For the latest information about developments related to Pub. 544, such as legislation enacted after it was published, go to IRS.gov/Pub544.
Dispositions of U.S. real property interests by foreign persons. If you are a foreign person or firm and you sell or otherwise dispose of a U.S. real property interest, the buyer (or other transferee) may have to withhold income tax on the amount you receive for the property (including cash, the fair market value of other property, and any assumed liability). Corporations, partnerships, trusts, and estates may also have to withhold on certain U.S. real property interests they distribute to you. You must report these dispositions and distributions and any income tax withheld on your U.S. income tax return.For more information on dispositions of U.S. real property interests, see Pub. 519, U.S. Tax Guide for Aliens. Also, see Pub. 515, Withholding of Tax on Nonresident Aliens and Foreign Entities.
Foreign source income. If you are a U.S. citizen with income from dispositions of property outside the United States (foreign income), you must report all such income on your tax return unless it is exempt from U.S. law. You must report the income whether you reside inside or outside the United States and whether or not you receive a Form 1099 from the foreign payor.
Photographs of missing children. The Internal Revenue Service is a proud partner with the National Center for Missing & Exploited Children® (NCMEC). Photographs of missing children selected by the Center may appear in this publication on pages that would otherwise be blank. You can help bring these children home by looking at the photographs and calling 800-THE-LOST (800-843-5678) if you recognize a child.
You dispose of property when any of the following occur.
This publication explains the tax rules that apply when you dispose of property, including when you dispose of only a portion of certain property. It discusses the following topics.
This publication also explains whether your gain is taxable or your loss is deductible.
This publication does not discuss certain transactions covered in other IRS publications. These include the following.
Note. Although the discussions in this publication refer mainly to individuals, many of the rules discussed also apply to taxpayers other than individuals. However, the rules for property held for personal use usually apply to individual taxpayers.
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A sale is a transfer of property for money or a mortgage, note, or other promise to pay money. An exchange is a transfer of property for other property or services. Property sold or exchanged may include the sale of a portion of a Modified Accelerated Cost Recovery System (MACRS) asset (discussed later).
The following discussions describe the kinds of transactions that are treated as sales or exchanges and explain how to figure gain or loss.
Sale or lease.
Some agreements that seem to be leases may really be conditional sales contracts. The intention of the parties to the agreement can help you distinguish between a sale and a lease.
There is no test or group of tests to prove what the parties intended when they made the agreement. You should consider each agreement based on its own facts and circumstances.
Cancellation of a lease.
Payments received by a tenant for the cancellation of a lease are treated as an amount realized from the sale of property. Payments received by a landlord (lessor) for the cancellation of a lease are essentially a substitute for rental payments and are taxed as ordinary income in the year in which they are received.
Copyright.
Payments you receive for granting the exclusive use of (or right to exploit) a copyright throughout its life in a particular medium are treated as received from the sale of property. It does not matter if the payments are a fixed amount or a percentage of receipts from the sale, performance, exhibition, or publication of the copyrighted work, or an amount based on the number of copies sold, performances given, or exhibitions made. Also, it does not matter if the payments are made over the same period as that covering the grantee's use of the copyrighted work.
If the copyright was used in your trade or business and you held it longer than a year, the gain or loss may be a section 1231 gain or loss. For more information, see Section 1231 Gains and Losses in chapter 3.
Easement.
The amount received for granting an easement is subtracted from the basis of the property. If only a specific part of the entire tract of property is affected by the easement, only the basis of that part is reduced by the amount received. If it is impossible or impractical to separate the basis of the part of the property on which the easement is granted, the basis of the whole property is reduced by the amount received.
Any amount received that is more than the basis to be reduced is a taxable gain. The transaction is reported as a sale of property.
If you transfer a perpetual easement for consideration and do not keep any beneficial interest in the part of the property affected by the easement, the transaction will be treated as a sale of property. However, if you make a qualified conservation contribution of a restriction or easement granted in perpetuity, it is treated as a charitable contribution and not a sale or exchange, even though you keep a beneficial interest in the property affected by the easement.
If you grant an easement on your property (for example, a right-of-way over it) under condemnation or threat of condemnation, you are considered to have made a forced sale, even though you keep the legal title. Although you figure gain or loss on the easement in the same way as a sale of property, the gain or loss is treated as a gain or loss from a condemnation. See Gain or Loss From Condemnations , later.
Property transferred to satisfy debt.
A transfer of property to satisfy a debt is an exchange.
Note's maturity date extended.
The extension of a note's maturity date may be treated as an exchange of the outstanding note for a new and materially different note. If so, that exchange may result in a gain or loss to the holder of the note. Generally, an extension will be treated as a taxable exchange of the outstanding note for a new and materially different note only if the changes in the terms of the note are significant. Each case must be determined on its own facts. For more information, see Treasury Regulations section 1.1001-3.
Transfer on death.
The transfer of property of a decedent to an executor or administrator of the estate, or to the heirs or beneficiaries, is not a sale or exchange or other disposition. No taxable gain or deductible loss results from the transfer.
Bankruptcy.
Generally, a transfer (other than by sale or exchange) of property from a debtor to a bankruptcy estate is not treated as a disposition. Consequently, the transfer does not generally result in gain or loss. For more information, see Pub. 908, Bankruptcy Tax Guide.
You usually realize gain or loss when property is sold or exchanged. A gain is the amount you realize from a sale or exchange of property that is more than its adjusted basis. A loss occurs when the adjusted basis of the property is more than the amount you realize on the sale or exchange.
Table 1-1. How To Figure Whether You Have a Gain or Loss
| IF your. | THEN you have a. |
|---|---|
| adjusted basis is more than the amount realized, | loss. |
| amount realized is more than the adjusted basis, | gain. |
Basis.
You must know the basis of your property to determine whether you have a gain or loss from its sale or other disposition. The basis of property you buy is usually its cost. However, if you acquired the property by gift, inheritance, or in some way other than buying it, you must use a basis other than its cost. See Basis Other Than Cost in Pub. 551.
Inherited property.
If you inherited property and received a Schedule A (Form 8971) that indicates that the property increased the estate tax liability of the decedent, use a basis consistent with the final estate tax value of the property to determine your initial basis in the property. Calculate a basis consistent with the final estate tax value by starting with the reported value and then making any allowed adjustments. See the Instructions for Form 8971. Also, see the Instructions for Form 8949 for details on how to figure the basis and make any adjustments. In addition, see the Instructions for Form 8949 and the Instructions for Form 8971 for penalties that may apply for inconsistent basis reporting.
Adjusted basis.
The adjusted basis of property is your original cost or other basis increased by certain additions and decreased by certain deductions. Increases to basis include costs of any improvements having a useful life of more than 1 year. Decreases to basis include depreciation and casualty losses. In the sale or exchange of a portion of a MACRS asset (discussed later), the adjusted basis of the disposed portion of the asset is used to figure gain or loss. For more details and additional examples, see Adjusted Basis in Pub. 551.
Amount realized.
The amount you realize from a sale or exchange is the total of all the money you receive plus the fair market value (defined below) of all property or services you receive. The amount you realize also includes any of your liabilities that were assumed by the buyer and any liabilities to which the property you transferred is subject, such as real estate taxes or a mortgage.
Fair market value.
Fair market value is the price at which the property would change hands between a buyer and a seller when both have reasonable knowledge of all the necessary facts and neither is being forced to buy or sell. If parties with adverse interests place a value on property in an arm's-length transaction, that is strong evidence of fair market value. If there is a stated price for services, this price is treated as the fair market value unless there is evidence to the contrary.
Example 1.
You used a building in your business that cost you $70,000. You made certain permanent improvements at a cost of $20,000 and deducted depreciation totaling $10,000. You sold the building for $100,000 plus property having a fair market value of $20,000. The buyer assumed your real estate taxes of $3,000 and a mortgage of $17,000 on the building. The selling expenses were $4,000. Your gain on the sale is figured as follows.
| Amount realized: | ||
| Cash | $100,000 | |
| Fair market value of property received | 20,000 | |
| Real estate taxes assumed by buyer | 3,000 | |
| Mortgage assumed by buyer | 17,000 | |
| Total | 140,000 | |
| Minus: Selling expenses | (4,000) | $136,000 |
| Adjusted basis: | ||
| Cost of building | $70,000 | |
| Improvements | 20,000 | |
| Total | $90,000 | |
| Minus: Depreciation | (10,000) | |
| Adjusted basis | $80,000 | |
| Gain on sale | $56,000 | |
Example 2.
