Private Letter Ruling 20074401F
Release Date - 11/2/2007
Newspaper Mastheads, Advertiser Accounts, and Subscriber Accounts Were Not Eligible Like-Kind Property
In FAA 20074401F, the Service concluded that exchanged newspapers' mastheads and advertiser and subscriber accounts were not like-kind property under Section 1031, because they were so closely related to the newspapers' goodwill and going-concern value.
Facts. A taxpayer exchanged one newspaper for another. In valuing the mastheads, the taxpayer used a residual method. It directly valued each exchanged newspaper's tangible assets, advertiser accounts, and subscriber accounts. It then subtracted the total of those values from the value of the newspaper, and allocated the difference to the newspaper's masthead.
The Service's appraiser valued the mastheads by using a market approach. It determined an average multiple from an SEC database, and applied this multiple to the operating profit of each of the exchanged newspapers, to compute the value of the newspaper's masthead.
Both the taxpayer and the Service used a discounted cash-flow method to value the advertiser and subscriber accounts. They projected the cash flow attributable to the accounts by estimating the growth rate of the revenue and the average life of active accounts. The appraisers made those projections based both on industry trends and the particular paper's financial information.
The taxpayer assumed the newspapers had no goodwill or going-concern value. The IRS valued goodwill and going-concern value using a residual method. It subtracted, from the value of each exchanged newspaper, the total value of the rest of the newspaper's assets and allocated the difference to goodwill and going-concern value.
IRS analysis. Under Section 1031(a)(1), no gain or loss is recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like-kind, which is to be held either for productive use in a trade or business or for investment.
Under Reg. 1.1031(a)-2(c)(2), goodwill or going-concern value of the exchanged businesses can never be like-kind property. The nature and character of the goodwill and going-concern value of a business are inherently unique and inseparable from the business.
A newspaper masthead may be characterized as both a trademark (i.e., used to identify goods and to distinguish a trademark owner's goods from those manufactured and sold by others) and a trade name (i.e., the name used to identify a business). In either case, because the masthead is closely related to (if not a part of) the goodwill and going-concern value of the newspaper, the Service held that the exchanged newspapers' mastheads were not like-kind property.
The Service also characterized the advertiser and subscriber accounts as closely related to goodwill, which is the expectancy of continued customer patronage. In addition, going-concern value, which is the value attributable to the ability of a business to continue functioning or generating income without interruption despite a change in ownership, is in part a function of both the advertiser accounts and the subscriber accounts. In this respect, the IRS could not distinguish the advertiser and subscriber accounts from trademarks and trade names. Therefore, the exchanged newspapers' advertiser and subscriber accounts were not like-kind property.
The taxpayer also made arguments based on Section 197, under which newspaper mastheads, advertiser accounts, and subscriber accounts are classified as intangibles separate from goodwill and going-concern value. The Service agreed but concluded that, because the mastheads, advertiser accounts, and subscriber accounts were so closely related to (if not part of) the newspapers' goodwill and going-concern value, none of these assets were like-kind property.
Implications. Taxpayers engaged in, or planning to engage in, Section 1031 like-kind exchange transactions involving intangible property need to be aware of the Service's position on the eligibility of certain types of intangible property. This FAA expands on the Service's determination in TAM 200602034 that trademarks and trade names are part of goodwill and going-concern value, and are not eligible to be exchanged under Section 1031. (See generally Alton and Weller, "New IRS Ruling Unveils Restrictive Approach to Like-Kind Exchanges of Intangibles," 104 JTAX 208 (April 2006).) In FAA 20074401F, the IRS expanded this position to include advertiser and subscriber accounts.
The Service has set forth this position despite the distinction of these intangible assets from goodwill and going-concern value under Section 197. Accordingly, the oft-debated issue of whether intangible assets are viewed as separate and distinct from goodwill and going-concern value has again become a matter of contention and discussion. The idea behind Section 197, and its utility in distinguishing eligible Section 1031 property, will have to be more carefully considered by the taxpayer. Taxpayers will have to more carefully examine all customer-based Section 197 intangibles, as the IRS could challenge their treatment as being separate and distinct from goodwill and going-concern value.
If the conclusions reached in the FAA are accepted by the IRS National Office (as the release is subject to review by National), newspaper publishers and other taxpayers will be discouraged from engaging in what might be, from a business viewpoint, beneficial exchanges of properties for other such properties. In addition, it is apparent that how the taxpayer's appraiser and the Service's appraiser chose to value these assets is one of the key elements. The residual method employed by the taxpayer blended the difference between the masthead trade mark and goodwill when the taxpayer assigned no value to goodwill and, therefore, it was easy for the Service to conclude they were one and the same.
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