Commercial real estate brokers are assisting property owners in contributing to nonprofit organizations and realizing significant tax benefits in the process through a transaction known as a 170 exchange.
The transaction, according to BARBERMURPHY principal Steve Zuber, SIOR, and broker James Leopold, is a means of assisting sellers in disposing of often tough-to-move assets. Its name reflects Part I, Section 170 of the IRS tax code.
“These are sellers with a significant amount of taxable income who are seeking to take advantage of the tax benefits and help a 501(c)(3) organization in the process,” said Leopold. “Properties that are structurally sound but in need of capital improvements, increased occupancy or that have a limited audience of buyers are often suitable for a 170 exchange.”
How it works is this: The 170 exchange, also known as a bargain sale, is treated as part charitable contribution and part property sale. The charitable contribution, according to Zuber, is equal to the excess of the fair market value of the property (FMV) over the purchase price the charity is paying for the asset, the cash received by the seller. The capital gain portion of the 170 exchange transaction is equal to the difference between the amount realized over the adjusted basis of the property, or in other words, the ratio of the purchase price to FMV. The seller’s tax liability is reduced because the transaction can be leveraged as tax deductible and also eliminate the depreciation recapture tax, which would otherwise be incurred in a conventional sale. In many instances, the seller’s after-tax proceeds using a 170 exchange will exceed the after-tax proceeds a seller would otherwise receive via a conventional sale.
“Where we as brokers assist is in bringing together the seller and the nonprofit organization,” said Zuber. “The 501(c)(3) comes in, pays for the property, and the difference between what the property would appraise for and what the buyer pays is the amount of the seller’s tax deduction. The seller receives some cash up front from the charity, gets a sizable tax benefit and disposes of an asset that would otherwise likely be difficult to sell.”
Ray Grinvalds is vice president of the Midwest Region for Welfont Group, a Tampa-based boutique commercial brokerage firm that represents nonprofit organizations seeking to acquire and resell real estate as part of their fundraising strategy. Grinvalds says the 170 exchange makes sense for many small and medium-sized nonprofits that are able to acquire and dispose of undervalued and performing real property.
“Typically, the nonprofit organization is able to acquire the property at a discount,” said Grinvalds, whose firm works with more than 30 501(c)(3)s across the U.S. “The nonprofit may choose to use the property, hold it as an investment or resell it for closer to FMV. The difference between the resale and the acquisition price represents the fundraising component for the nonprofit. In one recent transaction, we had real estate investors on hand to purchase the property from the nonprofit. The buyer is usually able to get a better deal than he/she would have otherwise, and the 170 exchange often has the impact of returning an underutilized asset to the local community at a lower cost basis.”
170 exchanges represent a total of approximately $10 billion in transactions annually in the U.S., according to Grinvalds, just a fraction of the total $15 trillion in real estate deals closed across the U.S. every year, but still very substantial.
“I don’t think a lot of people are aware of the 170 exchange,” said Leopold. “It’s a unique tax incentive that we have taken to the front line because we believe there are a lot of other opportunities available to sellers, real estate investors and nonprofits in Southern Illinois.”
Teri Samples, CPA, partner and director of real estate services for Mueller Prost in St. Louis, says taxpayers should consult an advisor/CPA to make sure this transaction is right for them and to help determine the deductibility and potential limit of the charitable contribution and the amount and character of the gain that will be included in taxable income.
“Situations where the property is difficult to sell for FMV and when the taxpayer is charitably inclined are most ideal,” said Samples. “The donor must declare the intent to make a charitable donation prior to the transaction. The donor must ask the donee to complete and sign Form 8283 to acknowledge the contribution.”
Samples adds that a qualified appraiser must appraise the property to determine the FMV of the property specifically under a bargain sale intent and sign the Declaration of Appraiser section of Form 8283.