NET LEASEHOLD INTERESTS: "EXCELLENT
§1031 REPLACEMENT PROPERTY OPPORTUNITIES"
A LEASEHOLD INTEREST CAN BE CONSIDERED "LIKE-KIND" PROPERTY
Leasehold interests may be either relinquished property or replacement
property in an exchange. [Reg. §1.1031 (a)-1 (c) (2)] A leasehold
interest with a remaining term of 30 years or more is considered
"like-kind" property to a fee interest in any other real estate
held for productive use in a trade or business or for investment. If a
leasehold has an unexpired term of less than 30 years, it is not treated
as a qualifying §1031 property. However, if the lease provides for
optional renewal periods, these periods can be included in determining
whether the leasehold has 30 years or more remaining. In one case, a lease
with an initial term of 5 years and ten optional renewal periods of 5
years each was held to be "like-kind" property since the
taxpayer had the right to use the property for up to 55 years. [R & J
Furniture Co. v. Comm., 20 T.C. 857 (1953)]
GROSS VS. NET LEASEHOLD INTERESTS
A gross lease often obligates the lessor only to pay a portion of expenses
of the leased property. A net lease (often referred to as a net, net, net
or NNN lease) requires the tenant to pay, in addition to the fixed rent,
expenses of the property such as taxes, insurance, utilities, maintenance,
etc. The obvious advantage of a NNN lease to property owners is that many
of the routine management burdens of ownership are the responsibility of
the tenant.
WHY EXCHANGE INTO LONG-TERM LEASES AS §1031 REPLACEMENT PROPERTIES?
Many real estate investors have accumulated substantial real estate
portfolios over a period of many years. In many instances, these investors
have performed a §1031 tax deferred exchange into replacement properties.
The exchange transaction has allowed them to eliminate the payment of
capital gain taxes and rollover equities into larger and better performing
properties. Now that they have met many of their long-term investment
objectives, they desire to increase their monthly cash flow and
simultaneously reduce the management problems typically associated with
most real estate investments. An ideal solution is to exchange into a net
leasehold interest, providing excellent cash flow with very few
responsibilities associated with the ongoing management of the property.
ADVANTAGES OF NET LEASES
(1) Predictable cash flow, typically with standard cost-of-living
adjustments already built into the lease.
(2) Tenant typically is a well-recognized national company, often with
audited financial statements which can be thoroughly reviewed by the
lessee.
(3) Very few management headaches. Lessor is responsible for taxes,
utilities, maintenance and insurance.
(4) Allows a real estate investor to take advantage of an income stream
without triggering the recognition of capital gain taxes.
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Exchange Information
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