The Rules for Like Kind Exchanges

Under federal taxation rules, gains recognized and realized from the sale of an asset are considered taxable. However gains resulting from a like kind exchange are not taxable. A like kind exchange is defined as an exchange of property that is tangible, implemented in a business and is similar in nature. Realty exchanged for realty is considered a like kind exchange, and personal property exchanged for personal property is considered a like kind exchange. Certain assets such as inventory, securities, partnership interests, and real property in different countries when exchanged do not qualify as like kind property. Like kind exchanges are reported on form 8824.

There are three amounts that are important in the course of a like kind exchange transaction. The first amount is figuring out how much is the realized gain, then the recognized gain and lastly the value of the new property.

Realized gain is calculated by subtracting the net book value of the old asset with the fair market value of the new asset. It is important to remember the net book value is cost minus depreciation. The fair market value of the new asset is also considered to be the amount realized which includes cash or other property.

Recognized gain is the gain that is recorded on the tax return. It is the lessor amount of the cash received or realized gain. It is very important to remember that realized losses are never recognized for like kind exchanges.

The new basis of property is calculated starting with the old basis of the property (net book value) plus any recognized gains, plus boot paid and subtract any boot received.

Example 1:

Adequate Disclosure, Inc. exchanges its corporate building worth $150,000 (net book value) for a building of equal use with Inadequate Disclosure, Inc. worth $180,000 fair market value, and Adequate Disclosure, Inc. pays a lump sum of $10,000 in cash. What is the realized gain? What is the recognized gain? What is the basis of the new asset?

Calculate the realized gain:

Calculate the recognized gain:

Calculate the new basis of the asset:

Example 2:

Adequate Disclosure, Inc. exchanges its corporate building worth $105,000 (net book value) for a building of equal use with Inadequate Disclosure, Inc. worth $100,000 fair market value, and Inadequate Disclosure, Inc. pays a lump sum of $40,000 in cash. What is the realized gain? What is the recognized gain? What is the basis of the new asset?

Calculate the realized gain:

Calculate the recognized gain:

Calculate the new basis of the property: