Exchanges that start in one tax year and end in a subsequent tax year are sometimes called Year-End Exchanges. An exchange must be reported on the tax return for the year in which your relinquished property was sold; if the relinquished property in your exchange was sold in 2020, your exchange must be reported on your 2020 tax return. A year-end exchange, however, contains some unique benefits and some hidden pitfalls, which include:
- The need to apply for an automatic extension to file if the exchange period ends after the date for filing the tax return for the tax year in which the transfer of the relinquished property occurs.
- The right to elect to defer the recognized gain in a failed or partially taxable exchange to the subsequent tax year.
- The ability to terminate the exchange by prematurely filing the tax return for the tax year in which the transfer of the relinquished property occurs.
In other words, if you have a year-end exchange – for instance, if you sold your property in October, but won’t be purchasing the replacement property in the exchange until February – don’t file your taxes until you’ve completed the purchase of the replacement property, and have completed the exchange! If you file your taxes for the year in which you sold your property before you purchase the new property within the exchange, the exchange will be automatically terminated and you will not defer the capital gains. You will owe all the taxes on your sale. If you are in a year-end exchange situation and you will not complete the exchange before your accountant files your taxes (aka April 15th), then FILE FOR AN EXTENSION.
If you would like to learn about more scenarios, issues, and options involving year-end exchanges, feel free to give us a call, or e-mail us a question!