Accounting for Pre-Transfer Development in Bramblett Transactions

Real estate developers commonly use so-called Bramblett transactions (reference is to a Fifth Circuit decision sanctioning the transactions) to bifurcate long-term capital gain and ordinary income on the disposition of property that begins as investment property and then converts to inventory. They bifurcate the gain by holding the property for investment in a tax partnership and then, when the property is ripe for development, causing the partnership to transfer the property to a related developer corporation in exchange for the corporation's promissory note. As the developer corporation develops and sells the property, it repays the note. Thus, Bramblett transactions allow property owners to lock in a portion of the gain from the sale of the property as capital gain and to defer that gain until a third party ultimately purchases the property and the developer corporation pays down the note to the investor partnership. Nonetheless, pre-transfer development threatens both the character of gain recognized by the investor partnership and the timing of the gain recognition. In particular, I.R.C. sections 453(g) and 1239 could undermine any Bramblett transaction that includes depreciable property. This article describes the potential pitfalls that these two provisions present and discusses ways to avoid the pitfalls