Land Installment Contracts and 1031

[HuskyInvestor06]

Hey Guys,

I've been reading up a lot lately on purchasing properties through the method of a land installment contract.

Later, I was reading an ebook written by Bill Gatten, about the advantages of using a CAL PAC trust to take a property Subject to. In it, he said that one of the advantages his CAL PAC trust held over a conventional land installment contract method was that the latter surrendered the property's elegibility for 1031 deferred tax status.

Does anyone know if this is in fact true? and how exactly does it lose its elegibility?

And also, on an even more basic level, after reviewing the structure of a land installment contract, how is that even a violation of the due-on-sale clause anyhow? The original seller still has the deed and is making the payments, your just compesating him for them.

Any help on either of these two issues would be great. These forums have yielded me much sound advice in the past!

Thanks!

[dealmaker]

OK, I'm not a lawyer or an accountant, just a guy with 25+ years of investing, renting, flipping etc. Therefor JUST LIKE BILL GATTEN'S ADVICE may be either out of date due to state or federal legislation or completely unworkable due to your state's laws, you should always run the specifics of any deal past your attorney and CPA.

I don't even know what a CAL PAC trust is but I've never seen a trust that would have done anything for me. AFAIK one of the difficulties of doing a 1031 exchange is that the ACQUIRED PROPERTY MUST be held in the EXACT NAME/ENTITY as the RELINQUISHED PROPERTY. Not doing so could trigger a TAXABLE event, thereby defeating the purpose of the 1031

Some trusts that I've seen are "property specific" creations, so that taking one property out and putting another one in isn't possible. So again you could be creating a taxable event.

I would NEVER buy a property on a LAND CONTRACT/CONTRACT FOR DEED basis. I would walk away from any attorney who advised me to do so. Here's why: Seller A and I work up a LAND CONTRACT, btw, several states have put some restrictions on these in recent years so again check with your attorney to make sure the FORM OF THE DEAL is done correctly. Seller A (who was probably in financial difficulty anyway, why else would he do this deal) is not and has not been paying his FEDERAL TAXES. Or seller A could just be a scam artist writing these deals with 4 or 5 others besides me.

The IRS (who generally take a dim view of people not paying their taxes) file liens on ALL HIS ASSETS. Maybe you and your lawyer are optimists about beating the IRS in court over who is in front of whom on the list to get those assets. You might ask your attorney to give you an estimate of how much it might cost, in real money to fight the IRS in court!

That in a nutshell is why I will never do a LAND CONTRACT.

dealmaker

[wexeter]

You CAN DO 1031 exchange transactions using both methods, however, both methods can create challenges when trying to structure a 1031 exchange transaction.

You must first decide what it is that you are trying to accomplish and then you must analyze which structure would be best for your specific situation. Once you have accomplished that, then you must analyze it from a 1031 exchange perspective to see if the tax deferred exchange will work.

The Land Contact or Contract for Deed can be a difficult issue to work around. The actual ownership or control (risks, benefits and burdens) of the real estate is conveyed at the time of signing the Land Contract (up front), but the liability owed is paid over time. The legal title to the property remains with the Seller because the Land Contract is merely a financing vehicle for the transaction and retaining the legal title is the Seller's security interest and any balloon payment at the back end is merely the pay off of the Land Contract. The bottom line is that the "sale" or "dispostion" of the property has occurred up front and not at the back end as many think.

The 1031 exchange transaction must be structured up front and the Accommodator must be assigned into the Land Contract BEFORE closing, otherwise there is no way to structure a 1031 exchange transaction. This is the easy part. The 45 day identification period and the 180 day exchange period begin with the commencement of the Land Contract. Once the Accommodator has been assigned into the transaction and the Land Contract is consumated, the next question is how does the Investor (Exchangor) acquire his or her replacement property when they do not have the cash from the sale. There are way to accomplish this, but it is not easy and quite often expensive.

The Land Contract can be sold to another investor (usually at an expensive discount), can be replaced with cash from the Investor (Exchangor) if they have the liquidity to do so, or can be assigned to the Seller of the identified replacement property (not usually very practical).

