Reporting like-kind exchanges IRC section 1031
A like-kind exchange happens when you exchange property for other property that is of like-kind and defer gain or loss.
You must report the like-kind exchange on California Like-Kind Exchanges (FTB 3840) if both of the following occur:
- An exchange of one or more California real properties for one or more real properties located outside of California
- Any portion of the California sourced realized gain or loss is not recognized
You must file FTB 3840 in the year of the exchange and each year after until the deferred gain or loss is recognized.
We generally conform to IRC section 1031 as revised by the Tax Cuts and Jobs Act of 2017. However, for exchanges completed after January 10, 2019, exchanges are limited to real property unless the taxpayer meets the provision of RTC sections 19031.5(b) or 24941.5(b).
You must keep records of these exchanges and make them available upon request.
Visit Instructions for Like-Kind Exchanges (FTB 3840) for more information.
You must continue to file FTB 3840:
- As long as you defer the gain or loss
- If you exchange the out-of-state replacement property with another out-of-state property as part of another exchange
- Until you report and pay tax to California on your deferred gain or loss
- Until the owner of the replacement property dies, eliminating the deferred California source gain or loss
- Until you donate the replacement property to a non-profit organization
If you fail to file the FTB 3840 or a tax return, we may issue a Notice of Proposed Assessment to adjust your income for the previously deferred gains plus any applicable penalties and interest.
When to file
How to file
Attach FTB 3840 to your California income tax return.
- Mail (If you do not have a California income or franchise tax filing requirement)
- Franchise Tax Board
PO Box 1998
Rancho Cordova CA 95741-1998
- If you e-file your California return, you can also e-File FTB 3840.
Visit file online for your e-file options.
Calculate your gain (examples)
The following examples show how to calculate California source gains.
Scenario: Sue sold a California relinquished property (RQ) on February 19, 2017. She sold it for $4500 as part of a 1031 exchange. Sue's basis in the RQ was $1000. Sue calculates her gain by subtracting her basis amount ($1000) from the $4500 realized amount.
Thus, Sue realized a $3500 gain when she sold the RQ. She buys an out-of-state property (RP) for $5000. Her adjusted basis in the RP is $1500 ($1000 carryover basis + $500 additional cash paid).
Assuming that Sue receives no other property (i.e. boot), she defers her $3500 California source gain. Under California law, Sue must annually report deferred California source gains on FTB 3840.
Sue sells the RP on January 15, 2019, for $4500. She needs to report to California the lesser of the deferred California source gain or the recognized gain from the sale of the RP. In Sue's case, she must report and pay tax on the $3000 California sourced gain on her 2019 California income tax return. She has to do this because her actual gain on the sale of the out-of-state RP ($4500 - $1500 = $3000) is less than the deferred $3500 amount.
Scenario: Corp A is an apportioning corporation. During the 2015 tax year, it conducts a 1031 exchange by relinquishing California property (RQ) and replacing it with property located outside California (RP). Corp A realizes $2 million gain, which it defers under IRC Section 1031.
If the RQ is business property, and Corp A's 2015 California apportionment factor is 55%, then the California source gain is $1.1 million ($2 million & 55%)
If the RQ is non-business property, the entire $2 million gain is California source. In both cases, regardless of whether the RQ is business or non-business, Corp A must file FTB 3840 until the appropriate amount of gain is recognized for California tax purposes ($1.1 million if the property is business property, and $2 million if the property is non-business property).
Multiple property exchanges
Like-kind exchanges often involve the sale of multiple relinquished properties or the purchase of multiple replacement properties. In years subsequent to these exchanges, some properties may be sold or used in future exchanges. Completing FTB 3840 in these situations may require a supplemental FTB 3840 or explanation.
When one of the replacement properties reported on FTB 3840 is exchanged or sold in a taxable transaction, taxpayers should remove that property from FTB 3840 in the year of sale, report the exchange or sale on their tax return and attach a statement noting why the property was removed from FTB 3840. When property is exchanged, the taxpayer will also need to attach a new FTB 3840 reporting that exchange. Below are some examples.
Example 1: A taxpayer exchanges one property located in California for 3 properties located in other states in 2015 and files FTB 3840 for each year. The taxpayer properly allocated the deferred gain between each replacement property on FTB 3840. In 2017, the taxpayer sold one of the replacement properties for a gain.
The taxpayer should report the gain, file FTB 3840 with the sold property removed from the form, and attach a statement explaining that the replacement property was sold and reported on the taxpayer's 2017 tax return.
Example 2: The facts are the same as in Example 1, except instead of selling one of the replacement properties, the taxpayer exchanged one of the out-of-state replacement properties for another property under the provisions of IRC section 1031.
The taxpayer should continue to file FTB 3840 for the replacement properties that remain from the 2015 exchange, with the property exchanged in 2017 being removed from FTB 3840. The taxpayer should file a second FTB 3840 listing the property exchanged in 2017 as the relinquished property.
The portion of the 2015 deferred gain relating to the property exchanged in 2017 should be reflected in this second FTB 3840. The taxpayer should include a statement explaining that they exchanged one of the 2015 replacement properties for new replacement property.
The taxpayer’s obligation to report California deferred gain does not cease under the statute when the taxpayer exchanges an out-of-state replacement property for other property, regardless of whether or not that property is located outside California.
Contact us about FTB 3840 filing compliance.