You own a building that cost you $120,000. You use the building in your business. The building is a MACRS asset. You replaced the old elevator in the building and sold it for $1,000. You determine the cost of the portion of the building attributable to the old elevator is $5,000. Depreciation deducted on the old elevator portion of the building was $2,500 before its sale. The sale of the elevator is a sale of a portion of a MACRS asset, the building. Your loss on the sale of the elevator is figured as follows.
| Amount realized: | |
| Cash | $1,000 |
| Adjusted basis: | |
| Cost of elevator | $5,000 |
| Minus: Depreciation | (2,500) |
| Adjusted basis | $2,500 |
| Loss on sale | $1,500 |
Example 3.
You own a bulldozer that cost you $30,000. You use the bulldozer in your business. The bulldozer is a MACRS asset. You replaced the old bucket on the bulldozer and sold it for $800. You determine the cost of the portion of the bulldozer attributable to the old bucket is $4,000. Depreciation deducted on the old bucket portion of the bulldozer was $3,800 before its sale. The sale of the bucket is a sale of a portion of a MACRS asset, the bulldozer. Your gain on the sale of the bucket is figured as follows.
| Amount realized: | |
| Cash | $800 |
| Adjusted basis: | |
| Cost of bucket | $4,000 |
| Minus: Depreciation | (3,800) |
| Adjusted basis | $200 |
| Gain on sale | $600 |
Amount recognized.
Your gain or loss realized from a sale or exchange of property is usually a recognized gain or loss for tax purposes. This includes a gain or loss realized from a sale or exchange of a portion of a MACRS asset. Recognized gains must be included in gross income. Recognized losses are deductible from gross income. However, your gain or loss realized from certain exchanges of property is not recognized for tax purposes. See Nontaxable Exchanges , later. Also, a loss from the sale or other disposition of property held for personal use is not deductible, except in the case of a casualty or theft loss.
Interest in property.
The amount you realize from the disposition of a life interest in property, an interest in property for a set number of years, or an income interest in a trust is a recognized gain under certain circumstances. If you received the interest as a gift, inheritance, or in a transfer from a spouse or former spouse incident to a divorce, the amount realized is a recognized gain. Your basis in the property is disregarded. This rule does not apply if all interests in the property are disposed of at the same time.
Example 1.
Your parent dies and leaves the farm to you for life with a remainder interest to your younger sibling. You decide to sell your life interest in the farm. The entire amount you receive is a recognized gain. Your basis in the farm is disregarded.
Example 2.
The facts are the same as in Example 1 , except that your sibling joins you in selling the farm. The entire interest in the property is sold, so your basis in the farm is not disregarded. Your gain or loss is the difference between your share of the sales price and your adjusted basis in the farm.
Canceling a sale of real property.
If you sell real property under a sales contract that allows the buyer to return the property for a full refund and the buyer does so, you may not have to recognize gain or loss on the sale. If the buyer returns the property in the same tax year of sale, no gain or loss is recognized. This cancellation of the sale in the same tax year it occurred places both you and the buyer in the same positions you were in before the sale. If the buyer returns the property in a later tax year, you must recognize gain (or loss, if allowed) in the year of the sale. When the property is returned in a later tax year, you acquire a new basis in the property. That basis is equal to the amount you pay to the buyer.
If you sell or exchange property for less than fair market value with the intent of making a gift, the transaction is partly a sale or exchange and partly a gift. You have a gain if the amount realized is more than your adjusted basis in the property. However, you do not have a loss if the amount realized is less than the adjusted basis of the property.
Bargain sales to charity.
A bargain sale of property to a charitable organization is partly a sale or exchange and partly a charitable contribution. If a charitable deduction for the contribution is allowable, you must allocate your adjusted basis in the property between the part sold and the part contributed based on the fair market value of each. The adjusted basis of the part sold is figured as follows.
| Adjusted basis of entire property × | Amount realized (fair market value of part sold) |
| Fair market value of entire property |
Based on this allocation rule, you will have a gain even if the amount realized is not more than your adjusted basis in the property. This allocation rule does not apply if a charitable contribution deduction is not allowable.
See Pub. 526 for information on figuring your charitable contribution.
Example.
You sold property with a fair market value of $10,000 to a charitable organization for $2,000 and are allowed a deduction for your contribution. Your adjusted basis in the property is $4,000. Your gain on the sale is $1,200, figured as follows.
| Sales price | $2,000 |
| Minus: Adjusted basis of part sold ($4,000 × ($2,000 ÷ $10,000)) | (800) |
| Gain on the sale | $1,200 |
Generally, if you sell or exchange property you used partly for business or rental purposes and partly for personal purposes, you must figure the gain or loss on the sale or exchange separately for the business or rental part and the personal-use part. You must subtract depreciation you took or could have taken from the basis of the business or rental part. However, see the special rule, later, for a home used partly for business or rental. You must allocate the selling price, selling expenses, and the basis of the property between the business or rental part and the personal part.
Gain or loss on the business or rental part of the property may be a capital gain or loss or an ordinary gain or loss, as discussed in chapter 3 under Section 1231 Gains and Losses. You cannot deduct a loss on the personal part. Any gain or loss on the part of the home used for business is an ordinary gain or loss, as applicable, reportable on Form 4797. Any gain or loss on the part producing income for which the underlying activity does not rise to the level of a trade or business is a capital gain or loss, as applicable. However, see Disposition of depreciable property not used in trade or business in chapter 4.
Home used partly for business or rental.
If you use property partly as a home and partly for business or to produce rental income, the computation and treatment of any gain on the sale depends partly on whether the business or rental part of the property is considered within your home or not. See Business or Rental Use of Home in Pub. 523.
You cannot deduct a loss on the sale of property you purchased or constructed for use as your home and used as your home until the time of sale.
You can deduct a loss on the sale of property you acquired for use as your home but changed to business or rental property and used as business or rental property at the time of sale. However, if the adjusted basis of the property at the time of the change was more than its fair market value, the loss you can deduct is limited.
Figure the loss you can deduct as follows.
Example.
You changed your main home to rental property 5 years ago. At the time of the change, the adjusted basis of your home was $75,000 and the fair market value was $70,000. This year, you sold the property for $55,000. You made no improvements to the property but you have depreciation expenses of $12,620 over the 5 prior years. Although your loss on the sale is $7,380 [($75,000 − $12,620) − $55,000], the amount you can deduct as a loss is limited to $2,380, figured as follows.
| Lesser of adjusted basis or fair market value at time of the change | $70,000 |
| Plus: Cost of any improvements and any other additions to basis after the change | -0- |
| 70,000 | |
| Minus: Depreciation and any other decreases to basis after the change | (12,620) |
| 57,380 | |
| Minus: Amount you realized from the sale | (55,000) |
| Deductible loss | $2,380 |
Gain.
If you have a gain on the sale, you must generally recognize the full amount of the gain. You figure the gain by subtracting your adjusted basis from your amount realized, as described earlier.
You may be able to exclude all or part of the gain if you owned and lived in the property as your main home for at least 2 years during the 5-year period ending on the date of sale. However, you may not be able to exclude the part of the gain allocated to any period of nonqualified use.
For more information, including special rules that apply if the home sold was acquired in a like-kind exchange, see Pub. 523. Also, see Like-Kind Exchanges , later.
You may elect to recognize a partial disposition of a MACRS asset, and report the gain, loss, or other deduction on a timely filed return, including extensions, for the year of the disposition. In some cases, however, you are required to report the gain or loss on the partial disposition of a MACRS asset (see Required partial dispositions , later). MACRS assets include buildings (and their structural components) and other tangible depreciable property placed in service after 1986 that is used in a trade or business or for the production of income.
For more information on partial dispositions of MACRS property, see Treasury Regulations section 1.168(i)-8(d).
Partial disposition election.
