Section 170 Transaction™
A Bargain Sale Which is Part Sale and Part Tax Deductible Gift
Copyright © 2016 James B. Wootton
A Section 170 Transaction™ is a Bargain Sale which is part sale and part tax deductible gift of real estate to a qualified 501(c)3 nonprofit organization, pursuant to Section 170 of the Internal Revenue Code, in compliance with IRS Publications 526 and 561.
Documenting the Bargain Sale
Pursuant to Treasury Regulations Section 301.6501(C)-1, the fair market value of the real estate must be determined by an appraiser who:
•
Performs appraisals on a regular basis
Performs appraisals on a regular basis•Is qualified to make appraisals of the property being evaluated
Is qualified to make appraisals of the property being evaluated•Is not the donor or the donee of the property or a member of the family of the donor or donee, or any person employed by any of them.
Is not the donor or the donee of the property or a member of the family of the donor or donee, or any person employed by any of them. IRS Publication 561, Determining the Value of Donated Property, states: "In making and supporting the valuation of property, all factors affecting value are relevant and must be considered. These include: The cost or selling price of the item, Sales of comparable properties, Replacement cost, and Opinions of experts." (http://www.irs.gov/pub/irs-pdf/p561.pdf)
The fair market value is, in other words, the price that would be agreed on between a willing buyer and a willing seller, under no compulsion or being required to act, but does not include short sales, sales negotiated through lenders, nor any transaction which was not done at arm’s length. The highest and best use is also to be considered, using the weighted average as determined by the qualified appraiser.
For insurance purposes, insurance companies want the replacement cost used, while banks want the comparable sales approach to value with a view towards the eventuality of a quick sale. But for a Section 170 Transaction™, the appraiser will utilize a weighted average approach to value, including all the above approaches to value, not just recent comparable sales, all in accordance with IRS Publication 561, covering Bargain Sales. (http://www.irs.gov/pub/irs-pdf/p561.pdf)
Opinion of Value
In the offer to purchase, the value is estimated by utilizing not only the recent comparable sales, but also values closer to what an insurance appraisal would derive, such as replacement cost, which provides a higher opinion of value of the property for the Seller. The IRS Publication 561 establishes that all these uses are appropriate, not just the comparable sales. In fact, IRS encourages a weighted average approach to value. The final valuation will also consider the highest and best use, although in some cases it may be a use different from the current use.
For the study of recent comparable sales, properties will not be included if there had been a compulsion to sell or buy, such as might be the case in a foreclosure, deed in lieu of foreclosure, or threat of foreclosure. The Replacement Value is the estimated cost to construct, at current prices as of the effective appraisal date, a substitute for the building being appraised, using modern materials and current standards, design, and layout.
For appreciated real estate, a taxpayer might save in cash as much as 39.6% of the tax deductible gift portion, based on the final appraised value minus the net cash purchase price. The Seller may deduct up to 30% of his adjusted gross income in any one year, and the unused portion may be carried forward and further deducted each year for up to 5 more years.
If the final appraisal report prepared by the qualified independent appraiser is less than the original estimate, then the Seller can decide whether to proceed to closing or not, with no further obligation.
Resources:
https://www.irs.gov/pub/irs-pdf/p526.pdf
https://www.irs.gov/pub/irs-pdf/p561.pdf
The above is designed to provide general information and the author's opinions and ideas regarding the subject matter. In publishing this, neither the publisher, the brokerage nor the author is engaged in rendering any professional service, including financial planning, legal, accounting, tax, or otherwise. Therefore, the reader is advised to seek the counsel of a competent professional person where appropriate. The publisher, the brokerage and the author shall have neither liability nor responsibility to any person or entity with respect to any loss or damage caused, alleged to have been caused, directly or indirectly, by the information contained herein.
