A related party includes a member of the exchanger's family, including but not limited to spouse, brother, sister, parent and child, as well as a corporation in which the exchanger owns more than 50% of the ownership interest, a partnership in which the exchanger owns more than 50% (either directly or indirectly) of the capital or profits of the partnership. [Section 1031(f)(1) and Section 707(b)]
An exchange, if bona fide, can be made between related parties. In R.R. 72-151, the IRS allowed the shareholder of a corporation to trade his property for property held by his wholly-owned corporation and qualify under Section 1031. The taxpayer in Mays v. Campbell, 246 F. Supp. 375 (N.D. Texas 1965) exchanged his property with an unrelated party who in turn sold the property to a corporation controlled by taxpayer's family and 1031 was held applicable. Likewise, in Coastal Tenninals, Inc. v. U.S., 320 F.2d 333 (4th Cir. 1963), Section 1031 was held to apply where an outsider exchanged property (which he had purchased from a subsidiary corporation) with the parent corporation. (C.f. Boise Cascade Corporation, 74,315 P-H Memo TC (1974).)
Special rules limit whether certain exchanges made between related parties are nontaxable. These rules affect both direct and indirect exchanges (Section 1031(f)(1)). Section 1031(f) requires gain or loss on an exchange between related persons to be recognized if either the party who transferred or the party who received the property subsequently disposes of the property within two years after the exchange. Any gain or loss realized by a taxpayer because of this rule is deemed to have occurred on the date of the disposition. Thus, the exchanger is not required to amend his return for the year of the original exchange. Basis adjustments are also made as of the date of disposition.
In a tax court case, Paul Serdar, TC Memo 1986-504, the taxpayer allowed his son to live in property acquired in an exchange at below-market rent. The IRS took the position that that the property was not held for productive use or for investment purposes. In dicta, the court noted that when a property is acquired for dual purposes such as to provide a residence for relatives and for investment, the property would qualify for Section 1031 treatment if the primary motive is investment, which is a question of fact. Please note that a taxpayer is considered as having used a property for personal use if it is used as a dwelling unit by the taxpayer, by a person with an ownership interest in the property, or by a family member of the owner (Section 280A(d)(2)(A)); however, the taxpayer is not treated as using the property for personal use if it is rented, at a fair market rental, to any person for use as a principal residence (section 280A(d)(3)(A)).