Hope this helps.

[HuskyInvestor06]

Wow! Its such a relief to know that I can ask questions and actually get such professional responses. Thanks to the both of you. You're viewpoints have helped me a lot.

[Jim Johnson]

I have read this tread and do not agree with all that has been said here. There are many reasons to sell on contract for deed, one huge reason is right in line with the 1031x laws. A contract for deed will spread your taxable gain over many years, the length of the terms to be exact. In many cases a family trust will hold properties and the trust would rather have an income stream than a bulk payout. The tax code on this issue is not as easy as saying all the gain is deferred, but most of it is. A friend of mine just bought a mobile home park on contract for deed in Wyoming. The lady selling the property really needed to know she had income every month,my friend paid top dollar but no interest. Contract for deed is a great way to get the terms you want for the deal to work. I would just say... do not be so quick to through a contract for deed deal under the bus... I wish to add, I am not an accountant or attorney so consult with people who have forgotten more about those fields than I will ever know...

[dealmaker]

Jim, I'll generally defer to your knowledge on a lot of things, but CFD is not one of them. Here's why I'd never buy, or sell that way.

As far as selling, my state, TX and a lot of others enacted legislation in the past 10 years that make complying with the law on selling CFD difficult and opens the seller up to liability issues. Prior to the law change I used it quite a bit. Now I just sell on a traditional WARRANTY DEED, NOTE, AND DEED OF TRUST. It's a cleaner deal, no worries about the compliance issues and it's quick and easy to do a TRUSTEE'S SALE if it comes to that. Just like the seller in your example I get my income stream.

Here's why I'd NEVER buy on a CFD. Let's say the seller is in a bit of financial difficulty. Generally a cause for the "motivated seller" to be so motivated. Let's say a year down the road the IRS finally gets around to chasing him down for the Federal Taxes he hasn't been paying, and puts a lien on ALL OF HIS REAL PROPERTY.

Ask your attorney the following questions:
(1) How much would you charge me to defend my "equitable" position?

(2) What are my chances of prevailing in suit against the Federal Government?

(3) What are my odds of collecting the (huge) fees that I will have paid you from either of the other parties involved?

AFAIK the answer to these questions is
(1) Lots
(2) I don't know, but not very good
(3) No chance in hell

So why would I want to purchase a shaky deal under these circumstances.

YMMV

dealmaker

[Jim Johnson]

I think all the points you make are very valid and in shaky circumstances these deals should be avoided. The very same reasons I do not do the lease option then sub lease option thing. I would not trust a 'shaky seller' in any situation like this which would require some sort of good will or deed on their part. It makes sence for estates, trusts and sellers wishing to defer large taxiable gains. But in general, you are right. Great points!
Jim


Jim, I'll generally defer to your knowledge on a lot of things, but CFD is not one of them. Here's why I'd never buy, or sell that way.

As far as selling, my state, TX and a lot of others enacted legislation in the past 10 years that make complying with the law on selling CFD difficult and opens the seller up to liability issues. Prior to the law change I used it quite a bit. Now I just sell on a traditional WARRANTY DEED, NOTE, AND DEED OF TRUST. It's a cleaner deal, no worries about the compliance issues and it's quick and easy to do a TRUSTEE'S SALE if it comes to that. Just like the seller in your example I get my income stream.

Here's why I'd NEVER buy on a CFD. Let's say the seller is in a bit of financial difficulty. Generally a cause for the "motivated seller" to be so motivated. Let's say a year down the road the IRS finally gets around to chasing him down for the Federal Taxes he hasn't been paying, and puts a lien on ALL OF HIS REAL PROPERTY.

Ask your attorney the following questions:
(1) How much would you charge me to defend my "equitable" position?

(2) What are my chances of prevailing in suit against the Federal Government?

(3) What are my odds of collecting the (huge) fees that I will have paid you from either of the other parties involved?

AFAIK the answer to these questions is
(1) Lots
(2) I don't know, but not very good
(3) No chance in hell

So why would I want to purchase a shaky deal under these circumstances.

YMMV

dealmaker