New York’s Assault on Real Property
Last month, New York’s governor announced that the State’s FY 2027 budget will include the enactment of an annual surcharge on second homes[i] in New York City that are valued at $5 million or more.[ii]
Query how much greater the city’s deficit must be before the $5 million threshold is reduced to $4 million, or maybe less? As some of you will appreciate, once the administration of a tax has been implemented, it doesn’t require much effort to expand its coverage, especially in the hands of a spendthrift government.
On the same day as the governor’s announcement, at a Tax Day public forum, the mayor of New York City asserted that,
“For all of the discussion of the imagined exodus that would take place were we to tax the wealthiest New Yorkers by the appropriate amount – I say imagined because before I was a mayor I was a state legislator, and I was part of an effort to increase taxes on millionaires at that time – we were told the same thing then – and what we find now is that we have more millionaires today than we did at that time even after having passed that tax.”
Later that day, the mayor gleefully posted[iii] the following on social media: “When I ran for mayor, I said I was going to tax the rich. Well, today, we’re taxing the rich.”[iv]
He described the pied-à-terre tax as “an annual fee on luxury properties . . . whose owners do not live full-time in the city.” Among others, that would include folks living elsewhere in New York State.[v]
This tax, he stated, “is designed for the “richest of the rich,” those who “store their wealth in New York City real estate but who don’t actually live here.”[vi]
What’s wrong with holding real property for investment? Or as a hotel substitute? I’m sure the real property taxes on a luxury apartment are substantial whether one lives there or not.
“This is a fundamentally unfair system,” the mayor continued, “that hurts working New Yorkers,” though he didn’t elaborate how it does so. “Now, it’s coming to an end.”
Query how many individuals domiciled elsewhere but working in the city will now decide against the purchase of a city apartment, thereby depriving the city of an opportunity to tax them as statutory residents.[vii]
“As mayor, I believe everyone has a role to play in contributing to our city, and some a little bit more than others,” the mayor said.
Last week, Albany announced that it would be imposing a new 1% tax on certain purchases of residences in New York City. Specifically, where such a residence – whether a primary residence or a second home – is acquired in an all cash deal for over $1 million, the purchaser will be required to pay a special tax equal to 1% of the purchase price.[viii]
Query at what point this tax will be extended to cover such purchases occurring anywhere in the state.
The Assault on the Rich
Considering the individuals targeted by the foregoing taxes, it would be fair to describe them as proxies for an income tax – it’s just that the governor can’t call them that in an election year.
Still, these levies likely represent a first step toward increasing the income tax burden on wealthier[ix] New Yorkers, generally, including those who reside in the city.
The Legislature certainly supports such an increase, as it has for years, and not only on the rich – whatever that means – but also on business. Interestingly, Albany has generally very receptive to the mayor’s openly hostile stance toward these taxpayers, which may be attributed in part to grassroots pressure, as a growing majority of Democrats, statewide, support increasing the tax obligations of the rich.
In light of the foregoing, some of the residents targeted by the mayor’s and the Legislature’s efforts may decide to join many others who have already departed New York for jurisdictions with tax- and business-friendlier environments. To further support the abandonment of their New York domicile, and to avoid what will likely be an increasingly challenging tax regime, many of these individuals may decide to dispose of their interests in New York real property.
Even nonresidents with investments in the state, including real estate, may decide to “relocate” some of their assets to protect them from what the mayor’s and the Legislature’s tax plans.
In either case, these individual taxpayers will have to plan their departures carefully, which includes understanding and quantifying the income tax cost arising from any disposition of New York real property in which they have an interest.
