Repeal of IRC Section 1031 Would Cause Decrease in Real Estate Values

This blog post was written by George Ratiu, Director of Quantitative & Commercial Research and Erin Fitzpatrick, Research Intern.

Real estate is an integral part of economic activity, with transactions providing avenues for exchange, development, and growth opportunities. Within this framework, like-kind exchanges (LKE) provide an important vehicle to sell and acquire property.

Like-kind exchanges are available to individuals, partnerships, corporations, limited liability companies, as well as trusts. The main requirement of a like-kind exchange is that the sale of one property and acquisition of another property must be part of an integrated transaction, rather than two individual transactions.

The Internal Revenue Code (IRC) Section 1031 codifies that the tax owed on any gain after a sale may be deferred as long as the proceeds are reinvested in a similar property through a like-kind exchange. The Internal Revenue Service (IRS) makes note of the fact that while the gain “is tax-deferred […] it is not tax-free.”[1]

Like-kind exchanges (LKE) feature prominently in NAR members’ real estate transactions, as well as their clients. As most REALTORS are small business owners, and as they represent a wide range of small businesses across the country, LKE transactions are important for Main Street.

The Like-Kind Exchanges: Real Estate Market Perspectives 2015 report details the potential impacts upon REALTORS® transactions due to the absence of the tax deferral provision of IRC Section 1031. Repeal of like-kind exchanges or tax-deferral provisions would have a significant ripple effect through real estate markets. A majority of NAR members—95 percent—indicated that they would expect a decrease in real estate values if IRC Section 1031 was repealed. Additionally, 94 percent expected a decrease in demand for core assets/business/service as a result of a potential repeal.

In addition, repeal of like-kind exchanges would impact debt financing of real estate transactions. According to 86 percent of members, there would be a decrease in new constructions loans. Purchase money loans would experience a decline, as well, based on 63 percent of responses. Moreover, 66 percent of NAR members indicated that real estate would experience large increases in leverage. In terms of refinance activity, the responses were somewhat more balanced, with 58 percent considering there would be an increase in activity and 42 percent projecting a decrease in activity.

To access the Like-Kind Exchanges: Real Estate Market Perspectives 2015 report, visit http://www.realtor.org/reports/like-kind-exchange-survey.

---

[1] Internal Revenue Service, Like-Kind Exchanges Under IRC Code Section 1031, FS-2008-18, February 2008