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IMPROVEMENT EXCHANGE QUESTIONS AND ANSWERS

What is an Improvement exchange?
It is an exchange in which the replacement property will have improvements made to it before it is acquired by the EXCHANGER. The improvements might be minor, such as using funds held by the accommodator to remodel the property. They might be major, like constructing a building to required specifications.

Why would a person attempt this kind of exchange?
There are two common reasons: 1) The ideal replacement property requires less funds than are being held in the exchange accounts. The EXCHANGER would like to invest remaining funds in improvements. 2) There is no property on the market which exactly matches EXCHANGER’s needs. EXCHANGER identifies replacement property which is not yet built but will be completed during the exchange period.

Is this form of exchange allowed by the regulations?
Yes. The regulations published in 1991 allow such an exchange. They do require that the property to be produced be identified with the state of completion defined “to the extent practicable.” Unlike personal property, improvements on real estate may be incomplete at the end of the exchange.

How is this form of exchange accomplished?
At the time that the first phase of the exchange is completed, the EXCHANGER is given 45 days to identify replacement property. The identification identifies the property to be produced. Before the end of the exchange period, the improvements identified must be produced and the property transferred to the EXCHANGER. This may be a challenge:

The building must be done on property which is not owned by the EXCHANGER;

The building must be done by someone other than the EXCHANGER or a disqualified party such as his agent or relative.

May this improvement be made on land already owned by the EXCHANGER? Property owned by the EXCHANGER may not be used. See the next question for options.

May the EXCHANGER transfer property owned by him to a general contractor, enter into a contract to build improvements on it and exchange it with the builder for other real property? This might be possible. There are some letter rulings from the IRS. There is no caselaw or regulation. This form of exchange is not practical without considerable advanced planning and advice of experienced counsel.

Why not have the replacement property transferred to EXCHANGER, and exchange account funds disbursed as needed to construct improvements (or even paid in advance)? The regulations specifically state that a contract to construct improvements is not “like kind” to the improvements which were exchanged for the contract.

If the general contractor wants a contract signed or requires an advance of funds to pay for the improvements, who signs and pays? The EXCHANGER cannot exercise control over the construction. If documents are to be signed, the accommodator signs. If disbursements are made, the accommodator makes them. The EXCHANGER approves contracts and disbursements “as to form”.

Who supervises the improvement as it is constructed?
Although the accommodator is in charge, the EXCHANGER will no doubt be advising as work progresses.

What kinds of liability face the accommodator if it is in title to the property while improvements are being made? Work on the construction project subjects the owner of the property being improved to two forms of liability: construction lien liability for money owed laborers and materialmen and liability for workers compensation and other potential liability for injuries on the job site.

If I want to attempt an improvement exchange, what will it cost?
Fees charged for improvement exchanges may be substantial.

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