When is a sale a sale? When does a deal really close? Is it when title transfer occurs? It’s not always that simple unfortunately. Title transfer is only one of the factors when determining whether a transaction is closed and a sale has been made. There have been tax cases in which title had transferred but the sale was not considered closed. The opposite is also true — a sale was considered closed before title had transferred. There are also a number of cases where the sale was considered closed but possession had never been transferred.
While a transaction qualifies as a sale or exchange if property is transferred in exchange for consideration, effectively, a sale occurs when the benefits and burdens of ownership transfer from buyer to seller. So, in addition to title transfer, the following factors are ones the courts have considered in determining whether a sale has in fact occurred:
So, why is the precise date a sale is considered a sale an important detail? Because there are a number of scenarios in which the timing of the deal closing could significantly impact the tax liability of the buyer or seller. With the wide ranges in tax rates (both in ordinary rates and in capital gains rates based on the taxpayer’s income level) and specific taxes that are only applicable at certain income levels (e.g., the net investment income tax under IRC Section 1411), the actual year of sale could result in significant tax savings or liabilities. For example, a taxpayer generally may plan to pay tax on capital gains at 15%, but if the sale closes during a year he has a substantial amount of additional income that puts him in a higher tax bracket, he could end up paying 20% on the capital gain plus 3.8% net investment income tax. That means approximately 10% of the sale proceeds would go toward taxes instead of into the seller’s pocket.
Another scenario in which the sale date becomes critical is in like-kind-exchange transactions. In a 1031 exchange, the seller has 45 days from the sale date to identify a replacement property and 180 days from the sale date to purchase a replacement. This is a tight time frame when trying to complete large real estate portfolio like-kind exchanges, and every day can make a difference. From the buyer’s standpoint, the sale date determines when the buyer can start depreciating the asset (assuming it is an asset subject to depreciation). If this is in a year in which the bonus depreciation provisions apply, this can become significant if trying to close the transaction by year-end.
Specific facts and circumstances will always dictate when a sale officially occurs, and there is no listing of safe harbors for a sale to be considered closed. But bringing your advisors into the process as early as possible can aid in careful transaction planning that will allow you to maximize any tax opportunities or mitigate tax liabilities.
Contact Kim Palmer or a member of your service team to discuss this topic further.
Cohen & Co is not rendering legal, accounting or other professional advice. Information contained in this post is considered accurate as of the date of publishing. Any action taken based on information in this blog should be taken only after a detailed review of the specific facts, circumstances and current law with your professional advisers.