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Monday, May 5, 2014

Could Forced Sale of the L.A. Clippers Save Donald Sterling $323 Million in Taxes as § 1033 Involuntary Conversion?

SterlingFollowing up on my previous post: The Daily Beast, Donald Sterling’s Last Laugh: Force Him to Sell the Clippers and He Could Pay No Taxes; Ironically, the NBA’s Ultimate Penalty Will Save the Owner as Much as $323 Million, by Nick Lum:

Donald Sterling’s reputation had a bad week, but his pocketbook has never looked better. The punishment meted out by NBA Commissioner Silver—the maximum league fine of $2.5 million—pales in comparison to the billion dollars Sterling stands to make from selling the Clippers. Ironically, the league’s nuclear option—a forced sale—could also end up lining Sterling’s pocketbook with millions in tax savings. Instead of his just deserts, will Sterling end up with a sweet tax treat?

If Sterling had voluntarily sold the team for $1 billion, he would have owed about $200 million in federal income tax and another $123 million in California state income tax. But thanks to a tax law that applies only to forced sales or other “involuntary conversions,” Sterling’s profits may all be tax-free.

Section 1033 of the tax code provides a special tax treatment for people whose property has been stolen, appropriated by the government (e.g. eminent domain), or otherwise “involuntarily converted.” The basic idea is that if you have received money because someone took your stuff away from you, you shouldn’t have to pay taxes since you didn’t enter into the transaction voluntarily. ...

There are several requirements that Sterling would have to satisfy in order to qualify for this tax benefit. One requirement that is likely to generate controversy with the Internal Revenue Service is that Sterling must use the sale proceeds to purchase “other property similar or related in service or use” to the converted property. The easiest way to satisfy the similarity requirement would be to purchase one or more other sports franchises. However, Sterling may find it difficult—to put it mildly—to find a willing seller, given his unpopularity.

Instead, Sterling could purchase other types of assets and argue that they are “similar or related in service or use” to him. Since the statute doesn’t actually define ”similar” or “related,” Sterling’s lawyers would have ample room to argue that whatever investment property Sterling buys satisfies these vague criteria.

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Comments

That seems tough. He'll get bought out under a pretty common "Bad Act" contractual provision. He voluntarily agreed to the provision and voluntarily performed the "Bad Act". If he manages to shelter gain under 1033, you will have a flood of similar claims every time a partner disassociates because his partners invoked the buy-sell or bad-act provision. Can you imagine application to compensatory equity holders getting fired?

Posted by: Yo Gabba Gabba | May 5, 2014 2:08:50 PM

I would have enjoyed one more paragraph in your post -- something that started with: Some examples of cases where this sort of stretch of 'similar' or 'related' were found to be o.k. include .... "

Posted by: eli bortman | May 6, 2014 3:24:00 AM

Does Sec 1033 require replacement property to be a U.S. item? I was just thinking how "Disgusting Don" could acquire a foreign soccer team from a Russian oligarch being pressured over the Ukranian crisis.

Posted by: Jim Osburn | May 6, 2014 10:33:45 AM

He only owns half the team. He lives in California and has a wife. she owns the other half.

Posted by: Rodger | May 8, 2014 11:41:38 AM