If you elect to recognize a partial disposition of a MACRS asset, report the gain or loss (if any) on Form 4797, Part I, II, or III, as applicable. See the Instructions for Form 4797.
Required partial dispositions.
Report the gain or loss (if any) on the following partial dispositions of MACRS assets on Form 4797, Part I, II, or III, as applicable.
The abandonment of property is a disposition of property. You abandon property when you voluntarily and permanently give up possession and use of the property with the intention of ending your ownership but without passing it on to anyone else. Generally, abandonment is not treated as a sale or exchange of the property. If the amount you realize (if any) is more than your adjusted basis, then you have a gain. If your adjusted basis is more than the amount you realize (if any), then you have a loss.
Loss from abandonment of business or investment property is deductible as a loss. A loss from an abandonment of business or investment property that is not treated as a sale or exchange is generally an ordinary loss. This rule also applies to leasehold improvements the lessor made for the lessee that were abandoned. Loss from abandonment of a portion of a MACRS asset is deductible, if you make a partial disposition election.
Partial disposition election.
You make a partial disposition election by reporting the loss (or gain) on your timely filed original tax return, including extensions, for the tax year in which the portion of a MACRS asset is abandoned. If you make a partial disposition election for an asset included in one of the asset classes 00.11 through 00.4 of Revenue Procedure 87-56, you must classify the replacement portion under the same asset class as the disposed portion of the asset. The adjusted basis of the disposed portion of the asset is used to figure gain or loss. See Adjusted Basis in Pub. 551 for more details and examples.
If the property is foreclosed on or repossessed in lieu of abandonment, gain or loss is figured as discussed later under Foreclosures and Repossessions . The abandonment loss is deducted in the tax year in which the loss is sustained.
If the abandoned property is secured by debt, special rules apply. The tax consequences of abandonment of property that is secured by debt depend on whether you are personally liable for the debt (recourse debt) or you are not personally liable for the debt (nonrecourse debt). For more information, including examples, see chapter 3 of Pub. 4681.
. You cannot deduct any loss from abandonment of your home or other property held for personal use only. .
Cancellation of debt.
If the abandoned property secures a debt for which you are personally liable and the debt is canceled, you may realize ordinary income equal to the canceled debt. This income is separate from any loss realized from abandonment of the property.
You must report this income on your tax return unless one of the following applies.
File Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment), to report the income exclusion.
Forms 1099-A and 1099-C.
If you abandon property that secures a loan and the lender knows the property has been abandoned, the lender should send you Form 1099-A showing information you need to figure your loss from the abandonment. However, if your debt is canceled and the lender must file Form 1099-C, the lender may include the information about the abandonment on that form instead of on Form 1099-A, and send you Form 1099-C only. The lender must file Form 1099-C and send you a copy if the amount of debt canceled is $600 or more and the lender is a financial institution, credit union, federal government agency, or any organization that has a significant trade or business of lending money. For abandonments of property and debt cancellations occurring in 2023, these forms should be sent to you by January 31, 2024.
If you do not make payments you owe on a loan secured by property, the lender may foreclose on the loan or repossess the property. The foreclosure or repossession is treated as a sale or exchange from which you may realize a gain or loss. This is true even if you voluntarily return the property to the lender. You may realize ordinary income from the cancellation of debt if the loan balance is more than the fair market value of the property.
Buyer's (borrower's) gain or loss.
You figure and report gain or loss from a foreclosure or repossession in the same way as gain or loss from a sale or exchange. The gain or loss is the difference between your adjusted basis in the transferred property and the amount realized. See Gain or Loss From Sales and Exchanges , earlier.
. You can use Table 1-2 to figure your gain or loss from a foreclosure or repossession. .
Amount realized on a nonrecourse debt.
If you are not personally liable for repaying the debt (nonrecourse debt) secured by the transferred property, the amount you realize includes the full debt canceled by the transfer. The full canceled debt is included even if the fair market value of the property is less than the canceled debt.
Example 1.
You bought a new car for $15,000. You paid $2,000 down and borrowed the remaining $13,000 from the dealer's credit company. You are not personally liable for the loan (nonrecourse debt), and pledge the new car as security. The credit company repossessed the car because you stopped making loan payments. The balance due after taking into account the payments you made was $10,000. The fair market value of the car when repossessed was $9,000. The amount you realized on the repossession is $10,000. That is the outstanding amount of the debt canceled by the repossession, even though the car's fair market value is less than $10,000. You figure your gain or loss on the repossession by comparing the amount realized ($10,000) with your adjusted basis ($15,000). You have a $5,000 nondeductible loss.
Example 2.
You paid $200,000 for your home. You paid $15,000 down and borrowed the remaining $185,000 from a bank. You are not personally liable for the loan (nonrecourse debt), and pledge the house as security. The bank foreclosed on the loan because you stopped making payments. When the bank foreclosed on the loan, the balance due was $180,000, the fair market value of the house was $170,000, and your adjusted basis was $175,000 due to a casualty loss you had deducted. The amount you realized on the foreclosure is $180,000, the balance due and debt canceled by the foreclosure. You figure your gain or loss by comparing the amount realized ($180,000) with your adjusted basis ($175,000). You have a $5,000 realized gain.
Amount realized on a recourse debt.
If you are personally liable for the debt (recourse debt), the amount realized on the foreclosure or repossession includes the lesser of:
You are treated as receiving ordinary income from the canceled debt for the part of the debt that is more than the fair market value. The amount realized does not include the canceled debt that is your income from cancellation of debt. See Cancellation of debt , later.
Seller's (lender's) gain or loss on repossession.
If you finance a buyer's purchase of property and later acquire an interest in it through foreclosure or repossession, you may have a gain or loss on the acquisition. For more information, see Repossession in Pub. 537.
| Part 1. Use Part 1 to figure your ordinary income from the cancellation of debt upon foreclosure or repossession. Complete this part only if you were personally liable for the debt. Otherwise, go to Part 2. | |
|---|---|
| 1. Enter the amount of outstanding debt immediately before the transfer of property reduced by any amount for which you remain personally liable after the transfer of property | _____ |
| 2. Enter the fair market value of the transferred property | _____ |
| 3. Ordinary income from cancellation of debt upon foreclosure or repossession.* Subtract line 2 from line 1. If less than zero, enter -0- | |
| Part 2. Figure your gain or loss from foreclosure or repossession. | |
| 4. If you completed Part 1, enter the smaller of line 1 or line 2. If you did not complete Part 1, enter the outstanding debt immediately before the transfer of property | _____ |
| 5. Enter any proceeds you received from the foreclosure sale | _____ |
| 6. Add lines 4 and 5 | _____ |
| 7. Enter the adjusted basis of the transferred property | _____ |
| 8. Gain or loss from foreclosure or repossession. Subtract line 7 from line 6 | |
| * The income may not be taxable. See Cancellation of debt. |
Cancellation of debt.
If property that is repossessed or foreclosed on secures a debt for which you are personally liable (recourse debt), you must generally report as ordinary income the amount by which the canceled debt is more than the fair market value of the property. This income is separate from any gain or loss realized from the foreclosure or repossession. Report the income from cancellation of a debt related to a business or rental activity as business or rental income.
. You can use Table 1-2 to figure your income from cancellation of debt. .
You must report this income on your tax return unless one of the following applies.
Example 1.
Assume the same facts as in Example 1 under Amount realized on a nonrecourse debt , earlier, except you are personally liable for the car loan (recourse debt). In this case, the amount you realize is $9,000. This is the lesser of the canceled debt ($10,000) or the car's fair market value ($9,000). You figure your gain or loss on the repossession by comparing the amount realized ($9,000) with your adjusted basis ($15,000). You have a $6,000 nondeductible loss. You are also treated as receiving ordinary income from cancellation of debt. That income is $1,000 ($10,000 − $9,000). This is the part of the canceled debt not included in the amount realized.
Example 2.
Assume the same facts as in Example 2 under Amount realized on a nonrecourse debt , earlier, except you are personally liable for the loan (recourse debt). In this case, the amount you realize is $170,000. This is the lesser of the canceled debt ($180,000) or the fair market value of the house ($170,000). You figure your gain or loss on the foreclosure by comparing the amount realized ($170,000) with your adjusted basis ($175,000). You have a $5,000 nondeductible loss. You are also treated as receiving ordinary income from cancellation of debt. (The debt is not exempt from tax as discussed under Cancellation of debt , earlier.) That income is $10,000 ($180,000 − $170,000). This is the part of the canceled debt not included in the amount realized.
