To keep investment dollars flowing, protect this incentive

Talk of tax reform is ever-present in Washington these days, with legislators looking under every rock they can find to raise revenue for an overhaul of the tax code.

It’s a good conversation to have, but it’s easy to lose sight of the value of lesser-known tax provisions that really matter.

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The Section 1031 like-kind exchange is one such example. This provision allows businesses and individuals to defer taxes owed on the sale of investment property if the proceeds of the sale are used to purchase other property of “like-kind.”

What that means is people can choose for themselves to reinvest in their business and community rather than worry about getting sideswiped by a tax bill at the end of the year.

Just recently I heard from a commercial real estate professional in Columbus, Ohio, who gave me a great example of how this works.

It started with the sale of a retail building for $600,000. This paved the way for a 200-unit apartment project, costing close to $45 million. If this was a conventional transaction, the owner would have taken those proceeds from that sale, paid the capital gains tax and kept the rest.

Instead, they opted to go with a “like-kind” exchange, meaning the proceeds of that sale were used to purchase a new property — in this case, a parcel of raw land.

Now, the owner plans to develop that raw land with two different investment alternatives. The back portion of the land will be developed with a 12,000 square foot, $1.2 million commercial warehouse. The front part of the land will be developed with commercial retail and restaurant sites, totaling $7.4 to $9.4 million in construction costs and employing the necessary workers along the way.

Thanks to the benefit of the exchange, the owner is creating local jobs, making millions in investments and creating places for people to live. That’s worth a whole lot more to our community than if the owner had simply kept the proceeds from the sale on the sideline.

This isn’t unique to Ohio, either. Nearly 6 percent of all commercial real estate transactions across the country are completed through a like-kind exchange. And while some may argue that these investments would occur without the tax incentive, recent data shows that simply isn’t the case. According to an academic study released in 2015, investment in exchanged property is higher by an average of 33 percent of the property value versus conventional sales by the same investor.

Remember too that like-kind exchanges are not tax-free. In the vast majority of circumstances, those capital gains taxes will eventually be paid. A 1031 exchange simply allows someone to defer the tax while they continue making valuable investments for themselves and the broader economy.

This tax provision isn’t just available to large businesses or major investors, either. Small businesses and individuals can take advantage of this as well.

Say, for example, an individual owns a small rental property they would like to unload. They can sell it and keep the proceeds, less tax owed on the gain, or they could use Section 1031 by exchanging it for another rental property that better fits their needs or investment goals.

A small-business owner making a capital purchase — maybe a truck or a piece of equipment — has access to the same advantage.

Unfortunately, the 1031 exchange is in the crosshairs of well-intentioned tax reform efforts as revenue is sought to offset the cost of cutting tax rates. The “1031 like-kind exchange” may sound like an unwarranted tax giveaway that does not benefit the average person, but that simply isn’t the case.

Whether by using it themselves or simply enjoying the benefits that come with millions of investment dollars flowing into a community, everyone has a stake in this important tax benefit. It is crucial to job growth that it be preserved as tax reform moves forward.

Stivers represents Ohio’s 15th District and is a member of the Financial Services Committee. 


The views expressed by this author are their own and are not the views of The Hill.