Every year thousands of tax filers, and likely, their tax preparers, are dealing with tax issues related to relocation payments received for relocating a business or household from public projects where the government agency is using eminent domain and condemnation. As an eminent domain relocation consultant, my clients frequently bring up tax issues related to relocation payments, or reimbursements. Based on their comments, some tax preparers treat relocation payments as a 1033 exchange; some treat them as non-income; while others treat them as ordinary income.
Until recently, answers to tax issues related to relocation payments have been eluding me for 20 years. A few years back I called the IRS for answers. After nearly an hour on the phone with the agent grasping for answers, but not finding any, I heard a sneeze and a click. I was “accidently” disconnected. More recently, I quizzed nearly everyone I know working in the eminent domain field for a connection to someone that knows, only to find leads to dead ends.
Below are quotes from the Federal Uniform Relocation and Acquisition Act (URA) and the IRS, which cause me and others to ask more questions. I included an example of a project raising specific tax questions, and lastly are some common questions I’ve heard over many years from many clients.
All relocation programs for public projects using federal funding are based on the (URA) and include the following language, “No relocation payment received by a displaced person under this part shall be considered as income for the purpose of the Internal Revenue Code of 1954, which has been re-designated as the Internal Revenue Code of 1986 (Title 2, U.S. Code).” This leads to the IRS code which states, “42 USC § 4636 – PAYMENTS NOT TO BE CONSIDERED AS INCOME FOR REVENUE PURPOSES OR FOR ELIGIBILITY FOR ASSISTANCE UNDER SOCIAL SECURITY ACT OR OTHER FEDERAL LAW.” The language in these two items would lead one to believe that relocation payments are not income and therefore non-taxable.
Following is a brief, common, and recent example of a situation that further complicates this issue. On a public project using eminent domain and following the URA, we successfully argued that certain pieces of equipment should be reclassified as personal property and eligible for relocation payments, which includes an optional payment for abandonment of the personal property. The public agency had earlier classified these items as immovable fixtures, which would leave the items ineligible for relocation payments, and only eligible for smaller payments, which were based on their depreciated real property value. The relocation payments received for these items reclassified to personal property where significantly higher.
To emphasize the magnitude of this tax issue on a business, this client received a payment from the public agency for abandoning several million dollars’ worth of the personal property. Abandoning personal property is part of the relocation benefits program; therefore, these payments along with payments made for relocating other personal property are considered relocation payments. Taking the language from the URA and IRS at face value, one would believe these payments are not considered as income, thus non-taxable. Is that a reasonable belief?
The tax issues for relocation payments raises some common concerns and questions, such as; treating relocation payments as a 1033 exchange leaves the possibility of a taxable event in the future, which seems contrary to the IRS code mentioned above. In addition, personal property does not seem to fit within the scope of the 1033 exchange. For tax purposes, should payments for abandoned personal property be treated different from relocated personal property, even though both payments are considered relocation payments and presumably non-taxable?
We spend a lot of time analyzing and planning to improve the outcome of our client’s relocation efforts, however, tax planning has been a missing component within those efforts. I have recently discussed these matters with tax advisors with experience in these situations and found that handling them is somewhat specific to the situation, therefore, if you contact me, I would be happy to refer you to them.
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