Mr. Z owns three homes. He lives in the San Francisco home full time. The other two he and his wife vacation in each year. He is considering replacing the house he has in Palm Springs, California, with another house in the same area. The new home is a little larger and has a floor plan he prefers. The two Palm Springs properties have almost the same fair market value. Mr. Z would like to know if he can exchange the properties instead of selling the one he has now and then buying the new one. He has a lot of built-up appreciation in the current Palm Springs home, and he doesn't want to have to pay taxes on it. Someone told him at a cocktail party that he can avoid paying taxes if he does an "exchange."
Mr. Z and his wife own the homes outright. There is no mortgage on the property. They use the property occasionally. This last year they vacationed at the home for about two or three weeks - they aren't sure of the exact days. They have never rented the property and refuse to rent either the old or new property. They don't need the money and don't like strangers in their house.
Mr. and Mrs. Z explain that they hold each of their vacation homes for two purposes. One reason is to provide nice vacation opportunities. Another key reason for owning the homes is for their investment value. Mr. Z chooses only homes in areas where he believes there are high appreciation possibilities.
Can Mr. Z take advantage of the tax-free exchange rules in the IRC? How will you advise him?
a. Are there any additional questions you should ask the client before you begin your research?
b. What additional potential sources of information might you want to ask for?
c. Which of the preceding facts are relevant? Which are irrelevant?
d. Is there a chance that you will need to ask more questions at a later point? Why or not?
e. What is the first question you will try to answer in your research? Are there any additional issues that you can identify at this time?
f. What is the taxpayer's desired result? Why is this important? How does it affect your role as tax advisor?
g. Is this a planning research type of situation? How do you know?
h. Do you have an initial belief regarding the tax treatment in this circumstance?