Stephan Shipe
Welcome back to the Scholar Wealth Podcast. This week we begin with a listener sitting on a concentrated single stock position from a 2015 acquisition who ran into a Section 351 ETF conversion earlier this year and just saw the IRS release Revenue Ruling 2026-20, shutting these down. Then we move to a 400-acre Pennsylvania farm that has been in the family since 1912, and the listener trying to stay out of the middle of siblings debating what happens to it. And then we close with a question from our recent newsletter, from a listener curious about patterns we've noticed over seven years here at Scholar. So let's go ahead and get started with question one, which is really big from the news this week. And we've seen this come up a lot recently, so I'm excited to get into it.

Back in 2015, I came into a big single stock position from an acquisition. It's grown to about $4.2 million and still makes up most of my taxable account. Earlier this year, my advisor walked me through a Section 351 ETF conversion as a way to diversify without triggering the full capital gain. And we went through with it. Then on Monday I saw the IRS came out with a new ruling saying these don't work. Am I about to get a big tax bill? And when would it hit?

So I think it's going to be helpful. Let's talk a little bit about why these exist and what the problems are, and then we can talk about some next steps that you should take. The overarching theme of a lot of these different exchanges, and all of this through taxes, is if you ever see a tax strategy that says you're never going to have to pay the tax if you just do this, I would take a really hard look at it. There are very few ways that someone can go through an exchange that happens for free. And what I mean by that is there are legitimate exchanges that exist. A 1031 exchange is a good example of that for real estate,

where you're deferring gains. But you're just deferring gains. And very similar in this, that you're deferring gains on a concentrated position by going into an ETF that now allows you to invest in all of these other things. But you have to be careful with the actual rules associated with them. There are specific rules laid out for a reason, and you don't want to be the person that the IRS says this is a problem. People are abusing this exchange and using it behind the scenes to be able to do something to avoid taxes on it.

And then they come after you, and now you are the example that the whole country gets to look at and say, see what happens if you try to mess with our rules, we're going to take you down. That's not the spot you want to be in. So whenever these new exchanges come out, or new ways to use the tax law, where somebody says, well, this is how it was intended, but we have a new way we can use it, isn't this great? That type of use, or that creativity that exists in finance when it comes to taxes, is not something I'm a big fan of playing around with. And the reason for that is because if somebody finds a creative way to use a law that was not in the original spirit of the law, you start to run into issues where the IRS may come out and say that you're abusing it. And no one likes to pay taxes. I absolutely get that.

I don't think putting you at risk for those is ever a good idea. So when we have this 351 exchange in particular, what people started to do is they said, in your situation, I've got a concentrated position. I don't want to pay the taxes on it, but I know that I shouldn't be in one stock. So I want to diversify. And there are different ways to exchange that stock into a partnership or an ETF or some sort of investment fund that says, hey, I'm going to go add

my $4.2 million of this single stock into this fund. And somebody else may add their $4.2 million of another stock into that fund. And somebody else may add $4.2 million. And we're all going to bundle it together, call it a partnership, and then split out the shares. So now I don't own $4.2 million of a single stock. I own $4.2 million of four different stocks. That's the basic premise that exists. But the IRS doesn't want that to happen.

Understandably, because now you're just getting around the tax implications. So the way some of these exchange funds that have come out of these 351 exchanges operate is that there are requirements that say you can't just add financial securities into a pool, mix it all together, give everybody a cut of it, and now you're fine and you've diversified your portfolio and have not had to pay the tax on it. That's not what they're intended for. So

there are restrictions that say you can add in your stocks to this, but you have to have exposure to something else like real estate, or some other physical property, or some sort of partnership, some non-financial-market asset in that portfolio. So for instance, an exchange fund may incorporate a certain percentage, say twenty, thirty percent real estate, or real market assets, or other types of property, or partnerships in a business, which is really common as well.

So the nice thing about that is you can add your financial market asset to it, but you get all these other things. And the exchange funds will come out and they'll say, well, we add in real estate, or we add in all this, we might take other positions to keep you correlated with the S&P 500 or with the Nasdaq. And one of the biggest misconceptions I see is somebody looks at that and says, well, it's correlated with the S&P 500, so who cares what's in there? I care what's in there. Depending on what they have in there, it's

easier to synthetically create something that's correlated with an index that actually doesn't have the assets of the index. Some would say, well, if it's correlated, that doesn't matter. But correlation is not risk. And what that means is whenever you get out of that exchange fund, now you're stuck with a bunch of random stocks and random holdings that may have fees associated with them, that at that point are no longer being managed to try to match the index,

and can be affected by different things in the economy. So I've never been a huge fan of these. There are some exchanges that can make a lot of sense, and can make a lot of sense legally to be set up. But whenever we run into situations like you're dealing with here, where there's this assumption that it's being sold, that you're able to get out of something without paying any taxes and it's going to be great and everything's rosy, that's when I start getting worried, because in finance, I'm a big believer in the fact that there's no reward without risk.

