Is Your Home Sale Program IRS Compliant?

Posted on: June 29th, 2020 by Deidra

Given the risk of an adverse IRS audit… (Did that get your attention?)…it is more important than ever that companies re-examine their home sale programs, periodically, to ensure that, in light of the anticipated costs of taking homes into inventory, they are comfortable with the level of inherent risk they are taking.

A little over 30 years ago the IRS issued a landmark ruling on the tax issues associated with relocation programs.  Revenue Ruling 72-339 essentially held as the tax protection for a Guaranteed Buyout program allowing an employer to buy an employee’s home at its market value.  Under the Revenue Ruling the employer could lawfully avoid recognizing the costs associated with this acquisition and resale as compensation to the employee.  A key issue in this ruling was the complete independence of the purchase of the employee’s home and the sale to an outside or third-party buyer.

In 1985 the IRS issued a Private Letter Ruling (PLR 85-22002) expanding the scope to include Amended Value Sales. However, as the name suggests, it was a private ruling for the company requesting it and for two decades the industry had no Revenue Ruling upon which companies could rely. In response, the relocation industry developed a set of guidelines (the 11 Key Elements) aimed at establishing the appropriate procedures that would promote tax-protected status for Amended Value transactions.  In January 2004, the industry made a formal request for a ruling and on November 30, 2005, the IRS issued Revenue Ruling 2005-74.

In Revenue Ruling 2005-74, the IRS:

  • Reaffirmed that an Appraised Value buyout program was tax protected;
  • Confirmed the tax protection afforded by the Amended Value home sale program as described in the submission (which adhered closely to the 11 Key Elements (i.e., “Situation 2”);
  • Described a fact situation (referred to in the Ruling as “Situation 3”) which is essentially a seriously flawed Amended Value program, finding that it did not constitute two separate and distinct sales and lacked a number of the 11 Key Elements;
  • Made it clear that two deeds were not necessary from a Federal tax perspective.

Although the Ruling did not address the Buyer Value Option (BVO) specifically, the structural points in contention, other than an initial determination of value through appraisals, does not vary materially between properly constructed Amended Value and BVO transactions.  Furthermore, the BVO is triggered by an outside offer rather than the issuance of an appraised value offer causing the BVO to follow a more compressed time frame.

What the IRS Looks For

In audits conducted following the issuance of the Revenue Ruling, it is increasingly apparent that IRS examiners are clear on the elements that are necessary to demonstrate a tax-protected home sale program (either Appraised Value or Amended Value) and can now recognize those situations where a program falls outside Situation 2.  The client’s goal is to demonstrate that the program is inside Situation 2.  IRS auditors seem to be particularly hostile towards programs where the timing of the purchase of the employee’s home is designed to be very close to the sale with the outside buyer or contain other directives to shield the client from financial risk (i.e., cancelling the Amended Value Sale or BVO).

Balance of Risk                                                                             

The key for a client’s program is to determine what works for that client.  It’s obvious that the most tax-compliant programs tend to be the most expensive.  However, the planning opportunities come from the fact that the least expensive program need not be the least compliant.  They key for each client is finding where on the “risk continuum” chart they fall and where on the “cost continuum” they fall.  A “risk” discussion with your tax and legal advisors on a regular basis would be recommended.

Client’s electing to administer programs that deviate in any substantial way from Situation 2 in Revenue Ruling 2005-74 should consider that adherence to the 11 Key Elements is probably the best litmus test for tax compliance.  This list of procedures was designed to strengthen the tax case long before the IRS ruled on Amended Value programs, and the IRS ruling analyzed a case created by the industry based on these procedures.  Since 2005 the IRS has conducted numerous audits of both Amended Sales and BVO programs, paying particular attention to certain elements of the transaction.

Bottom Line to Relocation

Of critical importance:

  • are separating the two sales,
  • the actual sequence of events,
  • not relying heavily on inspections,
  • satisfying buyer contingencies prior to amending the sale, and most importantly,
  • the Amended Value Sale or BVO should not be cancelled if the sale to the outside buyer is not consummated.

A pattern of delaying possession of the home by the RMC increases the potential for an adverse IRS finding.  The risk of loss represented in an unconsummated sale, with the employee’s buyer, is exactly the kind of evidence the IRS seeks to substantiate a tax-compliant program.   Each client should therefore re-examine its home sale program—focusing principally on Amended Value and BVO transactions to avoid the possibility of unexpectedly having your program found not to be tax protected.  Ultimately, the question becomes one of risk tolerance for you and your advisors.  Those companies with high tolerance of audit risk (and low tolerance for inventory homes) may well decide to leave things as they are, while companies with a low tolerance for audit risk may wish to revise their programs to comply more closely with Situation 2 and the 11 Key Elements, acknowledging that they may be increasing their risk of taking on more inventory properties.

Lawrence Relocation is not intending to provide tax advice.  Clients should consult their own tax and legal advisors for advice on specific tax matters and risk aversion. 

Have questions or want to learn more about Lawrence Relocation Services, please contact Ginny Taylor, Director of Relocation Services, by email or by phone at 540-966-4550.