Monday, November 11, 2019
Bradley T. Borden (Brooklyn), Wrapped Nonrecognition: Code Sec. 1031 Exchanges Within Qualified Opportunity Funds, 22 J. Passthrough Entities 37 (2019):
This article is about section 1031 exchanges wrapped in qualified opportunity funds (QOFs). QOFs are new, so they are in the process of buying property, but eventually some QOFs will think about selling their property. To qualify for the full benefit of the QOF regime, a QOF must hold property for at least 10 years. Prior to the end of that 10-year period, some QOF investors may get antsy and want to sell the QOF’s property. If they sell the property for gain, they will lose some or all of the QOF benefits. This article considers whether a QOF can sell property and use the proceeds to acquire like-kind replacement property and defer gain on that transaction under section 1031. If so, a QOF could sell its original property, defer gain on that sale, and remain eligible for the QOF exclusion. The article illustrates that although in concept wrapped nonrecognition is possible, it is not without its challenges.
A major hurdle for QOFs will be acquiring replacement property that satisfies the QOF regime’s new-property requirement and section 1031’s like-kind property requirement. The QOF regime favors property constructed by the QOF, while exchanger-constructed property does not satisfy the like-kind property requirement under section 1031. Thus, wrapped nonrecognition requires the QOF to acquire newly-constructed property or vacant property or to do an improvements exchange. The article discusses how a QOF will have to thread a needle to complete an improvements exchange that satisfies both the section 1031 and QOF rules.