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Tax-Free Exchanges of Aircraft Under Section 1031

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The Internal Revenue Code ("IRC") provides a special exception to the general taxation of sales of property. Under IRC § 1031 (all § references herein are to the IRC), business property may be exchanged tax-free for other business property if both properties are of "like-kind." The rationale for this rule is that, when a business exchanges old property for new property of the same kind, the investment in the new property is somehow a continuation of the owner's investment in the old property. While this transaction is referred to as tax-free, it would be more accurate to call it tax-deferred. Taxable income from a like-kind exchange is effectively postponed until the new property received in the exchange is subsequently disposed of in a taxable transaction. If the new property is itself exchanged later for a third piece of like-kind property, the income may be postponed continually. On the other hand, if a like-kind exchange is not executed, a taxable event occurs and the tax basis of the property received is increased by any gain that is recognized, up to its fair market value. The like-kind exchange is therefore a powerful tax-planning device, but one that requires careful attention to many specific and technical requirements.

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Hereafter, the old property disposed of in a like-kind exchange will be referred to as "relinquished property" and the new property acquired in a like-kind exchange will be referred to as "replacement property." The person (e.g., corporation, trust, partnership or individual) engaging in the exchange transaction shall be referred to as the "taxpayer".

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