The Role of the IRS in a 1031 Exchange- Part 2: Sources of Authority

by Maura Snabes, Esq., CES, NTP

IRS Part 2: On what Does the IRS Rely When Challenging a 1031 Exchange?

In Part 1 of our series, we examined potential triggers that may prompt the IRS to audit a taxpayer who has completed a 1031 Exchange. In this installment, we turn our attention to the key sources and authorities upon which the IRS relies when evaluating the validity of a 1031 Exchange.

IRS Oversight and Audit Authority

The IRS is responsible for ensuring taxpayer compliance with Section 1031 of the Internal Revenue Code. As part of this oversight, the IRS conducts audits to determine whether taxpayers have adhered to the legal requirements for like-kind exchanges. During these examinations, the IRS scrutinizes:

• Exchange documentation
• Financial records
• Supporting materials provided by the taxpayer

The purpose is to assess whether the transaction qualifies as a valid 1031 Exchange under applicable tax law.

Primary IRS Sources of Authority in 1031 Exchange Evaluations

To guide both taxpayers and its own personnel, the IRS issues several types of official guidance. These include:

1. Revenue Procedures

Revenue Procedures are official IRS statements published in the Internal Revenue Bulletin. They explain procedural guidelines affecting the rights and duties of taxpayers and are designed to promote uniform application of the tax laws.

• Example: Rev. Proc. 2000-37
  This procedure outlines a safe harbor for reverse exchanges, specifying the steps taxpayers must follow for the IRS to treat an Exchange Accommodation Titleholder (EAT) as the owner of the parked property—whether replacement or relinquished.

2. Revenue Rulings

Revenue Rulings are the IRS’s official interpretation of how tax laws apply to specific factual situations. They represent the IRS’s litigation position and are binding on the Service.

• Example: Rev. Rul. 2004-86
  This ruling clarifies the circumstances under which a beneficial interest in a Delaware Statutory Trust (DST) will be treated as an interest in real property for purposes of Section 1031.

3. Private Letter Rulings (PLRs)

A PLR is a written determination issued to a specific taxpayer. It interprets how tax laws apply to the taxpayer’s particular transaction.

• PLRs are binding on the IRS only with respect to the requesting taxpayer, provided that the facts and execution match those described in the request.
• Although informative, PLRs cannot be cited as precedent by other taxpayers or IRS personnel.
• After redaction, PLRs are published for public access.

4. Generic Legal Advice Memoranda (GLAMs)

GLAMs are internal IRS documents providing authoritative legal advice to Service personnel on programmatic or industry-wide issues. They are signed by senior officials in the Office of Chief Counsel and are used to ensure consistency in legal interpretations and enforcement.

Judicial Interpretation: The Role of the Courts

The U.S. Tax Court

• The Tax Court originated in 1924 as the Board of Tax Appeals and is now a specialized tribunal dedicated to resolving tax disputes.
• It consists of 19 judges appointed for 15-year terms.
• It is classified as an “Article I” court, meaning it was established under Congress’s legislative powers rather than Article III of the Constitution.

Judicial Status:
While not an Article III court, the Tax Court’s authority was affirmed by the U.S. Supreme Court in Freytag v. Commissioner, 501 U.S. 868 (1991), which held that the Tax Court exercises the judicial power of the United States and functions as a court of law.

Conclusion

When evaluating the legitimacy of a 1031 Exchange, the IRS relies on a combination of statutory authority, published guidance (Revenue Procedures and Rulings), taxpayer-specific determinations (PLRs), and internal legal opinions (GLAMs). Additionally, interpretations from the U.S. Tax Court and other federal courts shape and reinforce the boundaries of what qualifies as a valid like-kind exchange.

Understanding these sources is essential for any taxpayer or advisor involved in structuring or defending a 1031 Exchange.

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