In an action on decision (AOD 2017-06 2017-33 IRB 194), the IRS announced it will not acquiesce to the Tax Court's ruling in Estate of George H. Bartell, Jr. et al. v. Commissioner, (147 T.C. No. 5)(Bartell), which held that a taxpayer's disposition and acquisition of property was not a self-exchange and qualified for nonrecognition treatment pursuant to Section 1031.

Background

In August 2000, Bartell Drug Co., an S corporation, arranged through a qualified exchange facilitator to purchase property (Lynnwood property) on which to build a new drug store. An affiliate of the qualified exchange intermediary, EPC Two, LLC, took title to the property. EPC Two was required to lease the Lynnwood property to Bartell. As planned, Bartell leased it from EPC Two until ownership was transferred to Bartell upon completion of the exchange transaction.

At the same time, Bartell was working to find a buyer for the property to be relinquished. The identified property (the Everett property) was an older retail drugstore. Upon finding a buyer, the transaction was structured as a sale-leaseback. The contract included a clause that the buyers would cooperate if Bartell decided to sell the property as part of a like-kind exchange.

In December 2001, Bartell Drug as "Exchanger" and Section 1031 Services as "Intermediary" executed an exchange agreement for the exchange of relinquished property, identified as the Everett property, for replacement property, identified as the Lynnwood property. These transfers were done through a direct deeding process by Section 1031 Services.

The IRS argued that Bartell owned the Lynnwood property long before the disposition of the Everett property in December 2001 and, thus, following DeCleene v. Commissioner, 115 T.C. 457, 469 (2000), may not qualify for non-recognition treatment. The IRS argued that EPC Two had none of the benefits and burdens of ownership and Bartell should be treated as the owner of the Lynnwood property as of August 2000. The IRS also noted that Bartell had full direction over and burden for the construction. Bartell argued that an agency analysis is the appropriate standard to determine ownership and that EPC Two was the property owner.

The court distinguished the case from DeCleene where the taxpayer purchased the replacement property outright more than a year before the exchange. The taxpayer later transferred legal title to the replacement property to the purchaser of his relinquished property. The court held then that he was the beneficial owner and had made a taxable sale of the property.

The court stated that Alderson v. Commissioner, 317 F.2d 790 (9th Cir. 1963), rev'g 38 T.C. 215 (1962), does apply. In Alderson, the court expressly rejected the proposition that a person who takes title to the replacement property must assume the benefits and burdens of ownership in that property to satisfy the exchange requirement. The court held that Bartell's disposition of the Everett property and acquisition of the Lynnwood property in 2001 qualify for nonrecognition treatment pursuant to Section 1031.

See Tax Alert 2016-1417 for more analysis on the ruling in Bartell.

AOD 2017-06

In announcing that it does not acquiesce to the decision in Bartell, the IRS signals that it does not agree with the holding of the court and, generally, will not follow the decision in disposing of cases involving other taxpayers.

Implications

Bartell is a significant case supporting a taxpayer's ability to park replacement property, including build-to-suit replacement property, outside the safe harbor of Revenue Procedure 2000-37. The taxpayer's victory in Bartell seemed to suggest that in the context of a non-safe harbor reverse like-kind exchange, the normal analysis of benefits and burdens of ownership were perhaps inapplicable in determining the validity of the arrangement. Through the AOD, the IRS has made it clear that for a non-safe harbor reverse like-kind exchange to be respected by the IRS, the IRS will continue to scrutinize the arrangement to determine whether the taxpayer has received the benefits and burdens of ownership prior to the actual transfer of legal title to the property. We would expect that the marketplace will first attempt to structure reverse exchange/parking transactions to satisfy the safe harbor requirements under Revenue Procedure 2000-37 when applicable, rather than fall outside the safe harbor and have to contend with the uncertainty of how the IRS would scrutinize the arrangement.

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