Forms 1099-A and 1099-C.
A lender who acquires an interest in your property in a foreclosure or repossession should send you Form 1099-A showing the information you need to figure your gain or loss. However, if the lender also cancels part of your debt and must file Form 1099-C, the lender may include the information about the foreclosure or repossession on that form instead of on Form 1099-A and send you Form 1099-C only. The lender must file Form 1099-C and send you a copy if the amount of debt canceled is $600 or more and the lender is a financial institution, credit union, federal government agency, or any organization that has a significant trade or business of lending money. For foreclosures or repossessions occurring in 2023, these forms should be sent to you by January 31, 2024.
An involuntary conversion occurs when your property is destroyed, stolen, condemned, or disposed of under the threat of condemnation and you receive other property or money in payment, such as insurance or a condemnation award. Involuntary conversions are also called involuntary exchanges.
Gain or loss from an involuntary conversion of your property is usually recognized for tax purposes unless the property is your main home. You report the gain or deduct the loss on your tax return for the year you realize it. You cannot deduct a loss from an involuntary conversion of property you held for personal use unless the loss resulted from a casualty or theft.
However, depending on the type of property you receive, you may not have to report a gain on an involuntary conversion. Generally, you do not report the gain if you receive property that is similar or related in service or use to the converted property. Your basis for the new property is the same as your basis for the converted property. This means that the gain is deferred until a taxable sale or exchange occurs.
If you receive money or property that is not similar or related in service or use to the involuntarily converted property and you buy qualifying replacement property within a certain period of time, you can elect to postpone reporting the gain on the property purchased.
If a portion of a MACRS asset you own is involuntarily converted and gain is not recognized in whole or in part, the partial disposition rules in Treasury Regulations section 1.168(i)-8 apply.
This publication explains the treatment of a gain or loss from a condemnation or disposition under the threat of condemnation. If you have a gain or loss from the destruction or theft of property, see Pub. 547.
A condemnation is the process by which private property is legally taken for public use without the owner's consent. The property may be taken by the federal government, a state government, a political subdivision, or a private organization that has the power to legally take it. The owner receives a condemnation award (money or property) in exchange for the property taken. A condemnation is like a forced sale, the owner being the seller and the condemning authority being the buyer.
Example.
A local government authorized to acquire land for public parks informed you that it wished to acquire your property. After the local government took action to condemn your property, you went to court to keep it. But, the court decided in favor of the local government, which took your property and paid you an amount fixed by the court. This is a condemnation of private property for public use.
Threat of condemnation.
A threat of condemnation exists if a representative of a government body or a public official authorized to acquire property for public use informs you that the government body or official has decided to acquire your property. You must have reasonable grounds to believe that, if you do not sell voluntarily, your property will be condemned.
The sale of your property to someone other than the condemning authority will also qualify as an involuntary conversion, provided you have reasonable grounds to believe that your property will be condemned. If the buyer of this property knows at the time of purchase that it will be condemned and sells it to the condemning authority, this sale also qualifies as an involuntary conversion.
Reports of condemnation.
A threat of condemnation exists if you learn of a decision to acquire your property for public use through a report in a newspaper or other news medium, and this report is confirmed by a representative of the government body or public official involved. You must have reasonable grounds to believe that they will take necessary steps to condemn your property if you do not sell voluntarily. If you relied on oral statements made by a government representative or public official, the IRS may ask you to get written confirmation of the statements.
Example.
Your property lies along public utility lines. The utility company has the authority to condemn your property. The company informs you that it intends to acquire your property by negotiation or condemnation. A threat of condemnation exists when you receive the notice.
Related property voluntarily sold.
A voluntary sale of your property may be treated as a forced sale that qualifies as an involuntary conversion if the property had a substantial economic relationship to property of yours that was condemned. A substantial economic relationship exists if together the properties were one economic unit. You must also show that the condemned property could not reasonably or adequately be replaced. You can elect to postpone reporting the gain by buying replacement property. See Postponement of Gain , later.
If your property was condemned or disposed of under the threat of condemnation, figure your gain or loss by comparing the adjusted basis of your condemned property with your net condemnation award.
If your net condemnation award is more than the adjusted basis of the condemned property, you have a gain. You can postpone reporting gain from a condemnation if you buy replacement property. If only part of your property is condemned, you can treat the cost of restoring the remaining part to its former usefulness as the cost of replacement property. See Postponement of Gain , later.
If your net condemnation award is less than your adjusted basis, you have a loss. If your loss is from property you held for personal use, you cannot deduct it. You must report any deductible loss in the tax year it happened.
. You can use Part 2 of Table 1-3 to figure your gain or loss from a condemnation award. .
Main home condemned.
If you have a gain because your main home is condemned, you can generally exclude the gain from your income as if you had sold or exchanged your home. You may be able to exclude up to $250,000 of the gain (up to $500,000 if married filing jointly). For information on this exclusion, see Pub. 523. If your gain is more than you can exclude but you buy replacement property, you may be able to postpone reporting the rest of the gain. See Postponement of Gain , later.
| Part 1. Gain from severance damages. If you did not receive severance damages, skip Part 1 and go to Part 2. | ||
| 1. | Enter gross severance damages received | _____ |
| 2. | Enter your expenses in getting severance damages | _____ |
| 3. | Subtract line 2 from line 1. If less than zero, enter -0- | _____ |
| 4. | Enter any special assessment on remaining property taken out of your award | _____ |
| 5. | Net severance damages. Subtract line 4 from line 3. If less than zero, enter -0- | _____ |
| 6. | Enter the adjusted basis of the remaining property | _____ |
| 7. | Gain from severance damages. Subtract line 6 from line 5. If less than zero, enter -0- | _____ |
| 8. | Refigured adjusted basis of the remaining property. Subtract line 5 from line 6. If less than zero, enter -0- | |
| Part 2. Gain or loss from condemnation award. | ||
| 9. | Enter the gross condemnation award received | _____ |
| 10. | Enter your expenses in getting the condemnation award | _____ |
| 11. | If you completed Part 1, and line 4 is more than line 3, subtract line 3 from line 4. If you did not complete Part 1, but a special assessment was taken out of your award, enter that amount. Otherwise, enter -0- | _____ |
| 12. | Add lines 10 and 11 | _____ |
| 13. | Net condemnation award. Subtract line 12 from line 9 | _____ |
| 14. | Enter the adjusted basis of the condemned property | _____ |
| 15. | Gain from condemnation award. If line 14 is more than line 13, enter -0-. Otherwise, subtract line 14 from line 13 and skip line 16 | _____ |
| 16. | Loss from condemnation award. Subtract line 13 from line 14 | |
| ( Note: You cannot deduct the amount on line 16 if the condemned property was held for personal use. ) | ||
| Part 3. Postponed gain from condemnation. (Complete only if line 7 or line 15 is more than zero and you bought qualifying replacement property or made expenditures to restore the usefulness of your remaining property.) | ||
| 17. | If you completed Part 1, and line 7 is more than zero, enter the amount from line 5. Otherwise, enter -0- | _____ |
| 18. | If line 15 is more than zero, enter the amount from line 13. Otherwise, enter -0- | _____ |
| 19. | Add lines 17 and 18. If the condemned property was your main home, subtract from this total the gain you excluded from your income and enter the result | _____ |
| 20. | Enter the total cost of replacement property and any expenses to restore the usefulness of your remaining property | _____ |
| 21. | Subtract line 20 from line 19. If less than zero, enter -0- | _____ |
| 22. | If you completed Part 1, add lines 7 and 15. Otherwise, enter the amount from line 15. If the condemned property was your main home, subtract from this total the gain you excluded from your income and enter the result | _____ |
| 23. | Recognized gain. Enter the smaller of line 21 or line 22 | _____ |
| 24. | Postponed gain. Subtract line 23 from line 22. If less than zero, enter -0- | |
Condemnation award.
