Eliminating Section 1031 like-kind exchanges among sweeping changes to the tax code would disadvantage small and medium-sized businesses, and would negatively impact taxpayers, job growth, and the U.S. economy.
Because Section 1031 complements the House Republican Blueprint proposals and tax reform initiatives, it should be preserved in the tax code.
The Unified Framework for Fixing Our Broken Tax Code
Referred to as the “Big Six”, six top Republican leaders from the House of Representatives, the U.S. Senate, and the White House released a new framework for tax reform on September 27, 2017. The “Unified Framework for Fixing Our Broken Tax Code,” is a hybrid of the House Republican Blueprint and an earlier set of tax reform principles by the Trump Administration. The new framework outlines broad principles for a tax reform effort in late 2017, but contains few details on new tax brackets, proposed methods, costs, or pay-fors.
House Republican Blueprint for Tax Reform
The House Republican Blueprint for Tax Reform, titled “A Better Way” proposes sweeping changes to the tax code. The proposal pairs 100% immediate expensing with unlimited loss carryforward for all tangible and depreciable personal property assets and real estate improvements, except land. The proposal would also eliminate the business interest expense deduction. The proposal does not explicitly repeal nor preserve Section 1031 like-kind exchanges.
There is concern that some policy makers may feel that the combination of lower rates and expensing would make Section 1031 exchanges unnecessary. However, the proposal does not provide an equivalent substitute for Section 1031 like-kind exchanges.
Elimination of like-kind exchanges would be a disadvantage to farmers, ranchers, owners of commercial real estate and other investors, and would have negative effects on job growth and the U.S. economy.
Like-kind exchanges stimulate economic activity in the real estate, manufacturing, equipment and vehicle rental and leasing, and construction industries, make the economics work for conservation easements, increase state, local and federal tax revenue, and improve the U.S. economy.
Section 1031 and the Blueprint
Section 1031 is an important complement to the Blueprint and would support many taxpayers who would otherwise be negatively impacted by the proposal. Section 1031 allows taxpayers to make good business decisions based on the needs of their businesses, without worry of negative tax consequences.
Impact on the Economy and Taxpayers
Section 1031 helps a broad range of taxpayers at all levels to expand businesses and invest for the future, with a significant positive impact on economic growth. Like-kind exchanges contribute significantly to American jobs, investment, tax revenue, and the health of the U.S. economy. Economic studies found that limiting or repealing §1031 would cause economic contraction and job loss. Read more about the positive economic impact of Section 1031 here.
Taxpayers Would Be Disadvantaged Without Section 1031
Elimination of Section 1031 in favor of immediate expensing would have significant effects on many taxpayers and the U.S. economy.
- Elimination of Section 1031 would create a disincentive to sell commercial, investment, and agricultural real property. A chilling “lock-in” effect on the real estate market would lead to economic contraction. Real estate owners would hold onto properties longer, due to the increased tax burden on sale of a property. Immediate expensing of improvements does not remove the lock-in effect on land. Section 1031 is necessary to remove the lock-in effect.
- Many taxpayers use Section 1031 to preserve their life savings invested in real estate. Faced with a reduction in the value of their investments through capital gains, they are likely to forego sales.
- Without Section 1031, Businesses would have no tax-deferral mechanism for asset sales and replacement purchases that bridge two tax years. Business cash flow would be impaired for many businesses, including seasonal and small businesses.
- Fewer environmentally sensitive lands would be saved. Without Section 1031, the economics of conservation easements would not work for most farmers and ranchers.
- Small businesses would be handicapped against larger businesses with more access to capital.
Special Considerations for Land
Land represents approximately 30% of the value of commercial improved properties, and 80% to 100% of agricultural land investments. Sec. 1031 provides incentive for capital formation for landowners, who would be particularly disadvantaged if they had neither the option of a tax-deferred exchange nor expense deductions for land acquisition and interest on related debt.
- Summary of the House Republican Blueprint for Tax Reform
- Section 1031 Complements the House Republican Blueprint
- The Economic Impact of Section 1031 and Economic Studies