Idiotic Gift

[Snaggletooth]

My client is a quite sought-after divorcee in her early 30s with good looks. Ex-husband built home in deep woods Tennessee, and she bought him out to keep the property after the divorce. Over the last couple years, woman has been harassed on her own property by men with varying degrees of intent, and a couple of them were rumored to buy property adjacent to her. Tabloid stuff in the making, regardless of whether the buyers really had malevolent intent or not. Who knows? and not important to the issue.

Her Aunt and Uncle of reasonably wealthy means tried to help, and two years ago purchased all the property adjacent to her on three sides, effectively blocking anyone else trying to own neighboring property. My client lost her job, and finding other employment, now wants to move. The logistics of the property are such that being surrounded with limited outlet to road impairs the value of her residence, and with her no longer being there, rich aunt and uncle don't want to keep the property.

Her realtor came up with a brilliant idea (maybe some of you will be able to tell me just how brilliant this idea really is). Let the aunt quitclaim the property to my client, and then let my client sell ALL of the property. Then let my client return an agreed-upon proceeds to aunt and uncle. The objective is to reduce closing costs by reporting only one sale.

There is in fact, no real gift. However, the paper trail does not record any sale to the niece, nor any further transaction back to the aunt.

Is gift tax triggered by this brilliant idea? Or does the substance of the transaction take priority? Remember also that the Aunt/Niece relationship is not provided any exemption such as Parent/Child.

Looking forward to hearing from you, Ron Jordan

[jimmcg]

Gift

A transfer of property interests without adequate consideration is a gift. Gifts in excess of the annual exclusion need to be reported on a gift tax return. Some exceptions may apply but not based on the facts as presented by you. Still possible to avoid the gift tax by using the lifetime exclusion but all other considerations should be looked at before doing so.

[jainen]

haven't had a drop

This scenario doesn't make any sense at all to me, and I haven't had a drop tonight! The "one sale" theory is particularly bogus because there are so many ordinary ways to handle it. For example, aunt&uncle can grant an easement guaranteeing access (although it didn't seem to be a problem before, and what about that fourth side?). Or they can give her options to buy without actually transferring title. Or they can just sell everything together if the Realtor is too lazy to find separate buyers. Hire someone who does 1031 exchanges, they'll know how to manage multiple owners and properties in a single closing.

I'm sure your client can come up with something better. She obviously has a fertile imagination.

[Snaggletooth]

Answer

Appreciate everyone's input, but the question hasn't really been answered. Let me restate, in case the question wasn't clear...

Given the facts - a single sale of combined properties ending in proceeds for each seller is jeopardized as a taxable "gift" because the true purpose is not documented with separately recorded sales.

The question: Do I report the "substance" (each party claiming their proportionate share of the sale) or is there a "gift" from Aunt to Niece, and then another "gift" when Niece gives Aunt a portion of the proceeds? For those of you knowledgeable, this may seem like an ignorant question.

And yes, there are a hundred better ways to conduct this. My client is not in charge in this situation, and neither am I. Another evidence of Realtor's idiocy: most of the closing costs he thinks they will avoid are not title transfer charges, but assessed by mortgage companies -- the land in question is not encumbered by a mortgage.

Thanks, Folks. Ron J.

[JG EA]

Legally dangerous

One more point. It is not a good idea to quit claim anything without a written agreement. People need all transactions, even amoung loyal family members, to be written down and legally enforceable or someone may be left out of the loop. Even if all are honorable, there is the danger of forgetting the exact agreement.

[S T]

Has the deal been done?

Has the deal already been finalized and closed escrow so you are now trying to sort out how to report on the tax return or returns.

or is it in the pre-escrow stages and not closed so maybe a different turn of events take place that might be a better scenario?

Further, wouldn't the client have the 121 exclusion on her piece of property (residence), but possibly not on the adjoining properties quit claimed to her. Doesn't seem like if the Aunt sold the adjacent properties she would have any exclusion it would be capital gains and that is what the (wealthy) Aunt might be trying to avoid, maybe not the closing costs on each piece of property altho that can generate some expense as well.