A condemnation award is the money you are paid or the value of other property you receive for your condemned property. The award is also the amount you are paid for the sale of your property under threat of condemnation.
Payment of your debts.
Amounts taken out of the award to pay your debts are considered paid to you. Amounts the government pays directly to the holder of a mortgage or lien against your property are part of your award, even if the debt attaches to the property and is not your personal liability.
Example.
The state condemned your property for public use. The award was set at $200,000. The state paid you only $148,000 because it paid $50,000 to your mortgage holder and $2,000 accrued real estate taxes. You are considered to have received the entire $200,000 as a condemnation award.
Interest on award.
If the condemning authority pays you interest for its delay in paying your award, it is not part of the condemnation award. You must report the interest separately as ordinary income.
Payments to relocate.
Payments you receive to relocate and replace housing because you have been displaced from your home, business, or farm as a result of federal or federally assisted programs are not part of the condemnation award. Do not include them in your income. Replacement housing payments used to buy new property are included in the property's basis as part of your cost.
Net condemnation award.
A net condemnation award is the total award you received, or are considered to have received, for the condemned property minus your expenses of obtaining the award. If only a part of your property was condemned, you must also reduce the award by any special assessment levied against the part of the property you retain. This is discussed later under Special assessment retained out of award.
Severance damages.
Severance damages are not part of the award paid for the property condemned. They are paid to you if part of your property is condemned and the value of the part you keep is decreased because of the condemnation.
For example, you may receive severance damages if your property is subject to flooding because you sell flowage easement rights (the condemned property) under threat of condemnation. Severance damages may also be given to you if, because part of your property is condemned for a highway, you must replace fences, dig new wells or ditches, or plant trees to restore your remaining property to the same usefulness it had before the condemnation.
The contracting parties should agree on the specific amount of severance damages in writing. If this is not done, all proceeds from the condemning authority are considered awarded for your condemned property.
You cannot make a completely new allocation of the total award after the transaction is completed. However, you can show how much of the award both parties intended for severance damages. The severance damages part of the award is determined from all the facts and circumstances.
Example.
You sold part of your property to the state under threat of condemnation. The contract you and the condemning authority signed showed only the total purchase price. It did not specify a fixed sum for severance damages. However, at settlement, the condemning authority gave you closing papers showing clearly the part of the purchase price that was for severance damages. You may treat this part as severance damages.
Treatment of severance damages.
Your net severance damages are treated as the amount realized from an involuntary conversion of the remaining part of your property. Use them to reduce the basis of the remaining property. If the amount of severance damages is based on damage to a specific part of the property you kept, reduce the basis of only that part by the net severance damages.
If your net severance damages are more than the basis of your retained property, you have a gain. You may be able to postpone reporting the gain. See Postponement of Gain , later.
. You can use Part 1 of Table 1-3 to figure any gain from severance damages and to refigure the adjusted basis of the remaining part of your property. .
Net severance damages.
To figure your net severance damages, you first must reduce your severance damages by your expenses in obtaining the damages. You then reduce them by any special assessment (described later) levied against the remaining part of the property and retained from the award by the condemning authority. The balance is your net severance damages.
Expenses of obtaining a condemnation award and severance damages.
Subtract the expenses of obtaining a condemnation award, such as legal, engineering, and appraisal fees, from the total award. Also, subtract the expenses of obtaining severance damages, which may include similar expenses, from the severance damages paid to you. If you cannot determine which part of your expenses is for each part of the condemnation proceeds, you must make a proportionate allocation.
Example.
You receive a condemnation award and severance damages. One-fourth of the total was designated as severance damages in your agreement with the condemning authority. You had legal expenses for the entire condemnation proceeding. You cannot determine how much of your legal expenses is for each part of the condemnation proceeds. You must allocate one-fourth of your legal expenses to the severance damages and the other three-fourths to the condemnation award.
Special assessment retained out of award.
When only part of your property is condemned, a special assessment levied against the remaining property may be retained by the governing body from your condemnation award. An assessment may be levied if the remaining part of your property benefited by the improvement resulting from the condemnation. Examples of improvements that may cause a special assessment are widening a street and installing a sewer.
To figure your net condemnation award, you must reduce the amount of the award by the assessment retained from the award.
Example.
To widen the street in front of your home, the city condemned a 25-foot deep strip of your land. You were awarded $5,000 for this and spent $300 to get the award. Before paying the award, the city levied a special assessment of $700 for the street improvement against your remaining property. The city then paid you only $4,300. Your net award is $4,000 ($5,000 total award minus $300 expenses in obtaining the award and $700 for the special assessment retained).
If the $700 special assessment was not retained from the award and you were paid $5,000, your net award would be $4,700 ($5,000 − $300). The net award would not change, even if you later paid the assessment from the amount you received.
Severance damages received.
If severance damages are included in the condemnation proceeds, the special assessment retained from the severance damages is first used to reduce the severance damages. Any balance of the special assessment is used to reduce the condemnation award.
Example.
You were awarded $4,000 for the condemnation of your property and $1,000 for severance damages. You spent $300 to obtain the severance damages. A special assessment of $800 was retained from the award. The $1,000 severance damages are reduced to zero by first subtracting the $300 expenses and then $700 of the special assessment. Your $4,000 condemnation award is reduced by the $100 balance of the special assessment, leaving a $3,900 net condemnation award.
Part business or rental.
If you used part of your condemned property as your home and part as business or rental property, treat each part as a separate property. Figure your gain or loss separately because gain or loss on each part may be treated differently.
Some examples of this type of property are a building in which you live and operate a grocery, and a building in which you live on the first floor and rent out the second floor.
Example.
You sold your building for $24,000 under threat of condemnation to a public utility company that had the authority to condemn. You rented half the building and lived in the other half. You paid $25,000 for the building and spent an additional $1,000 for a new roof. You claimed allowable depreciation of $4,600 on the rental half. You spent $200 in legal expenses to obtain the condemnation award. Figure your gain or loss as follows.
| Resi- dential Part | Busi- ness Part | ||
|---|---|---|---|
| 1) | Condemnation award received | $12,000 | $12,000 |
| 2) | Minus: Legal expenses, $200 | (100) | (100) |
| 3) | Net condemnation award | $11,900 | $11,900 |
| 4) | Adjusted basis: | ||
| ½ of original cost, $25,000 | $12,500 | $12,500 | |
| Plus: ½ of cost of roof, $1,000 | 500 | 500 | |
| Total | $13,000 | $13,000 | |
| 5) | Minus: Depreciation | (4,600) | |
| 6) | Adjusted basis, business part | $8,400 | |
| 7) | (Loss) on residential property | ($1,100) | |
| 8) | Gain on business property | $3,500 | |
| The loss on the residential part of the property is not deductible. | |||
Do not report the gain on condemned property if you receive only property that is similar or related in service or use to the condemned property. Your basis for the new property is the same as your basis for the old.
Money or unlike property received.
You ordinarily must report the gain if you receive money or unlike property. You can elect to postpone reporting the gain if you buy property that is similar or related in service or use to the condemned property within the replacement period, discussed later. You can also elect to postpone reporting the gain if you buy a controlling interest (at least 80%) in a corporation owning property that is similar or related in service or use to the condemned property. See Controlling interest in a corporation , later.
To postpone reporting all the gain, you must buy replacement property costing at least as much as the amount realized for the condemned property. If the cost of the replacement property is less than the amount realized, you must report the gain up to the unspent part of the amount realized.
The basis of the replacement property is its cost reduced by the postponed gain. Also, if your replacement property is stock in a corporation that owns property similar or related in service or use, the corporation will generally reduce its basis in its assets by the amount by which you reduce your basis in the stock. See Controlling interest in a corporation , later.
. You can use Part 3 of Table 1-3 to figure the gain you must report and your postponed gain. .
Postponing gain on severance damages.
If you received severance damages for part of your property because another part was condemned and you buy replacement property, you can elect to postpone reporting gain. See Treatment of severance damages , earlier. You can postpone reporting all your gain if the replacement property costs at least as much as your net severance damages plus your net condemnation award (if resulting in gain).
You can also make this election if you spend the severance damages, together with other money you received for the condemned property (if resulting in gain), to acquire nearby property that will allow you to continue your business. If suitable nearby property is not available and you are forced to sell the remaining property and relocate in order to continue your business, see Postponing gain on the sale of related property next.
