The 1033 exchange timeline is the part of a condemnation file that gets the least attention. Last month was about what part of just compensation is taxed. This month is about time: how long a client has to reinvest, when that period starts, what can be bought before the award arrives, and what to do when the deadline is coming and nothing has closed. One point of definition first. Everything in this issue is about an involuntary conversion by way of condemnation, or a sale under threat of it. Property lost to fire, flood, or another casualty is also an involuntary conversion under Section 1033, but the timing and replacement rules differ in places, and the insurance side raises questions this issue does not address.
Take an owner whose land along a state highway was quick-taken in the spring. The deposit was below what he paid for the property, so no gain was realized that year and the three-year clock did not start. The final award came two years later. He had been counting from the spring of the taking and thought he had a year left. He had three. That mistake runs in both directions, and the other direction is the expensive one.
More time when the market does not cooperate
For real property held for business or investment and taken by condemnation, the replacement period runs three years from the end of the year the gain is first realized. The IRS can extend it for reasonable cause, on a written request filed before the period ends. Extensions have been granted where the award was still in litigation and where a replacement was under contract but could not close in time. Waiting for prices to come down has not been enough. The full article covers what to put in the request and when to reserve the right to ask again: the involuntary conversion replacement period after a condemnation.
Two years or three
The general rule gives two years after the close of the first year gain is realized. Section 1033(g) gives three years when the property taken was real property held for business or investment, and it swaps in the like-kind standard from Section 1031, so a condemned farm can be replaced with an apartment building. Equipment, inventory and fencing taken in the same condemnation are not real property for this purpose and run on the two-year clock, which means one taking can carry two deadlines. The article sorts out which clock applies: the 1033 exchange time limit for condemned real property.
The replacement can be bought before the taking closes
The statute opens the replacement window at the earliest date of the threat or imminence of condemnation. A client who gets the agency’s letter in March and closes on a replacement in December qualifies, even if the condemnation is not filed until the next year. Section 1033 does not trace money, so the purchase can be financed and the award applied to the loan afterward. Property bought before the first documented threat does not qualify. The article walks through a worked case: an involuntary conversion example through eminent domain.
What starts the clock, and the one thing that can stop it
The period counts from the close of the first taxable year in which any part of the gain is realized, which is the first year the payments received exceed the property’s adjusted basis. A quick-take deposit below basis does not start it. Interest on the award is ordinary income and does not count toward gain. Once the clock is running, an appeal of the award does not stop it, and neither does a replacement deal that falls through. An IRS extension for reasonable cause is the only thing that does. The article covers deposits, interest, severance and the election year: the 1033 involuntary conversion from condemnation.
Case to watch: Graphic Press, Inc. v. Commissioner
In Graphic Press, Inc. v. Commissioner, 523 F.2d 585 (9th Cir. 1975), the state condemned a printing company’s land, building and fixtures and paid a single sum that the settlement did not allocate. The IRS argued that the part covering the move of heavy equipment was not proceeds of the condemned property. The Ninth Circuit held that whatever the owner receives for the taking is attributable to the involuntary conversion, and reinvesting the whole award in qualifying property within the period satisfies Section 1033. It is a reported example of the rule we give clients: keep the settlement simple and let the close-out file do the characterizing.
Did a client withdraw a deposit this year, or have a property in mind before the taking closes? A free thirty-minute call with Steve Medendorp puts the tax clock next to the legal one.