Determining New York Income Tax
You probably know that New York’s personal income tax law conforms with the federal system of income taxation.[x] The reason typically given for such conformity is to simplify tax return preparation, improve compliance and enforcement, and aid in interpretation of the tax law.[xi]
Significantly for purposes of this post, New York’s calculation of a resident individual’s state income tax liability begins with the taxpayer’s federal adjusted gross income – including, of course, the gain from the sale of real property, regardless of its location – which is then modified by certain additions and subtractions reflecting New York’s unique tax treatment of certain items.[xii]
Nonresident
Likewise in the case of nonresident individuals. New York imposes an income tax on the taxable income of a nonresident individual that is derived from New York sources. In general, the nonresident’s taxable income is determined as if they were a resident; i.e., it conforms to federal law. A base tax is calculated on this income, and then multiplied by the nonresident’s “New York source fraction,” with the numerator being the nonresident’s New York source income and the denominator being such individual’s New York adjusted gross income determined as though they were a resident.[xiii]
Intangible Property
Under New York’s tax law, income derived by a nonresident from intangible personal property, including, for our purposes, gains from the sale or exchange of such property – such as stock in a corporation, a partnership interest, or a membership interest in an LLC that is treated as a partnership for tax purposes – generally constitute income derived from New York sources only to the extent that the intangible property was employed in a trade or business carried on in the state.
In the absence of such usage, the gain from the disposition of such an intangible is treated as sourced outside New York and, so, it is not taxable by the state.[xiv]
Real Property Holding Company
Among the items of income, gain, loss and deduction derived from or connected with New York sources are those items attributable to the ownership of an interest in real property located in the state; for example, a fee interest.
However, the term “real property located in the state” also includes (i) an interest in a partnership, (ii) LLC, (iii) S corporation, or (iv) non-publicly traded C corporation with one hundred or fewer shareholders, (v) that owns real property that is located in New York,[xv] (vi) the aggregate fair market value of which equals or exceeds fifty percent of all the assets of the entity on the date of the sale or exchange of the nonresident taxpayer’s interest in the entity (a “real property holding company”).[xvi]
The gain arising from a nonresident taxpayer’s sale or exchange of an interest in a real property holding company, which is treated as having been derived from New York sources, is (a) the total gain for federal income tax purposes from that sale or exchange (b) multiplied by a fraction, (i) the numerator of which is the fair market value of the real property located in New York on the date of the sale or exchange, and (ii) the denominator of which is the fair market value of all the assets of the entity on the date of the sale or exchange.
Other Partnership/LLC Interests
A nonresident’s gain from the sale of exchange of an interest in a partnership, or in an LLC that is treated as one, but that is not a real property holding company, may also be taxable in New York when: (1) the nonresident transferor recognizes a gain on the sale of the partnership interest for federal income tax purposes; (2) the transferee treats the purchase of the partnership interest as a purchase of partnership assets; (3) the assets (including any real property) acquired by the transferee constitute a trade or business; and (4) the transferee’s basis in the transferred assets is determined wholly by reference to the consideration paid, or deemed paid, by the transferee.[xvii]
In that case, any gain recognized on the sale or exchange that satisfies the above criteria may be treated as New York source income allocated in a manner consistent with the applicable methods and rules for allocation in the year that the assets are deemed to have been sold or exchanged (the residual method).[xviii]
A sale or transfer of a partnership interest that causes the partnership to have only one member, thereby terminating its status as a partnership for tax purposes[xix] is considered a transaction subject to the above-referenced allocation provisions and may result in New York source gain.[xx]
However, if the interest sold by the nonresident is in a partnership that is engaged only in passive investment activities, which may include the ownership of real property – i.e., its activities do not constitute a trade or business – then the above New York sourcing rule does not apply, and the nonresident’s sale of the interest should be treated as a non-taxable sale of an intangible.
Section 754 Election
What about the sale or exchange by a nonresident of an interest in a partnership that has elected to adjust the “inside” basis of its property with respect to the transferee?[xxi] Should this adjustment be equated with the sale and purchase of such property?
Generally, in the case of such an electing partnership, the adjustment is determined, in part, by reference to the transferee’s “outside” basis for the partnership interest acquired.[xxii] Where the assets of the partnership constitute a trade or business, then the partnership must use the residual method for purposes of determining the fair market value of certain intangibles.[xxiii]
However, the foregoing sourcing rules do not apply to the gain from the sale of an interest in a partnership that, solely on account of its having a Section 754 election in effect, adjusts the purchaser’s inside basis for the partnership’s assets, including its real property; in other words, the gain from the sale of the interest should be respected as the sale of an intangible.[xxiv]
Thus, assuming the entity is not a real property holding company and continues to be treated as a partnership for tax purposes after the transfer in question, the nonresident’s gain from the transfer of the partnership or LLC interest will be treated as sourced outside New York.
