Rev. Rul. 81-180

ISSUE

May the sale of property to one other than the threatening authority, by a taxpayer having reasonable grounds to believe that necessary steps to condemn the property would eventually have been instituted, qualify as an involuntary conversion under section 1033 of the Internal Revenue Code?

FACTS

The taxpayer owned 40 acres of land in City M on which the taxpayer farmed and raised cattle.

In February 1980, the voters of City M approved a bond issue for the purchase and development of parks. In connection with that bond issue, City M had the taxpayer's property appraised. The taxpayer learned through a report in a local newspaper that City M intended to acquire the taxpayer's property for public use. The news account quoted a City M official as stating that the property eventually would be condemned if a sale to the city could not be negotiated. The taxpayer obtained confirmation in writing from the City M official involved as to the correctness of the published report. Rather than wait for City M to condemn the property, the taxpayer sold it in January, 1981, to B, an unrelated third party.

LAW AND ANALYSIS

Section 1033 of the Code provides that when property is involuntarily converted into money as the result of a condemnation or the threat or imminence thereof certain nonrecognition of gain provisions apply, subject to specific requirements.

Section 1033(a)(2)(A) of the Code provides that gain realized on an involuntary conversion of property into money shall, at the election of the taxpayer, be recognized only to the extent that the amount realized upon the conversion exceeds the cost of other property that is purchased to replace the property converted and is similar or related in service or use to such converted property.

Rev. Rul. 63-221, 1963-2 C.B. 332, provides that a threat or imminence of condemnation is generally considered to exist when a taxpayer obtains information through a news medium as to a decision to acquire the taxpayer's property for public use, provided that confirmation is obtained from a representative of the governmental body involved as to the correctness of the published report and the taxpayer has reasonable grounds to believe that the property will be condemned if a voluntary sale is not arranged.

Rev. Rul. 69-303, 1969-1 C.B. 201, holds that the sale by a taxpayer to a non-profit organization, acting in cooperation with a governmental study proposing to acquire or condemn the property, is an involuntary conversion of such property as a result of threat or imminence of condemnation within the meaning of section 1033(a) of the Code.

In Creative Solutions, Inc. v. United States, 320 F.2d 809 (5th Cir. 1963), the United States Court of Appeals considered the issue of whether the sale of real property, under the threat of condemnation, to one other than the threatening authority was an involuntary conversion entitling the taxpayer to the benefits of section 1033 of the Code. The court stated that the legislative history of section 1033 is silent on this issue and that the statute never has contained a requirement that the property be sold to the threatening authority. The court concluded that the taxpayer's sale of its properties to a private third party comes within the letter and purpose of section 1033.

Under the facts in the instant case, a threat or imminence of condemnation existed with regard to the taxpayer's property under the principles of Rev. Rul. 63-221. As in Rev. Rul. 69-303 and Creative Solutions, Inc., the taxpayer was informed that the property would be condemned and that the taxpayer would be deprived of its use. Therefore, although the property was not sold to city M, which had the authority to condemn, it was sold to a third party under circumstances in which the taxpayer had reasonable grounds to believe that the necessary steps to condemn the property eventually would have been instituted.

Accordingly, since the property was under threat of condemnation, the sale to B was an involuntary conversion within the meaning of section 1033 of the Code. Thus, provided all of the other requirements of section 1033(a)(2) are met, any gain realized on the sale of the property to B will be recognized only to the extent that the amount realized exceeds the cost of replacement property similar or related in service or use to the property converted.

HOLDING

The sale of property to one other than the threatening authority, by a taxpayer having reasonable grounds to believe that necessary steps to condemn the property eventually would have been instituted, qualifies as an involuntary conversion under section 1033 of the Code.

EFFECT ON OTHER REVENUE RULINGS

Rev. Rul. 69-303 is clarified to provide that the third party does not have to be acting as an agent for or in cooperation with the condemning authority.