Seven Solutions to Seller Financing

How should the transaction be structured if the seller of exchange property wishes to extend financing in the sale? If the note is payable to the exchangor, it is considered "cash or other property" under the boot offsetting rules and cannot be offset with mortgage liabilities assumed. Any boot received which is not offset is taxable income. See Installment Notes Received in IRC 1031 Exchange for a combination exchange and installment sale.

The following alternatives have neither been approved nor disapproved by the courts or the I.R.S. but have been widely used.

 The note is made payable to the intermediary and then assigned to the seller of the replacement property at closing. This is probably the most popular alternative.

1. The seller however, may be reluctant under this alternative to accept the note because under the installment sale rules IRC 453(f)(3), the seller will not be able to use the installment sale method because the note is not from the buyer.
   
2. The buyer of the relinquished property issues a note to the intermediary and the intermediary issues an identical note to the seller of the replacement property. The intermediary's note can be secured by either the taxpayer's guarantee, or a deed of trust on the replacement property.
   
3. The note is made payable to the intermediary who then sells the note to a third party. The note sale proceeds are then used to acquire the replacement property.
   
4. The intermediary could sell the note to the taxpayer. The sale should probably occur upon closing of the replacement property to avoid constructive receipt issues during the exchange period Reg. 1.1031(k)-1(g)(6). The taxpayer could also potentially argue that he has given offsetting cash boot for the note- thus neutralizing the constructive receipt challenge.
   
5. The taxpayer could lend funds to the purchaser for a note prior to the closing of the relinquished property. The buyer would then secure the note with a deed of trust on the relinquished property at closing, then apply the proceeds toward the purchase price of the property.
   
6. The buyer could assume other liabilities of the taxpayer rather than issuing a note to the intermediary. The taxpayer's liabilities do not need to be secured by the relinquished property, but just need to be assumed as part of the exchange Reg. 1.1031(b)-1(c) and (j)-1(b)(ii)(A). The assumption of the taxpayer's liabilities could be offset under the "boot netting" rule by equal or greater debt on the replacement property.
   
7. The seller could refinance the property before sale and have the purchaser assume the new debt as an alternative to taking the buyer's note.