Section 338(h)(10) Election
In addition, if the shareholders of an S corporation have agreed to elect to treat their stock sale as a sale of assets by the corporation, followed by its liquidation,[xxv] then any gain recognized on the deemed asset sale for federal income tax purposes will be treated as New York source income allocated in a manner consistent with the residual allocation method referenced earlier.[xxvi]
However, the nonresident shareholder’s exchange of their S corporation stock as part of the deemed liquidation following the corporation’s deemed sale of its assets, shall be treated as the disposition of an intangible asset by its shareholders, and will not increase or offset any gain recognized on the deemed asset sale resulting from the election.[xxvii]
In the absence of such an election, and assuming the S corporation is not a real property holding company, the nonresident’s gain from the sale of the S corporation stock – an intangible – will be treated as sourced outside New York.
Like Kind Exchange
As you already know, the Code allows for non-recognition of gain upon a taxpayer’s sale of certain real property. Specifically, it provides for the deferral of gain from the sale of real property (the relinquished property) that was held by the seller-taxpayer for investment or for “productive use” in a trade or business when such real property is exchanged for other real property of like-kind to be held by the taxpayer for such a purpose (the replacement property).[xxviii]
Deferral is accomplished by requiring the selling taxpayer to carry over its basis in the relinquished property[xxix] to the like-kind property for which the relinquished property is exchanged (replacement property), thereby preserving in the replacement property the gain then-inherent in the relinquished property.[xxx]
Exchange NY for Non-NY Real Property
A recent decision by New York’s Division of Tax Appeals[xxxi] considered whether a New York LLC, which was treated as a partnership for tax purposes, had established that no taxable gain resulted from a transaction that the LLC reported as a like-kind exchange.
The members of the LLC were individuals who resided in New York City or elsewhere is New York State.
The LLC owned real property in Brooklyn (the NY Prop). After operating it as a rental for about 15 years, the LLC decided to sell the real property as the first step in a tax-deferred like kind exchange.[xxxii]
Thus, the LLC (i) entered into a contract for the sale of the NY Prop to an unrelated party, (ii) entered into an exchange agreement with a qualified intermediary (QI), (iii) assigned the sale contract to the QI, (iv) sold the NY Prop (the relinquished property), (v) timely identified replacement real properties, (vi) entered into an agreement for the purchase of one of the identified properties, which was a real property in Las Vegas, Nevada (the replacement property; the Vegas Prop) from an unrelated party, (vii) assigned the purchase contract to the QI, and (viii) acquired the Vegas Prop to complete the like kind exchange.[xxxiii]
New York audited the LLC’s tax return. The initial scope of the exam was to verify how the capital gain from the sale of the NY Prop was computed and reported at the New York State and federal levels. During the audit, the LLC produced documentation to verify the like-kind exchange, as well as the various expenses and closing costs the LLC claimed in connection with the transaction, including New York City real property transfer tax and New York State real estate transfer tax.
After completing the audit of the LLC’s New York partnership tax return,[xxxiv] the state’s Dept. of Taxation and Finance concluded that the LLC had engaged in a valid like-kind exchange.[xxxv] However, the Dept. disallowed certain costs that were claimed in connection with the sale of the NY Prop. As a result, the exchange produced taxable boot that flowed through to the LLC’s members based on their ownership interests.
The members of the LLC timely filed petitions with the Division of Tax Appeals in protest of the notices of disallowance. Before addressing the disallowed costs referenced above, the ALJ observed that both parties agreed that the LLC’s exchange qualified as a tax-deferred like-kind exchange.