If you restore the remaining property to its former usefulness, you can treat the cost of restoring it as the cost of replacement property.
Postponing gain on the sale of related property.
If you sell property that is related to the condemned property and then buy replacement property, you can elect to postpone reporting gain on the sale. You must meet the requirements explained earlier under Related property voluntarily sold . You can postpone reporting all your gain if the replacement property costs at least as much as the amount realized from the sale plus your net condemnation award (if resulting in gain) plus your net severance damages, if any (if resulting in gain).
Buying replacement property from a related person.
Certain taxpayers cannot postpone reporting gain from a condemnation if they buy the replacement property from a related person. For information on related persons, see Nondeductible Loss under Sales and Exchanges Between Related Persons in chapter 2.
This rule applies to the following taxpayers.
For taxpayers described in (3) above, gains cannot be offset with any losses when determining whether the total gain is more than $100,000. If the property is owned by a partnership, the $100,000 limit applies to the partnership and each partner. If the property is owned by an S corporation, the $100,000 limit applies to the S corporation and each shareholder.
Exception.
This rule does not apply if the related person acquired the property from an unrelated person within the replacement period.
Advance payment.
If you pay a contractor in advance to build your replacement property, you have not bought replacement property unless it is finished before the end of the replacement period (discussed later).
Replacement property.
To postpone reporting gain, you must buy replacement property for the specific purpose of replacing your condemned property. You do not have to use the actual funds from the condemnation award to acquire the replacement property. Property you acquire by gift or inheritance does not qualify as replacement property.
Similar or related in service or use.
Your replacement property must be similar or related in service or use to the property it replaces.
If the condemned property is real property you held for productive use in your trade or business or for investment (other than property held mainly for sale), like-kind property to be held either for productive use in trade or business or for investment will be treated as property similar or related in service or use. For a discussion of like-kind property, see Like-Kind Property under Like-Kind Exchanges , later.
Owner-user.
If you are an owner-user, similar or related in service or use means that replacement property must function in the same way as the property it replaces.
Example.
Your home was condemned and you invested the proceeds from the condemnation in a grocery store. Your replacement property is not similar or related in service or use to the condemned property. To be similar or related in service or use, your replacement property must also be used by you as your home.
Owner-investor.
If you are an owner-investor, similar or related in service or use means that any replacement property must have the same relationship of services or uses to you as the property it replaces. You decide this by determining all of the following information.
Example.
You owned land and a building you rented to a manufacturing company. The building was condemned. During the replacement period, you had a new building built on other land you already owned. You rented out the new building for use as a wholesale grocery warehouse. The replacement property is also rental property, so the two properties are considered similar or related in service or use if there is a similarity in all of the following areas.
Leasehold replaced with fee simple property.
Fee simple property you will use in your trade or business or for investment can qualify as replacement property that is similar or related in service or use to a condemned leasehold if you use it in the same business and for the identical purpose as the condemned leasehold.
A fee simple property interest is generally a property interest that entitles the owner to the entire property with unconditional power to dispose of it during his or her lifetime. A leasehold is property held under a lease, usually for a term of years.
Outdoor advertising display replaced with real property.
You can elect to treat an outdoor advertising display as real property. If you make this election and you replace the display with real property in which you hold a different kind of interest, your replacement property can qualify as like-kind property. For example, real property bought to replace a destroyed billboard and leased property on which the billboard was located qualify as property of a like-kind.
You can make this election only if you did not claim a section 179 deduction for the display. Also, you cannot cancel this election unless you get the consent of the IRS.
An outdoor advertising display is a sign or device rigidly assembled and permanently attached to the ground, a building, or any other permanent structure used to display a commercial or other advertisement to the public.
Substituting replacement property.
Once you designate certain property as replacement property on your tax return, you cannot substitute other qualified property. But, if your previously designated replacement property does not qualify, you can substitute qualified property if you acquire it within the replacement period.
Controlling interest in a corporation.
You can replace property by acquiring a controlling interest in a corporation that owns property similar or related in service or use to your condemned property. You have controlling interest if you own stock having at least 80% of the combined voting power of all classes of stock entitled to vote and at least 80% of the total number of shares of all other classes of stock of the corporation.
Basis adjustment to corporation's property.
The basis of property held by the corporation at the time you acquired control must be reduced by your postponed gain, if any. You are not required to reduce the adjusted basis of the corporation's properties below your adjusted basis in the corporation's stock (determined after reduction by your postponed gain).
Allocate this reduction to the following classes of property in the order shown below.
If two or more properties fall in the same class, allocate the reduction to each property in proportion to the adjusted basis of all the properties in that class. The reduced basis of any single property cannot be less than zero.
Main home replaced.
If your gain from a condemnation of your main home is more than you can exclude from your income (see Main home condemned under Gain or Loss From Condemnations , earlier), you can postpone reporting the rest of the gain by buying replacement property that is similar or related in service or use. The replacement property must cost at least as much as the amount realized from the condemnation minus the excluded gain.
You must reduce the basis of your replacement property by the postponed gain. Also, if you postpone reporting any part of your gain under these rules, you are treated as having owned and used the replacement property as your main home for the period you owned and used the condemned property as your main home.
Example.
City authorities condemned your home that you had used as a personal residence for 5 years prior to the condemnation. The city paid you a condemnation award of $400,000. Your adjusted basis in the property was $80,000. You realize a gain of $320,000 ($400,000 − $80,000). You purchased a new home for $100,000. You can exclude $250,000 of the realized gain from your gross income. The amount realized is then treated as being $150,000 ($400,000 − $250,000) and the gain realized is $70,000 ($150,000 amount realized − $80,000 adjusted basis). You must recognize $50,000 of the gain ($150,000 amount realized − $100,000 cost of new home). The remaining $20,000 of realized gain is postponed. Your basis in the new home is $80,000 ($100,000 cost − $20,000 gain postponed).
Replacement period.
To postpone reporting your gain from a condemnation, you must buy replacement property within a certain period of time. This is the replacement period.
The replacement period for a condemnation begins on the earlier of the following dates.
The replacement period generally ends 2 years after the end of the first tax year in which any part of the gain on the condemnation is realized. However, see the exceptions below.
Three-year replacement period for certain property.
If real property held for use in a trade or business or for investment (not including property held primarily for sale) is condemned, the replacement period ends 3 years after the end of the first tax year in which any part of the gain on the condemnation is realized. However, this 3-year replacement period cannot be used if you replace the condemned property by acquiring control of a corporation owning property that is similar or related in service or use.
Extended replacement period for taxpayers affected by other federally declared disasters.
If you are affected by a federally declared disaster, the IRS may grant disaster relief by extending the periods to perform certain tax-related acts for 2023, including the replacement period, by up to 1 year. For more information, visit IRS.gov/UAC/Tax-Relief-in-Disaster-Situations.
Weather-related sales of livestock in an area eligible for federal assistance.
Generally, if the sale or exchange of livestock is due to drought, flood, or other weather-related conditions in an area eligible for federal assistance, the replacement period ends 4 years after the close of the first tax year in which you realize any part of your gain from the sale or exchange.
If the weather-related conditions continue for longer than 3 years, the replacement period may be extended on a regional basis until the end of your first drought-free year for the applicable region. See Notice 2006-82, 2006-39 I.R.B. 529, available at IRS.gov/irb/2006-39_IRB#NOT-2006-82.
Each year, the IRS publishes a list of counties, districts, cities, or parishes for which exceptional, extreme, or severe drought was reported during the preceding 12 months. If you qualified for a 4-year replacement period for livestock sold or exchanged on account of drought and your replacement period is scheduled to expire at the end of 2023 (or at the end of the tax year that includes August 31, 2023), see Notice 2023-67, 2023-42 I.R.B. 1074, available at IRS.gov/irb/2023-42_IRB#NOT-2023-67. The replacement period will be extended under Notice 2006-82 if the applicable region is on the list included in Notice 2023-67.
Determining when gain is realized.
If you are a cash basis taxpayer, you realize gain when you receive payments that are more than your basis in the property. If the condemning authority makes deposits with the court, you realize gain when you withdraw (or have the right to withdraw) amounts that are more than your basis.
