning, in part, a contribution or gift to or for the use of a state, a possession of the United States, or any political subdivision of any of the foregoing, or the United States or the District of Columbia, but only if the contribution or gift is made for exclusively public purposes.

Section 1011(b) of the Code provides that if a deduction is allowable under section 170 by reason for a sale, then the adjusted basis for determining the gain from such sale shall be that portion of the adjusted basis that bears the same ratio to the adjusted basis as the amount realized bears to the fair market value of the property.

Section 1.1011-2(a)(i) of the regulations provides, in part, that section 1011(b) of the Code applies if for the taxable year a charitable contribution deduction is allowable by reason of a sale or exchange of property.

Section 1031(a) of the Code provides, in part, that no gain or loss shall be recognized if property held for productive use in trade or business or for investment (not including stocks in trade or other property held primarily for sale) is exchanged solely for property of a like kind to be held either for productive use in trade or business or for investment.

Section 1031(d) of the Code provides, in part, that if property was acquired in an exchange described in section 1031(a), then the basis shall be the same as that of the property exchanged, decreased in the amount of any money received by the taxpayer and increased in the amount of gain or decreased by the amount of loss to the taxpayer that was recognized on such exchange.

Section 1.1031(a)-1(b) of the regulations provides, in part, that the words  'like kind' have reference to the nature or character of the property and not to its grade or quality.

In the instant situation, the exchange by the taxpayer of timberland for bare land constitutes an exchange of 'like kind' property within the meaning of section 1031(a) of the Code, and as a result, no gain or loss will be recognized on the transaction. Pursuant to section 1031(d), the basis of the property received by the taxpayer is the same as the basis of its property exchanged.

However, because the transaction involves a bargain sale for purposes of section 170 of the Code and the taxpayer is allowed a charitable contribution deduction in the manner and to the extent provided by section 170, the adjusted basis for determining gain realized from the sale is determined pursuant to section 1011(b). Therefore, such adjusted basis is that portion of the adjusted basis of the property given by the taxpayer to State R (50x dollars) that bears the same ratio to 50x dollars as the amount realized (fair market value of the property received from State R or 100x dollars) bears to the fair market value of the property transferred to State R (or 400x dollars).  Stated algebraically, the adjusted basis of the property received under section 1011(b) is 50x dollars x 100x dollars/400x dollars or 12.5x dollars.

Accordingly, in summary, the exchange herein described involving a bargain sale to a charitable organization, qualifies as a 'like kind' exchange under section 1031(a) of the Code.  The basis of the property received in the exchange is determined pursuant to section 1031(d) by applying the basis calculated under section 1011(b) as the taxpayer's basis prior to the exchange, namely 12.5x dollars.