For purposes of this post, our interest in the LLC’s exchange ended with New York’s acceptance of the LLC’s exchange of the NY Prop for the Vegas Prop as a tax deferred like kind exchange. Stated differently, New York respected the transaction as a tax-deferred exchange notwith-standing the relinquished NY Prop was replaced with the Vegas Prop.[xxxvi]
Post-Exchange Sale
Does that mean New York will not seek to tax the gain arising from a future taxable sale of the non-New York replacement real property?[xxxvii]
If the taxpayer was a resident of New York at the time of the sale, and remained a resident when the replacement property was sold in a taxable transaction, then the taxpayer would be required to include the entire gain recognized in their New York gross income.[xxxviii]
What if the taxpayer was a nonresident of New York? In that case, the gain recognized on the subsequent sale of the non-New York replace-ment property would not be subject to New York tax because the gain would be sourced outside the state; hopefully, in a state with a lower tax rate. The fact that the gain deferred as a result of the earlier like-kind exchange accrued in New York is of no consequence.
Claw Back?
Although New York has, over the years, contemplated the enactment of a “claw back” rule – pursuant to which the state may tax that portion of the gain from the taxable sale of a replacement property which accrued in New York up to the time of the like kind exchange – it has not done so, at least not yet.[xxxix]
California adopted such rule in 2014. The state enforces the rule by requiring the exchanger to file an information return[xl] every year until the replacement property is sold in a taxable transaction. If the exchanger fails to file, the state may assess the tax on the deferred gain.
Exit Tax on Change of Domicile
If a New York resident sells an interest in New York real property in exchange for an installment obligation[xli] and, before all the gain realized on the sale is recognized, the taxpayer “successfully” changes their domicile to another state, the as-yet unrecognized gain will be treated as having been recognized by the taxpayer on their last day as a resident of the state.[xlii]
What if the taxpayer was a New York resident at the time they sold a relinquished New York real property, and acquired a replacement property outside the state to complete the like kind exchange, but subsequently abandoned their New York domicile and succeeded in establishing a new domicile in another state?[xliii]
Specifically, will the former resident be required to include on their “final” New York return the amount of gain that accrued in the relinquished or replacement property prior to their change of status?[xliv]
The answer is “no.” Although New York requires a departing resident to accrue to their period of residence any items of gain accruing prior to their change of residence status, this rule applies only if such gain was not otherwise properly includible for New York income tax purposes for such period under the taxpayer’s method of accounting (usually, the cash method in the case of an individual); for example, the unrecognized gain from the sale of property in exchange for an installment obligation.
Thankfully, the like-kind exchange rule is not an accounting method but, rather, a gain deferral rule.[xlv]
Parting Thoughts
As a candidate, the mayor stated publicly that the city would “use every single tool at [its] disposal, including seizing buildings from slumlords,” – i.e., those whom he determines are bad landlords – “to ensure that each and every New Yorker is given what is their right, a safe place to call their home.”
More recently, he threatened to raise property taxes by 9.5% if Albany failed to tax the wealthy, or otherwise bail the city out of its financial straits.
He took control of the Rent Guidelines Board with the stated goal of freezing rents and increasing regulation of many multi-resident buildings.
The pied-à-terre tax and the tax on all-cash purchases of residences may be described as “minor” manifestations of his overall tax goals.
He still hopes to impose an increased 5.88% income tax on city residents earning more than $1 million annually (up from 3.875%), increase the corporate tax rate to 11.5% (up from 7.5%), limit the Pass-Through Entity Tax (PTET) credit to a 75% rebate, and increase the unincorporated business tax rate from 4% to 4.4% for businesses with more than $5 million of income.
Although most of the foregoing requires Albany’s cooperation, the Legislature is eager to help, and at some point the governor will relent to the increasing pressure.
The only topic missing in the discussions to be had is the reduction of costs and the elimination of waste.
In other words, an individual who falls within the targeted population of taxpayers should at least start to plan for their potential departure from New York. If New York real property represents a significant asset in the hands of such a taxpayer, it would behoove them to review the points raised earlier in this post and to consider whether any structural changes may be advisable.
The opinions expressed herein are solely those of the author(s) and do not necessarily represent the views of the firm.
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[i] I.e., residential properties that are not used as a primary residence.
