Commercial Investment Real Estate is the magazine of the CCIM Institute, the leading provider of commercial real estate education. CIRE covers market trends, current developments, and business strategies within the commercial real estate field.
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14 July | August | 2015 Commercial Investment Real Estate FINAN CIN G FO CUS James Lauritz/Getty Images a A number of real estate developers build or rehab distressed properties with the intention of holding them for the production of rental income. But subsequently, they may decide to sell all or a portion of a building or project, such as a partially completed development. Sometimes the sale occurs before the project begins, during development, or shortly after completion. Can the entire gain or a portion of the gain on the sale of property qualify for preferential capital gain treatment even though the project has not been completed? To the extent the assets sold are consid- ered by the IRS as Section 1231 property — property used in a trade or business held over one year — the taxpayer would be eligible for preferential capital gain treatment. In the context of developing a commercial build- ing, many practitioners believe that a build- ing must meet the following requirements to qualify as 1231 property: completion of the entire building, held over one year af er completion, and ready for occupancy for an entire year to be eligible for preferential capi- tal gain treatment. As detailed below, there are a number of dif erent situations where self-constructed or purchased property could be considered Section 1231 property without meeting the general requirements discussed above. Analysis Somewhat surprisingly, the IRS takes the view that property is used in a taxpayer's business if it is built or acquired for that purpose, even if it has not yet been placed in service and is actually sold by the taxpayer before it is placed in service. For example, Rev. Rul. 58-133 provides that real property purchased specif cally for use in a taxpayer's business that was never in fact placed in service and was sold instead quali- f ed for the favorable capital gain treatment. T e only requirement was that the holding period be satisf ed, as between the purchase date and the sale date. T e placed-in-service date is irrelevant. T at rule is easy enough to apply when property is purchased, but what about self- constructed property? Rev. Rul. 75-524 addresses the holding period for an of ce building that was newly constructed for use in the taxpayer's business and sold shortly af er completion to an unrelated corpora- tion. The ruling ref lects the IRS position that the property does need to be placed in service to qualify as property used in a trade or business. As to the holding period of self-constructed property, this includes an example of a building under development sold prior to completion. Based on the rul- ing, the portion of the building completed and held over the applicable holding period is considered Section 1231 property. T is still begs the question as to when a portion of a building is completed. It appears that one must keep track of expenditures and 1231 Assets A little known rule may offer preferential tax treatment. by Jennifer Seaton, CPA, and Marlon Fortineaux, CPA