1031 Exchange: Leasehold – Wind Turbine, Billboard, Cell Tower

A 30 year or more leasehold of land is considered like-kind to a fee interest in land. Providing that the taxpayer has the right to extend the lease, the thirty year leasehold interest is eligible for Internal Revenue Code Section 1031 exchanges, allowing the taxpayer to defer federal and state capital gains while replacing with any type of real property.

Leasehold Interests

Wind energy projects are plentiful in north western Indiana, where it doesn’t take long driving county roads to see the ever present three whirling blades of megawatt turbines, producing electricity and revenue for the land owner. Purdue University, located in western Tippecanoe County, Indiana, is working towards a 100-megawatt turbine park that includes 50 two-megawatt turbines on 1,600 acres. Annual leases are projected to generate $10,000 per turbine. Many Indiana farmers have opted for similar thirty year leases with developers who combine engineering and construction services with power purchase agreements from utilities.

The right to use someone else’s property is a leasehold interest. Improvements made to land leased for thirty or more years are considered real estate. In the example of the wind turbines, the taxpayer who owns the wind turbines, along with the leasehold, can sell the lease. As long as the remaining term of the lease is 30 years or more including extensions, the taxpayer can defer the capital gain taxes when replacing with another thirty plus year lease or other real estate.

Examples of Leasehold Interests

In addition to wind turbines, other common construction projects on leasehold land include cell phone towers, billboards and outdoor advertising. Given the leasehold interest of thirty or more years, billboards and cell towers are improvements to the land and considered  like-kind to a fee interest in other real property.

Leasehold Gray Area

As a general rule, leaseholds with a term of less than thirty years are not considered like-kind to real property. In private letter ruling 200842019, the Internal Revenue Service (IRS) stated in an exchange of leaseholds:

“ if the two leased locations vary in value or desirability or in lease terms, these are factors that relate only to the grade or quality of the properties exchanged and not to their kind or class.”

The IRS may be saying that a lease for less than 30 years may be like-kind to a lease of more than 30 years. In Everett v. Commissioner Internal Revenue, a timber lease for three and six years for rights to remove timber on 5,000 acres was exchanged for a ten year timber lease on 24,000 acres.