[ii] The so-called “pied-à-terre tax.” How much greater must the deficit be before the $5 million threshold is reduced to $4.5 million, or maybe less? Once a tax is implemented, it doesn’t require much to expand its coverage, especially in the hands of a spendthrift (socialist) government.
[iii] Self-satisfied smirk included.
[iv] In case you don’t recall the mayor’s victory speech: “We will put an end to the culture of corruption that has allowed billionaires… to evade taxation and exploit tax breaks.” Yes, he said “evade.”
It’s worth a gander; after all, it’s not every day someone quotes Eugene Debs, the 5-time candidate of the Socialist Party for President. For good reason. https://www.theguardian.com/us-news/2025/nov/05/zohran-mamdani-victory-speech-transcript.
[v] I wonder how much of the state income tax paid by these individuals or their businesses contributed to the $4 billion cash infusion the governor promised to the mayor to help him out with the city’s budget deficit.
[vi] Under his reasoning, it is unfair that the city cannot impose an income tax on those individuals who make their wealth in the city by working there. Many of you may remember when the city’s authorization to impose the nonresident earnings tax was repealed in 2000.
[vii] Defined as an individual who is not domiciled in the city, but who (1) spends more than 183 days in the city during the taxable year and (2) maintains a “permanent place of abode” in the city for substantially all of the year.
[viii] There are similarities to the mortgage recording tax.
[ix] Whatever that means.
[x] New York’s Tax Law provides that: “Any term used in this article shall have the same meaning as when used in a comparable context in the laws of the United States relating to Federal income taxes, unless a different meaning is clearly required but such meaning shall be subject to the exceptions or modifications prescribed in this article or by statute.” N.Y. Tax Law 607(a). Consistent with the foregoing, a taxpayer’s taxable year and accounting method for purposes of the Tax Law are the same as for Federal income tax purposes. N.Y. Tax Law Sec. 605.
However, New York’s Tax Law does not conform to the Code in all respects. Indeed, there are a number of instances in which New York has chosen to “decouple” from specific provisions or amendments of the Code.
[xi] In furtherance of this policy of conformity, as the Code is amended by Congress, New York automatically adopts the federal changes. So-called “rolling conformity.”
[xii] Start with IRC Sec. 62, then look to Tax Law Sec. 612(a), (b) and (c).
[xiii] NY Tax Law Sec. 601(e) and Sec. 631.
[xiv] Of course, in determining the New York source income of a nonresident partner of any partnership, there shall be included the portion derived from or connected with New York sources of such partner’s distributive share of items of partnership income, gain, loss and deduction entering into his federal adjusted gross income. NY Tax Law 632(a)(1).
[xv] NY Tax Law Sec. 631(b)(1)(A); TSB-M-09(5)I.
[xvi] An anti-abuse, anti-stuffing rule provides that only those assets that the entity owned for at least two years before the date of the sale or exchange of the nonresident’s interest in the entity are to be used in determining the fair market value of all the assets of the entity on the date of sale or exchange.
[xvii] NY Tax Law Sec. 632(a)(1); TSB-M-18(2)I.
[xviii] NY Tax Law Sec. 632(a)(1); IRC Sec. 1060.
[xix] Rev. Rul. 99-6. IRC Sec. 708(b)(1)(A). After the sale or transfer, the LLC is treated as a single-member disregarded entity for federal tax purposes.
[xx] Except as otherwise stated, the term partner, as used in this post, also includes a member in the case of an LLC classified as a partnership for income tax purposes; the term partnership interest also includes a membership interest in the case of an LLC classified as a partnership for such purposes.
[xxi] IRC Sec. 754, Sec. 743, Sec. 755.
[xxii] In general, the cost basis, which includes not only amount of cash and the fair market value of other property given in exchange for the interest, but also the amount of partnership liability allocated to the transferee immediately after the transfer.
[xxiii] IRC Sec. 755, Sec. 1060; Reg. Sec. 1.755-1(a)(2), Sec. 1.1060-1(a)(1). The “residual method” described in Reg. Sec. 1.338-6 and 1.338-7.
