A federal district court has held that a transaction in which a corporation disposed of equipment and received like-kind property – but its parent company received cash and an obligation to pay the cash six months later – did not qualify for like-kind exchange treatment.
North Central Rental & Leasing is a wholly owned subsidiary of Butler Machinery Company. Butler is a dealer for Caterpillar. North Central is in the business of renting and leasing Caterpillar equipment.
North Central and Butler conducted almost 400 transactions that were structured similar to the following: North Central had old, low-basis equipment that it wanted to sell and replace with new equipment. North Central conveyed that equipment to a qualified intermediary (QI). The QI sold the equipment to an unrelated third party.
Butler purchased replacement equipment from Caterpillar. The replacement equipment was worth approximately the same amount as the old equipment. The QI used the money it received from the sale of the old equipment to purchase new equipment from Butler. The QI then transferred the new equipment to North Central.
As a result of this series of transactions, North Central gave up its old equipment and received new equipment. Butler received the cash proceeds from the sale of the old equipment. Under the terms of its dealer financing arrangement with Caterpillar, Butler was not required to pay over the cash for the new equipment for a period of six months.
The IRS argued that North Central and Butler collectively cashed in their investment in low-basis property. Although North Central continued to hold investment property after the exchange, Butler held only cash for up to six months until the due date of the Caterpillar invoice for the replacement property. North Central argued that Butler was eventually required to pay Caterpillar, so a cashing-out of its investment in like-kind equipment did not occur.
The court found that Butler’s receipt of cash in exchange for equipment, together with its unfettered access to the cash proceeds for a period of several months, rendered the gain on the like-kind exchange transactions recognizable by North Central. The court said that Butler used the cash in the normal course of business (North Central Rental & Leasing v. United States, DC ND, 112 AFTR 2d Paragraph 2013-5544, Sept. 3, 2013).
Essentially, the economic consequences of the exchanges between North Central and Butler provided Butler with cash for a period of up to six months, during which it was free to use the cash for any purpose it deemed necessary.