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Revenue Ruling 80-175, 1980-2 CB 230

REV-RUL, Nonrecognition of gain; timber damaged by storm; voluntary sale., Rev. Rul. 80-175, 1980-2 CB 230, (Jan. 01, 1980)

Section 1033.--Involuntary Conversions

26 CFR 1.1033(a)-2: Involuntary conversion into similar property, into money or into dissimilar property.

[IRS Headnote] Nonrecognition of gain; timber damaged by storm; voluntary sale.--
The nonrecognition of gain provisions of section 1033(a) of the Code are applicable to proceeds received from the voluntary sale of timber downed by high winds, earthquake, or volcanic eruption when the proceeds are used to purchase other standing timber; Rev. Rul. 72-372 revoked.

ISSUE

Reconsideration has been given to Rev. Rul. 72-372, 1972-2 C.B. 471, which deals with the application of the nonrecognition of gain provisions of section 1033(a) of the Internal Revenue Code with respect to the proceeds received from a sale of timber downed by high winds.

FACTS

In Rev. Rul. 72-372 the taxpayer was the owner of timberland. As a result of a hurricane, a considerable number of trees were uprooted. The timber was not insured, and once downed, was subject to decay or being rendered totally worthless by insects within a relatively short period of time. The taxpayer was, however, able to sell the damaged timber and realized a gain from such sale. The proceeds of the sale were used to purchase other standing timber.

Rev. Rul. 72-372 holds that a gain from a voluntary sale of such timber under these circumstances does not qualify for nonrecognition of gain under section 1033(a) of the Code because there was no direct conversion into money nor was such sale precipitated by the threat or imminence of requisition or condemnation.

LAW AND ANALYSIS

Section 1033(a)(1) of the Code provides rules under which no gain is to be recognized where property is compulsorily or involuntarily converted into property similar or related in service or use to the property so converted. Section 1.1033(a)-1(a) of the Income Tax Regulations provides that an involuntary conversion may be, among other things, the result of the destruction of property in whole or in part.

Section 1033(a)(2)(A) of the Code provides for the nonrecognition of gain if property is involuntarily converted into money and that money is invested within a specified period of time, in other property similar or related in service or use to the property so converted.

Section 1033(a)(2)(B) of the Code states the time period within which converted property must be replaced. That time period commences with the date of the disposition of the converted property. The term "disposition of the converted property" is defined by section 1033(a)(2)(E)(ii) to mean the destruction, theft, seizure, requisition, or condemnation of the converted property, or the sale or exchange of such property under threat or imminence of requisition or condemnation.Thus, the term "disposition of the converted property" is defined for the purpose of establishing the beginning of the replacement period and not for the purpose of defining the term "involuntary conversion." Section 1.1033(a)-1(a) of the regulations defines the latter term to include the destruction of property. In the present case, the taxpayer's property was destroyed by a hurricane.

In S. H. Kress and Co. v. Commissioner, 40 T.C. 142, 153 (1963), acq., 1965-1 C.B. 4 the Tax Court of the United States stated that the basic purpose of section 1033 of the Code is to allow the taxpayer to replace his property without realization of gain "where he is compelled to give up such property because of circumstances beyond his control." In S & B Realty Co. v. Commissioner, 54 T.C. 863, 871 (1970), acq., 1970-2 C.B. xxi the court stated that "When Congress enacted sections 214(a)(12) and 234(a)(14) of the Revenue Act of 1921 [the predecessors of section 1033] it obviously intended to grant a measure of tax relief to those who were compelled by the specified circumstances to convert their property into cash." The involuntary conversion provisions allow recognition of gain to be postponed on the theory that the taxpayer was compelled to dispose of property and had no economic choice in the matter. The taxpayer in the instant case was compelled by the destruction of the timber to sell it for whatever the taxpayer could or suffer a total loss. Consequently, the facts of this case place it within the ambitof those circumstances contemplated by the provisions of section 1033.

Both the Internal Revenue Service and the Tax Court have considered this application of section 1033(a) of the Code to sales of property not threatened by requisition or condemnation. Rev. Rul. 54-395, 1954-2 C.B. 143, holds that any gain from the sale of poisoned cattle at salvage value or in settlement of damage claims against manufacturers of contaminated feed pellets was subject to the involuntary conversion relief provisions. In Masser v. Commissioner, 30 T.C. 741 (1958), acq., 1959-2 C.B. 5 the court considered this application of section 1033 to a sale of property that was part of an economic unit, a portion of which was sold under threat of condemnation. It found that the sale of both pieces of property constituted an involuntary conversion because it was no longer practical to use the remaining property for the purpose intended.

The present case and Masser share three common features. First, an event specified by the statute as one that may result in an involuntary conversion occurred. Second, that event rendered the property unfit or impractical for its intended use. Third, the property was sold and the proceeds invested in similar property. Furthermore, the argument for applying section 1033 of the Code to the instant case is stronger than in Masser. In the instant case, the property sold was the very property directly affected by the casualty while in Masser the property sold was only indirectly affected by the condemnation.

In C. G. Willis, Inc. v. Commissioner, 41 T.C. 468 (1964), the court considered the application of section 1033 of the Code to the proceeds from the sale of a partially damaged ship. The ship was repairable; however, the owners chose to sell the ship (at a gain) rather than make the necessary repairs. The proceeds from the sale, along with the insurance proceeds for the repair cost, were invested in a barge that would cover the same ports and carry the same kind of cargo as the damaged ship. The ship owners claimed nonrecognition treatment for this transaction under the provisions of section 1033(a).

In denying the claim for nonrecognition treatment, the court stated that "Involuntary conversion, within the meaning of section 1033(a) of the Code, means that the taxpayer's property, through some outside force or agency beyond his control, is no longer useful or available to him for his purposes." The court concluded that "It cannot be said that the sale of the unrepaired ship was a result of its partial destruction. The sale was the result of a business decision by the owner that the money equivalent of the unrepaired ship would serve its business interests better."

In the present case, the downed timber was not repairable and was generally no longer useful to the taxpayer in the context of its original objective. The destruction caused by the hurricane forced the taxpayer to sell the downed timber for whatever price it could get. Unlike the situation in Willis, the sale of the downed timber was dictated by the damage caused by the hurricane.

HOLDING

Upon reconsideration of Rev. Rul. 72-372, and in light of the court decisions cited above, it is now the Service's position that the nonrecognition of gain provisions of section 1033(a) of the Code are applicable with respect to the proceeds received from the sale of timber downed by high winds. The same treatment would be accorded if, for example, the timber in question was downed as a consequence of an earthquake or a volcanic eruption.

EFFECT ON OTHER DOCUMENTS

Rev. Rul. 72-372 is revoked.