[xxiv] According to TSB-M-18(2)I, a sale or transfer of a partnership interest to which IRC Sec. 1060(d) applies is not considered a transaction subject to the provisions of IRC Sec. 1060 for purposes of applying NY Tax Law Sec. 632(a)(1). IRC Sec. 1060(d) refers to IRC Sec. 755, which provides rules for the allocation of the basis adjustment arising from the sale of an interest in a partnership that has a Sec. 754 election in effect.
[xxv] A joint election under IRC Sec. 338(h)(10) with the buyer of the stock, or a unilateral election under IRC Sec. 336(e).
[xxvi] NY Tax Law Sec. 632(a)(2); TSB-M-18(2)I.
[xxvii] Think of FIRPTA’s cleansing rule.
[xxviii] IRC Sec. 1031. Where a taxpayer in a like-kind exchange continues their investment in the same kind of property, the taxpayer realizes only a “theoretical profit.” Therefore, “in equity,” they should qualify for nonrecognition treatment.
[xxix] Basically, its unrecovered investment in the property.
[xxx] IRC Sec. 1031(d). See IRS Form 8824, Part III for the basis calculation. However, a portion of gain is recognized in a like-kind exchange transaction if non-like-kind property, such as cash, is received in addition to the replacement like-kind property received. IRC Sec. 1031(b).
[xxxi] Determination DTA No. 850080 thru Determination DTA No. 850092.
[xxxii] Under IRC Sec. 1031.
IRC Sec. 1031 is an exception to the general rule requiring recognition of gain or loss on the sale or exchange of property. See IRC Sec. 1001(c); Reg Sec. 1.1002-1(a). Under IRC Sec. 1031(a)(1), “[n]o gain or loss shall be 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.” Recognition of such gain or loss is only deferred, however, as the taxpayer must carry over its basis in the transferred (relinquished) property to the like-kind property for which it is exchanged (the replacement property). See IRC Sec. 1031(d).
[xxxiii] See Reg. Sec. 1.1031(k)-1.
[xxxiv] Form IT-204, Partnership return and related forms.
[xxxv] The ALJ noted that the parties did not dispute that the LLC engaged in a valid like kind exchange. The ALJ did not take issue with the parties’ agreement on this count.
[xxxvi] Real property located in the U.S. and real property located outside the U.S. are not property of a like kind to one another. In other words, a U.S. person cannot defer recognition of the gain realized on the exchange of a U.S. real property for real property located outside the U.S.; likewise with respect to the exchange of foreign real property for U.S. real property
However, a U.S. individual may exchange foreign real property for other foreign real property without the recognition of gain, provided the requirements for treatment as a like kind exchange are satisfied.
[xxxvii] Of course, this assumes the like kind exchange rules for real property remain in the Code. The Tax Cuts and Jobs Act limited the application of the rules to exchanges of real property. The Biden administration sought to limit their application to relatively small amounts of gain per taxpayer, at least by NYC standards.
[xxxviii] The individual may receive a credit in New York for any tax paid to the state in which the replacement real property was located.
[xxxix] We’ll see how much fiscal distress Albany can handle before it makes such a move.
[xl] Form FTB 3840.
[xli] IRC Sec. 453. The gain from the sale is recognized as the principal amount is paid or made available to the seller. See also IRC Sec. 453A and Sec. 453B.
[xlii] NY Tax Law Sec. 639.
[xliii] The same question may be posed where the replacement property is in New York.
[xliv] NY Tax Law Sec. 639:
“(a) If an individual changes status from resident to nonresident he shall, regardless of his method of accounting, accrue to the period of residence any items of income, gain, loss, deduction, or ordinary income portion of a lump sum distribution accruing prior to the change of status, with the applicable modifications and adjustments to federal adjusted gross income and itemized deductions under sections six hundred twelve and six hundred fifteen, if not otherwise properly includible or allowable for New York income tax purposes for such period or a prior taxable year under his method of accounting.”
A similar accrual rule applies with respect to the former resident’s interest in a partnership or S corporation.
[xlv] The first determines when an item of taxable gain is reported; the second determines whether an item of realized gain is, or is not, taxable.