This applies even if the amounts received are only partial or advance payments and the full award has not yet been determined. A replacement will be too late if you wait for a final determination that does not take place in the applicable replacement period after you first realize gain.
For accrual basis taxpayers, gain (if any) accrues in the earlier year when either of the following occurs.
For example, if you have an absolute right to a part of a condemnation award when it is deposited with the court, the amount deposited accrues in the year the deposit is made even though the full amount of the award is still contested.
Replacement property bought before the condemnation.
If you buy your replacement property after there is a threat of condemnation but before the actual condemnation and you still hold the replacement property at the time of the condemnation, you have bought your replacement property within the replacement period. Property you acquire before there is a threat of condemnation does not qualify as replacement property acquired within the replacement period.
Example.
On April 3, 2022, city authorities notified you that your property would be condemned. On June 5, 2022, you acquired property to replace the property to be condemned. You still had the new property when the city took possession of your old property on September 4, 2023. You have made a replacement within the replacement period.
Extension.
You can request an extension of the replacement period from the IRS director for your area. You should apply before the end of the replacement period. Your request should explain in detail why you need an extension. The IRS will consider a request filed within a reasonable time after the replacement period if you can show reasonable cause for the delay. An extension of the replacement period will be granted if you can show reasonable cause for not making the replacement within the regular period.
Ordinarily, requests for extensions are granted near the end of the replacement period or the extended replacement period. Extensions are usually limited to a period of 1 year or less. The high market value or scarcity of replacement property is not a sufficient reason for granting an extension. If your replacement property is being built and you clearly show that the replacement or restoration cannot be made within the replacement period, you will be granted an extension of the period.
Send your request to the address where you filed your return, addressed as follows.
Extension Request for Replacement Period of Involuntarily Converted Property
Area Director
Attn: Area Technical Services, Compliance Function
Election to postpone gain.
Report your election to postpone reporting your gain, along with all necessary details, on a statement attached to your return for the tax year in which you realize the gain.
If a partnership or a corporation owns the condemned property, only the partnership or corporation can elect to postpone reporting the gain.
Replacement property acquired after return filed.
If you buy the replacement property after you file your return reporting your election to postpone reporting the gain, attach a statement to your return for the year in which you buy the property. The statement should contain detailed information on the replacement property.
Amended return.
If you elect to postpone reporting gain, you must file an amended return for the year of the gain (individuals file Form 1040-X) in either of the following situations.
Time for assessing a deficiency.
Any deficiency for any tax year in which part of the gain is realized may be assessed at any time before the expiration of 3 years from the date you notify the IRS director for your area that you have replaced, or intend not to replace, the condemned property within the replacement period.
Changing your mind.
You can change your mind about reporting or postponing the gain at any time before the end of the replacement period. If you decide to make an election after filing the tax return and after making the payment of the tax due for the year or years in which any of the gain on the involuntary conversion is realized, and before the expiration of the period with which the converted property must be replaced, file a claim for refund for such year or years.
Example.
Your property was condemned and you had a gain of $5,000. You reported the gain on your return for the year in which you realized it, and paid the tax due. You buy replacement property within the replacement period. You used all but $1,000 of the amount realized from the condemnation to buy the replacement property. You now change your mind and want to postpone reporting the $4,000 of gain equal to the amount you spent for the replacement property. You should file a claim for refund on Form 1040-X (or other applicable amended return). Include a statement explaining that you previously reported the entire gain from the condemnation, but you now want to report only the part of the gain equal to the condemnation proceeds not spent for replacement property ($1,000).
Generally, you report gain or loss from a condemnation on your return for the year you realize the gain or loss.
Personal-use property.
Report gain from a condemnation of property you held for personal use (other than excluded gain from a condemnation of your main home or postponed gain) on Form 8949 or Schedule D (Form 1040), as applicable. See the Instructions for Form 8949 and the Instructions for Schedule D (Form 1040).
Do not report loss from a condemnation of personal-use property. But, if you received a Form 1099-S (for example, showing the proceeds of a sale of real estate under threat of condemnation), you must show the transaction on Form 8949 and Schedule D (Form 1040), as applicable, even though the loss is not deductible. See the Instructions for Schedule D (Form 1040) and the Instructions for Form 8949 .
Business property.
Report gain (other than postponed gain) or loss from a condemnation of property you held for business or profit on Form 4797. If you had a gain, you may have to report all or part of it as ordinary income. See Like-kind exchanges and involuntary conversions in chapter 3.
Certain exchanges of property are not taxable. This means any gain from the exchange is not recognized, and any loss cannot be deducted. Your gain or loss will not be recognized until you sell or otherwise dispose of the property you receive.
Generally, if you exchange real property you use in your business or hold for investment solely for other business or investment real property of a like-kind, you do not recognize the gain or loss from the exchange. However, if you also receive non-like-kind property or money as part of the exchange, you recognize gain to the extent of the value of the non-like-kind property or money you received in the exchange. And, you do not recognize any loss. In general, your gain or loss will not be recognized until you sell or otherwise dispose of the property you receive in the exchange. See Qualifying Property , later, for details on property that qualify and for exceptions.
The exchange of property for the same kind of property is the most common type of nontaxable exchange. To be a like-kind exchange, the property traded and the property received must be both of the following.
Additional requirements apply to exchanges in which the property received as like-kind property is not received immediately upon the transfer of the property given up. See Deferred Exchange , later.
If the like-kind exchange involves the receipt of money or unlike property or the assumption of your liabilities, see Partially Nontaxable Exchanges , later.
If the like-kind exchange involves a portion of a MACRS asset and gain is not recognized in whole or in part, the partial disposition rules in Treasury Regulations section 1.168(i)-8 apply.
Multiple-party transactions.
The like-kind exchange rules also apply to property exchanges that involve three- and four-party transactions. Any part of these multiple-party transactions can qualify as a like-kind exchange if it meets all the requirements described in this section.
Receipt of title from third party.
If you receive property in a like-kind exchange and the other party who transfers the property to you does not give you the title, but a third party does, you can still treat this transaction as a like-kind exchange if it meets all the requirements.
Basis of property received.
If you acquire property in a like-kind exchange, the basis of the property you receive is generally the same as the basis of the property you transferred.
Example.
You exchanged real estate held for investment with an adjusted basis of $225,000 for other real estate held for investment. The basis of your new property is the same as the basis of the old property, $225,000.
For the basis of property received in an exchange that is only partially nontaxable, see Partially Nontaxable Exchanges , later.
Money paid.
If, in addition to giving up like-kind property, you pay money in a like-kind exchange, the basis of the property received is the basis of the property given up, increased by the money paid.
Reporting the exchange.
Report the exchange of like-kind property, even though no gain or loss is recognized, on Form 8824, Like-Kind Exchanges. The Instructions for Form 8824 explain how to report the details of the exchange.
If you have any recognized gain because you received money or unlike property, report it on Form 8949, Schedule D (Form 1040), or Form 4797, as applicable. See chapter 4. You may have to report the recognized gain as ordinary income from depreciation recapture. See Like-kind exchanges and involuntary conversions in chapter 3.
Exchange expenses.
Exchange expenses are generally the closing costs you pay. They include such items as brokerage commissions, attorney fees, and deed preparation fees. Subtract these expenses from the consideration received to figure the amount realized on the exchange. If you receive cash or unlike property in addition to the like-kind property and realize a gain on the exchange, subtract the expenses from the cash or fair market value of the unlike property. Then, use the net amount to figure the recognized gain. See Partially Nontaxable Exchanges , later.
The nonrecognition rules for like-kind exchanges apply only to exchanges of real property as defined in Treasury Regulations section 1.1031(a)-1(a)(3), held for investment or for productive use in your trade or business and is not held primarily for sale.
In a like-kind exchange, both the real property you give up and the real property you receive must be held by you for investment or for productive use in your trade or business. Buildings, land, and rental property are examples of property that may qualify.
The rules for like-kind exchanges do not apply to exchanges of the following property.