Whole story seems a little strange! But then leave it to realtors, loan brokers and clients to come up with strange transactions.

Sandy

[jainen]

the quill

Okay, I've had a chance to improve my mind so I'll take another look. Oh my, it looks even worse now. A quitclaim doesn't really transfer clear title the way a warranty deed does, and what with burdening the house with an expanse of empty land your client will find it even harder to get top dollar on this scheme. Auntie wants to sell her lots anonymously for some reason, and I don't believe it's the reason she says. There's a lot of risks for Client in going into chain of title on land she doesn't want. Your professional service should include (and document) a referral for legal advice. "Not in charge"? Of course she is. She's the one holding the quill.

But you already know all that, so what about the tax treatment? Well, under statute of frauds in every state, oral agreements for real estate are not valid, so Auntie is in substance as well as form giving Client the property, and Client owes capital gains tax on it. Section 121 only applies to the home. Ah, heck, maybe you could say the quitclaim was just a formality to set her up as some kind of agent or nominee. IRS don't care who they get the money from. Good thing Auntie isn't your client. I suspect she's a witch.

[Mark Goldberg]

Answer to question

Your question is, is this a real gift or a sham transaction? Clearly it is not a gift. The Aunt is going to get an agreed upon price for her land after the sale. Whether it is a sham transaction will depend upon whether or not taxes are avoided.

[Bees Knees]

Not a gift

A sham transaction for tax purposes would only apply if there was some kind of tax avoidance that would result.

Facts: Aunt and Uncle don’t want to sell their land. They want to gift it to niece, and then have the niece gift the proceeds back. From their tax perspective, what just happened?

Answer: They avoid capital gains tax upon sale. Sure, they may have a lifetime gift exclusion that would be affected, but avoiding current capital gains tax is the immediate tax issue that would kick in. And I would assume IRS would not allow that treatment if all facts were revealed.

Court cases that have dealt with the step transaction where IRS looks through the substance of the transaction place a great deal of emphasis on whether there were strings attached ahead of time. Obviously, strings are attached to this deal. Aunt and Uncle are not going to quit claim their property to the niece unless she agrees to give them the sale proceeds when the property sells. That is clearly a pre-arranged agreement which nullifies any claim these are gifts.

I would say for all practical purposes, the niece is merely acting as a selling vehicle or agent for her Aunt and Uncle, and there is no gift tax consequence.

[Armando Beaujolais]

Why not an LLC? LLC purchases all the land at FMV through notes. No built-in gain. No gift. Allocate the way they want.

[jainen]

key facts

I think you are focusing too much on legalities and ignoring the key facts that she is good looking and has a job.

[taxmandan]

Land sale

I like Armando's idea of an LLC.

Your original post said "The objective is to reduce closing costs by reporting only one sale." I would guess that all of the legal efforts are going to cost as much as or more than the closing costs for a second sale, and if done in a manner that the IRS doesn't like could cost them a lot of money to determine the proper tax treatment of whatever course they decide to take.

Daniel

[Armando Beaujolais]

I think you are focusing too much on legalities and ignoring the key facts that she is good looking and has a job.

Haaaa! I like it.

[S T]

Butt ??? Capital Gains

Seems like Bees has sorted out the question:

I would say for all practical purposes, the niece is merely acting as a selling vehicle or agent for her Aunt and Uncle, and there is no gift tax consequence.

someone should report capital gains tax on the surrounding property. The niece can only claim Sect 121 exclusion on her portion claimed as a residence. The portion that was quit claimed needs to be taxed at capital gains.

Bees

Answer: They avoid capital gains tax upon sale. Sure, they may have a lifetime gift exclusion that would be affected, but avoiding current capital gains tax is the immediate tax issue that would kick in. And I would assume IRS would not allow that treatment if all facts were revealed

It seems that the real estate agent is aware of this and that is why someone is trying to or has already structured the deal this way to try to avoid the capital gains issue on the surrounding property??? Additional closing costs are not the issue here! Could even be that the capital gains are at a lesser rate on the niece's return than on the Aunts return.

Sandy

[Snaggletooth]

Thanks

Lots of good input from some very astute colleagues.

Thanks - Ron Jordan