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Why does it Matter? To that end, LLC entered into a development agreement with City, which specified the rules that would apply to the Property should it be developed.
LLC sold or otherwise disposed of some relatively small portions of the Property, retaining three main parcels for development. They believed that LLC would be unable to develop, subdivide, and sell residential and commercial lots from the Property because of the effects of the subprime mortgage crisis on the local housing market, and the unavailability of financing for such projects in the wake of the financial crisis.
Instead, they decided that LLC would hold the Property as an investment until the market recovered enough to sell it off. Thus, between andLLC did not develop the three parcels in any way, nor did it list them with any brokers, or otherwise market the parcels.
LLC sold one of the parcels to Developer in and the other two in One of the sale contracts called for Developer to pay a lump sum to LLC in for two of the parcels.
The contract also listed certain development obligations, almost all of which fell on Developer. IRS Disagrees The IRS determined that the aggregate net income from these two sale transactions should have been taxed as ordinary income.
Was taxpayer engaged in a trade or business, and, if so, what business? Was taxpayer holding the property primarily for sale in that business? The Court also indicated that various factors may be relevant to these inquiries, including the: Frequency and substantiality of sales of property which the Court noted was the most important factor ; ii.
Purpose for which the property was subsequently held; iv. Extent of developing and improving the property to increase the sales revenue; v.
Use of a business office for the sale of property; vi. Extent to which the taxpayer used advertising, promotion, or other activities to increase sales; and vii.
Time and effort the taxpayer habitually devoted to the sales. Change in Purpose But the evidence also clearly showed that, inLLC ceased to hold the Property primarily for sale in that business, and began to hold it only for investment.
Moreover, from on, LLC in fact did not develop or sell lots from the Property until LLC did not market the parcels by advertising or other promotional activities; b. LLC did not solicit purchasers for the parcels, nor did its managers or members devote any time or effort to selling the property; c.
Developer approached LLC; and d. The Court conceded that, from to sometime beforeLLC developed the Property to a certain extent. The Court concluded that LLC made such a showing.
AfterLLC disposed of the entire Property in just nine sales over eight years most of which were small sales to related entities. Moreover, the main parcels, sold inhad not been developed into a subdivision when they were sold, and little or no development activity occurred on those parcels for at least three years before the sale.
In sum, afterLLC sold most of its undeveloped Property in a single transaction to a single buyer, Developer, and sold the remainder to related parties. The IRS did not provide the Court with any legal authority or evidence in support of this position. Still the IRS argued that the sale generated ordinary income because: The Court found that these facts were either irrelevant or were consistent with investment intent.
For example, there would have been no reason for LLC to undo or modify the development agreement with City after deciding not to develop the parcels. There seemed to be little doubt that the highest and best use of the Property was for development into residential and commercial lots.
Any buyer would likely have been a developer of some kind.The term “section property” or “ assets” is a tax term that refers to depreciable business property that has been held for over one year.
The types of properties included in Section are machinery, land, cattle, timber, buildings, natural resources, crops, and leaseholds that are at least one year old. 26 CFR - Taxation of foreign investment in United States real property interests, definition of terms.
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