A dwelling unit (home, apartment, condominium, or similar property) may, for purposes of a like-kind exchange, qualify as property held for productive use in a trade or business or for investment purposes if certain requirements are met. See Revenue Procedure 2008-16, 2008-10 I.R.B. 547, available at IRS.gov/irb/2008-10_IRB#RP-2008-16.
An exchange of the assets of a business for the assets of a similar business cannot be treated as an exchange of one property for another property. Whether you engaged in a like-kind exchange depends on an analysis of each asset involved in the exchange. However, see Multiple Property Exchanges , later.
To qualify for the non-recognition rules, there must be an exchange of like-kind property. Like-kind properties are properties of the same nature or character, even if they differ in grade or quality. The exchange of real estate for real estate is an exchange of like-kind property.
An exchange of personal property for real property does not qualify as a like-kind exchange.
An exchange of city property for farm property, or improved property for unimproved property, is a like-kind exchange.
The exchange of real estate you own for a real estate lease that runs 30 years or longer is a like-kind exchange. However, not all exchanges of interests in real property qualify. The exchange of a life estate expected to last less than 30 years for a remainder interest is not a like-kind exchange.
An exchange of a remainder interest in real estate for a remainder interest in other real estate is a like-kind exchange if the nature or character of the two property interests is the same.
Real property located in the United States and real property located outside the United States are not considered like-kind property. If you exchange foreign real property for property located in the United States, your gain or loss on the exchange is recognized. Foreign real property is real property not located in a state or the District of Columbia.
This foreign real property exchange rule does not apply to the replacement of condemned real property. Foreign and U.S. real property can still be considered like-kind property under the rules for replacing condemned property to postpone reporting gain on the condemnation. See Postponement of Gain under Involuntary Conversions , earlier.
A deferred exchange is an exchange in which you transfer property you use in business or hold for investment and later receive like-kind property you will use in business or hold for investment. The property you receive is the replacement property. The transaction must be an exchange of property for property rather than a transfer of property for money used to buy replacement property. In addition, the replacement property will not be treated as like-kind property unless the identification and the receipt requirements (discussed later) are met.
If, before you receive the replacement property, you actually or constructively receive money or unlike property in full consideration for the property you transfer, the transaction will be treated as a sale rather than a deferred exchange. In that case, you must recognize gain or loss on the transaction, even if you later receive the replacement property. It would be treated as if you bought the replacement property.
If, before you receive the replacement property, you actually or constructively receive money or unlike property in less than full consideration for the property you transfer, the transaction will be treated as a partially taxable exchange. See Partially Nontaxable Exchanges , later.
Actual and constructive receipt.
For purposes of a deferred exchange, you actually receive money or unlike property when you receive the money or unlike property or receive the economic benefit of the money or unlike property. You constructively receive money or unlike property when the money or unlike property is credited to your account, set apart for you, or otherwise made available for you so that you can draw upon it at any time or so that you can draw upon it if you give notice of intention to do so. You do not constructively receive money or unlike property if your control of receiving it is subject to substantial limitations or restrictions. However, you constructively receive money or unlike property when the limitations or restrictions lapse, expire, or are waived.
The following rules also apply.
Identification requirement.
You must identify the property to be received within 45 days after the date you transfer the property given up in the exchange. This period of time is called the identification period. Any property received during the identification period is considered to have been identified.
If you transfer more than one property (as part of the same transaction) and the properties are transferred on different dates, the identification period and the exchange period begin on the date of the earliest transfer.
Identifying replacement property.
You must identify the replacement property in a signed written document and deliver it to the person obligated to transfer the replacement property or any other person involved in the exchange other than you or a disqualified person. See Disqualified persons , later. You must clearly describe the replacement property in the written document. For example, use the legal description or street address for real property. In the same manner, you can cancel an identification of replacement property at any time before the end of the identification period.
Identifying alternative and multiple properties.
You can identify more than one replacement property. However, regardless of the number of properties you give up, the maximum number of replacement properties you can identify is:
If, as of the end of the identification period, you have identified more properties than permitted under this rule, the only property that will be considered identified is:
Disregard incidental property.
Do not treat property incidental to a larger item of property as separate from the larger item when you identify replacement property. Property is incidental if it meets both of the following tests.
For example, furniture, laundry machines, and other miscellaneous items of personal property will not be treated as separate property from an apartment building with a fair market value of $1,000,000, if the total fair market value of the furniture, laundry machines, and other personal property does not exceed $150,000.
Replacement property to be produced.
Gain or loss from a deferred exchange can qualify for nonrecognition even if the replacement property is not in existence or is being produced at the time you identify it as replacement property. If you need to know the fair market value of the replacement property to identify it, estimate its fair market value as of the date you expect to receive it.
Receipt requirement.
The property must be received by the earlier of the following dates.
This period of time is called the exchange period. You must receive substantially the same property that met the identification requirement, discussed earlier.
Replacement property produced after identification.
In some cases, the replacement property may have been produced after you identified it (as described earlier in Replacement property to be produced ). In that case, to determine whether the property you received was substantially the same property that met the identification requirement, do not take into account any variations due to usual production changes. Substantial changes in the property to be produced, however, will disqualify it.
If your replacement property is real property that had to be produced and it is not completed by the date you receive it, it still may qualify as substantially the same property you identified. It will qualify only if, had it been completed on time, it would have been considered to be substantially the same property you identified. It is considered to be substantially the same only to the extent it is considered real property under local law. However, any additional production on the replacement property after you receive it does not qualify as like-kind property. To this extent, the transaction is treated as a taxable exchange of property for services.
Interest income.
Generally, in a deferred exchange, if the amount of money or property you are entitled to receive depends upon the length of time between when you transfer the property given up and when you receive the replacement property, you are treated as being entitled to receive interest or a growth factor. The interest or growth factor will be treated as interest, regardless of whether it is paid in like-kind property, money, or unlike property. Include this interest in your gross income according to your method of accounting.
If you transferred property in a deferred exchange and an exchange facilitator holds exchange funds for you and pays you all the earnings on the exchange funds according to an escrow agreement, trust agreement, or exchange agreement, you must take into account all items of income, deduction, and credit attributable to the exchange funds.
If, in accordance with an escrow agreement, trust agreement, or exchange agreement, an exchange facilitator holds exchange funds for you and keeps some or all of the earnings on the exchange funds in accordance with the escrow agreement, trust agreement, or exchange agreement, you will be treated as if you had loaned the exchange funds to the exchange facilitator. You must include in income any interest that you receive and, if the loan is a below-market loan, you must include in income any imputed interest.
Exchange funds include relinquished property, cash, or cash equivalent that secures an obligation of a transferee to transfer replacement property, or proceeds from a transfer of relinquished property, held in a qualified escrow account, qualified trust, or other escrow account, trust, or fund in a deferred exchange.
An exchange facilitator is a qualified intermediary, transferee, escrow holder, trustee, or other person that holds exchange funds for you in a deferred exchange under the terms of an escrow agreement, trust agreement, or exchange agreement.
For more information relating to the current taxation of qualified escrow accounts, qualified trusts, and other escrow accounts, trusts, and funds used during deferred exchanges of like-kind property, see Treasury Regulations sections 1.468B-6 and 1.7872-16. If the exchange facilitator is a qualified intermediary, see Safe Harbors Against Actual and Constructive Receipt in Deferred Exchanges , later.
Disqualified persons.
A disqualified person is a person who is any of the following.
For purposes of (1) above, a person who has acted as your employee, attorney, accountant, investment banker or broker, or real estate agent or broker within the 2-year period ending on the date of the transfer of the first of the relinquished properties is your agent at the time of the transaction. However, solely for purposes of whether a person is a disqualified person as your agent, the following services for you are not taken into account.
The rule in (3) above does not apply to a bank or a bank affiliate if it would otherwise be a disqualified person under the rule in (3) solely because it is a member of the same controlled group (as determined under section 267(f) of the Internal Revenue Code, substituting “10%” for “50%”) as a person that has provided investment banking or brokerage services to the taxpayer within the 2-year period ending on the date of the transfer of the first of the relinquished properties. For this purpose, a bank affiliate is a corporation whose principal activity is rendering services to facilitate exchanges of property intended to qualify for nonrecognition of gain under section 1031 of the Internal Revenue Code and all of whose stock is owned by either a bank or a bank-holding company.