With apparently the world turning on him (including his wife) Donald Sterling acquiesced to a sale of the clippers to former Microsoft CEO Steve Balmer for the astonishingly high sales price of $2 Billion dollars. Not a bad price when you consider that Sterling purchased the Clippers for just $12.5 million. With combined federal and state taxes, the Sterlings could face a whopping 37.1% capital gains tax on the sale.
Some had been wondering if the Sterlings were going to try to delay a forced sale of the team and tie it up in litigation for years so that one of them could die while still owning the team. Under Section 1014, it is likely that the Stelings’ interest in the Clippers would have received a full fair market value step-up in basis when the first spouse died. In short, if they had sold the team a day after Donald passed away, there would have been no capital gains tax. Not only that, but it is likely that they have drafted their estate planning documents so that there is no estate tax owed at the first-spouse’s death. However, seeing the writing on the wall, and likely surprised by the Balmer’s super high offer, it is likely the Sterlings decided to go with the $2 billion all cash offer.
The question then is, can the Sterlings contort themselves out of having to pay capital gains tax on this sale? While the Sterlings have allegedly been able to weasel out of all sorts of predicaments (racial-discrimination law suits to name a few) getting out of paying capital gains tax would be a tall order….but perhaps not impossible.
First, one might argue that perhaps they could try to do a 1031 exchange of their interests in the clippers–essentially roll-over the sale proceeds into “like-kind” property and defer any capital gain. Unfortunately, it is likely that the Clippers are owned through by a corporation or partnership and 1031 exchanges cannot apply to the sale of these business interests.
However, similar to section 1031 is section 1033 of the Internal Revenue Code which deals with “involuntary conversions”. In short, if your property has been stolen, destroyed or subject to condemnation or the threat of condemnation, you generally can invest the sale proceeds (or insurance proceeds) within 2 years and defer any income tax. In this case, Donald would have to argue (quite forcefully) that his sale to Balmer, was in-fact a “forced sale” of the Clippers analogous to a government taking of property. Donald would then have two years to invest the cash in investments that were similar (which is a pretty loose standard). If Donald is successful, he would defer capital gains tax until he sold the replacement investments. Plus, if he held the replacement investments at death, they would get a full step-up in basis and presto…no capital gains tax would ever be paid!