Passing Cap Gain from Parent to Child? - Posted by Dave

Posted by JHyre in Ohio on December 02, 2001 at 10:26:15:

First off, if you complete the exchange, neither you nor your parents may sell the 1031 properties within 2 years (subject to a few exceptions that I won’t go into here) without voiding the original 1031 and triggering gain (1031(f), re related parties).

I’m a little confused as to the mechanics of your proposed transaction…they buy for $240k & then gift you $240k???

I think what you are getting at is a 1031 acquisition to them on one side and a sale by you on the other…whether or not that’s tax-free depends upon what you do with the $240k proceeds…looks like a big gain to you, since you are not using the proceeds for a 1031 yourself. If you simply give it back to them, one of two unpleasant consequences could occur…you have made a $240k gift, reducing your lifetime credit substantially, or simply a disallowance as a sham 1031, assuming the transaction gets picked up. Then they gift the property back to you over time, presumably via undivided interests to you, your wife and your child over 8 years…this could be treated as a “disposition” for the 1031 related-party rules, thereby voiding the 1031. Overall, the courts take a dim view of income shifting (For practicioners, see the “assignment of income” cases…we do not have that here in form, but probably do have it in substance. As always, predicting the outcome of substance over form cases is dificult, because each one is different and the result heavily depends upon judicial perception of the facts at issue).

WHEN do you intend to 1031 into the larger property…more than 2 years down the road?

John Hyre

Passing Cap Gain from Parent to Child? - Posted by Dave

Posted by Dave on November 30, 2001 at 22:50:53:

Is there any way to transfer a rental property capital gain from parent to child. My parents have a 1031 account (~$240K) with MY rental property named as one of the 3 selected properties. The other two are no longer available. They need to either buy my property or pay the cap gains tax (60K). The property is worth $300K FMV and I have $125K equity in it.

What I would really like to do is give the 1031 money back to them without them paying the tax. I am planning to 1031 my current rental property into a larger property in the future and then live in it. This should remove the cap gain so long as I rent it for a period then move in.

If they purchase say 80% (240K) of the property upfront now, could they grant (or gift) me $240K back of 30K for myself, wife, and child (10K per person tax free, right?) per year for the next 8 years until their stake is returned to us? How could we structure this? I am willing to take the burden of the long term cap gain since I plan to live in it eventually (legal tax loop hole, right?) I just don?t want to trigger gains on each incremental grant. I would in turn give them back the money. Say a combination of $1400 NOI per month plus the 65K cash that escrow gives me for my equity minus the original loan. At the end I could split the gain, say 3% per year on the $300K or about 40K to finish the repayment of the loan. In 8 years I will own almost free and clear a $380K house (minus 40K for splitting the gain)

Any other ideas? Not giving the government 60K is worth a little creative thinking, right!

If my original investment was 52K cash, and the house is worth $340K equity over 8 years plus the 3 years I have already owned it, this would give a 59% annualized return.

My parents in return would get to keep their $240K (given back over 8 years). To generate an income stream for them I would give them the 65K (from my cash equity for reducing to 20% ownership), the $1400 NOI plus say 40K of gain at end (50% of the 3% per year house gain). This would give them a 12.5% annualized return. Kind of like a reverse mortgage.

I guess the questions is can a parent-child gift defer the cap gain tax from the parent to child?