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Can Developers Recognize Long-Term Capital Gain By Selling Land They Don’t Own? Maybe, at Least in Florida, Georgia, and Alabama

January 7, 2015 Business & Tax Blog Capital Gain Transactions

Reversing the US Tax Court, the US Court of Appeals for the Eleventh Circuit recently held that a real estate developer recognized long-term capital gain when he sold contractual purchase rights in real estate, even though the developer previously intended to develop and resell the underlying real estate as condominiums. The Court found that contractual purchase rights could be a capital asset even though the real estate itself would have become ordinary income generating inventory property had the developer closed the purchase contract instead of selling it. As a result, the developer’s effective tax rate was probably reduced by approximately 20%.

The case bolsters some capital gain preservation tax strategies. It does not, however, provide a blank check to lock in capital gain tax rates by trading in contracts rather than land. A few warnings:

First, the circumstances of the sale deviated from the developer’s original plan. While the Court’s reasoning is not entirely clear, the Court observed that the developer did not originally intend to sell the contractual rights. Instead, the developer originally intended to close on the contract, purchase the real estate, and develop condominiums for resale. The tax result could be different if the developer planned all along to sell the purchase contract itself.

Second, the Eleventh Circuit is a federal appellate court immediately below the Supreme Court, with jurisdiction over Florida, Alabama, and Georgia. It is unlikely the Supreme Court will hear this case. While other federal courts with jurisdiction elsewhere might find the Eleventh Circuit’s decision persuasive, they could reach different conclusions. The Tax Court reached a different conclusion in the same case. The Eleventh Circuit’s conclusion is most helpful to taxpayers subject to the Eleventh Circuit’s appellate jurisdiction. Other taxpayers face greater risks relying on the Eleventh Circuit’s decision.

Here is a link to the Eleventh Circuit’s opinion in Long v. Commissioner:

E. John Wagner, II