Deconstruction or Demo?

Question

I am in the process of subdividing a lot and building 2 new homes. It was brought to my attention that deconstruction could more than pay for itself with the tax deduction. But this is $30k more expensive than demoing. If I model this with tax software as a donation it does more than pay for it, but my builder just told me that for a spec home that I immediately sell after construction, the deconstruction benefit only changes the basis on the sale and won't be as beneficial as a donation deduction.

I do plan to have a CPA do the taxes for this project next year, but don't have a CPA now and don't have the time to find one before the project starts.

So, deconstruct or demolish?

Brandon Hall · Answer

Account Closed will you please please please make sure BP doesn't delete these links :)

Have you thought about donating to the local fire department instead?

Brandon Hall · Answer

@Mark Caragio The donation will be recorded on schedule A and will not be a factor in the spec build.

You have an interesting though for two reasons.

(1) you have a capital asset (not ordinary income as I stated earlier) meaning you can write off the fair market value of the materials. How you plan to determine fair market value may cause a significance difference in the amount you write off. For instance, you estimate the donation is going to be $130k but is that factoring in your original cost basis or is that factoring in the fair market value of the property today? Make sure you understand the appraiser's methods. For instance, if you could sell the home today for $200k and the land is worth $30k, then the materials are arguably $170k less land improvements and foundational components. So just make sure you are getting the full value of your materials and that the calculations make sense.

(2) you want to do a 1031 but I'd be very cognizant of the fact that if you do not demonstrate investment intent, you are disbarred from 1031s. So the question is: how are you going to demonstrate investment intent on a spec build? Intent can change over time, so understand that if ever audited, the IRS may take the stance that you were not building with investment intent and rather meant to spec build as a business. Definitely have a good team of advisors surrounding you on this. You need a CPA, attorney, and 1031 specialist. We can likely demonstrate investment intent if we are proactive about it.

Brandon Hall · Answer

@Mark Caragio I don't doubt you. My job is to educate my clients and help them structure it in a way to stand up under audit.

We can claim investment intent all day but that doesn't mean the IRS will agree :)

Jeff Rabinowitz · Answer

@Brandon Hall, thank you for mentioning the possibility of donating the property to the fire department. This is a way that one can do well by doing good. I did it and it was truly appreciated by the firefighters. Here is a link to my blog story about it: I Burned My House To The Ground.

Manolo D. · Answer

Account Closed There you go, from the posts above, it is an IRS issue and not related into the development itself. I wouldn't know anything about donating and getting a good rebate on it. I am not sure if the 130k donated materials will come out as 130k rebate/donation in reality, but for sure, this will substantially increase demolition costs, easy 30k demolition instead of 5-15k, salvaging materials are never easy, but it is easy to drive a bobcat and run them around like there is no house there.

Account Closed · Answer

@Manolo D., deconstruction for tax advantages is a first for me too... in these parts (around the greater DC area) older, smaller houses are being torn down with frequency to build newer, larger ones, and I've yet to dismantle one (nor have I seen any others do it).  If there's real meat on those bones, I'm curious why it's not happening around here.

We've explored donating copper and other potentially valuable parts of houses to those who'll take it, but they won't perform the removal and the cost to extract these things and have them "curbside" didn't pan out.

@Brandon Hall, can you shed any light on this subject?

@Mark Caragio - while deconstruction may indeed be viable from a tax perspective, are there organizations (I presume they'd have to be an IRS compliant charitable organization) in your area who will receive the materials from you?  Do you have asbestos or lead paint to contend with?  As well, what materials do you have in mind that could be salvaged that would produce a net gain greater than $30K?

Jeff Rabinowitz · Answer

I absolutely agree with @Justin R.. A house is more than a pile of sticks, and bricks, and pipes. Anyone trying to value the land by subtracting it from the appraisal of the house may also run into problems with the IRS. In my fire donation scenario I was warned that the IRS might reject my donation if I did not have an appraisal of the vacant land by itself. It was difficult (and a bit expensive) to find an appraiser who would do that appraisal because the house was in an area that did have many comps for vacant land. When I submitted my tax return for the year of the donation it included a full appraisal of just the land plus a full appraisal of the house and land together. We took the difference between the two appraisals as the value of the donation.

Mark Caragio · Answer

K...and my scenario will be more than intent.  It is demonstrable that it has been rented for the last 7.5 years, and we will rent out the replacement home.  Not sure how the IRS could interpret any other way (assuming we do indeed rent out the replacement home).

Deconstruction or Demo?

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