And there's no free lunch associated with it. So while you look at it and say, well, I'm getting all this diversification for free, not really. You're getting the diversification into assets that may not have the same risk structure as the underlying index, or the underlying financial asset that you just added in there. And that's exactly what the IRS came after with this revenue ruling, when they put out this notice that said, hey, we're going to treat this conversion as a taxable exchange. So

now you have the taxpayer, the participants in it, everybody's getting mixed up into this idea that you could add in a stock to a fund, an exchange-traded fund, and now you have an ETF that you could sell and move around. It sounded too good to be true. It has sounded too good to be true since it started to really be used as this option for concentrated positions. At this point, your next bet is to go in and talk to your CPA.

It'll probably be expensive. It's probably going to take you some more time and money to talk to your CPA. Make sure your CPA is aware of the ruling and has dealt with it, or you're going to have to talk to a CPA that's going to be more specialized in this, and an attorney that's specialized in it. Because now you're going to have concerns with redemption timing. You're going to have basis issues, what's going to be treated as long-term gain. What did you actually buy, not buy, how the whole structure is going to be read. Now you have exposure if there is a recharacterization of it.

You could end up paying the full long-term gain, plus any state taxes, plus any interest on that if there's any back taxes that are owed. There's a lot of issues related to that. There are different levels to it, and there's still some uncertainty of what is going to be included under this and what is not. But you're still having the same issues. The law still exists if it is used appropriately. Unfortunately, it's been used pretty aggressively, and in the IRS's words, has been abused.

So now you're running into issues with some of these box spread trades that were going on, and different partnership workarounds that were there. So I think your next call, besides talking to us here, is to talk to your CPA and have a really good conversation with your CPA. And I'd be honest and upfront with the CPA, saying, I need to know whether or not you have experience or you're capable of handling this. And if the answer is no, then it's not on you personally, I need to go find a CPA

who's actually going to be able to walk me down this path. Because this could be a year or two of unwinding this, depending on how aggressive that Section 351 conversion was that you were getting into. And now for our next question. My parents are in their late 70s and own a 400-acre farm in Pennsylvania. It's been in the family since 1912. My dad is still farming part of it, and we lease the rest of it out.

They have never once talked to me or my siblings about what happens to it, but my siblings like to bring it up to me. My brother who lives nearby wants to keep farming. My sister wants to sell her share. And I live in Chicago and would rather not be put in the middle of it. What next steps would you recommend? Farmland is really tough when it gets into the estate dynamic, because not only are you running into problems of equalizing the estate, so to speak,

but farmland typically is not very profitable at all. There's a reason there are so many government subsidies toward farmers, and farmland is not really a great business to be in. It's asset heavy. The margins are relatively thin. And you run into situations where every year the value of the commodity that you're in goes up and down. So that alone is a huge problem. So now we're not talking about a family business that's

doing well, it's profitable, there's a ton of money coming off of it, we could always sell it to a private equity firm, or somebody else has a lot of marketability for it. It's not that. You're dealing with land, and you're dealing with a farm that's on it. The complication is going to be that if your brother is farming the land and wants to farm it, that likely means this is going to be his source of income. And so selling the land is more than just selling the land.

It's selling the land and making sure that your brother has no source of income going forward. And that is by far one of the hardest aspects that we've dealt with in this type of dynamic. It's not a vacation home or some property that the family has, and we're just going to split it up and sell it, and I don't know whose share is going to be whose. You're running into a problem of now one of your siblings' livelihoods is tied to the ability to continue farming that.

So that's one dynamic that we're going to have to deal with. Fortunately, there are some ways to deal with that, in that maybe some of the land can be sold. That becomes more difficult because, as you mentioned, the land's been in the family since 1912. I'd also be concerned about estate taxes here. A 400-acre farm in Pennsylvania, how much is that actually going to be worth? My guess is it's at least millions of dollars. If it's in a great part of Pennsylvania, it could be worth more than the actual

estate limit, which would be a huge risk. I don't think that's going to be the case based on — if you're looking at $10,000, $20,000 an acre, you're probably looking somewhere around the five to ten million dollar value. But if it's in prime real estate, since it's been in the family from 1912, it's possible that it could be worth a significant amount more. So we first need to determine how much your brother would need for his share of it. I think that's going to be something to have in a conversation. I know you're trying to not get in the middle of it, but

unfortunately, you're already in the middle, so you might as well do a good job while you're there. So find out whether or not your brother plans to farm it. You're going to be the only one that knows whether or not that's a hobby farm that he's got going on, or if that's him and his family's livelihood. If it's the livelihood, and it sounds like you're already leasing some of it out, maybe you could go and sell off the portion that's been leased, and that would appease your sister there. The other issue that I would take into account is

how many assets are there outside of the farm? What are we talking about in investment accounts? It's going to be a heck of a lot easier if you tell me that mom and dad have $10 million in investments and cash and the 400-acre farm. Then I'd say, well, that's a lot easier. Go give the 400-acre farm to your brother, and you and your sister split the rest of the cash, and that'll equalize everything out. He's stuck with an illiquid asset, but that was a preference, and you all are stuck not having to deal with the business, but you get no part of the farm.

And that's another way to look at it. In many cases, though, when I see situations like this, that's not generally the case. Because as I mentioned, farming typically is not significantly profitable, and you need the land, it's very asset heavy. So the odds are your parents probably don't have a ton of investment assets. You're left with the 400 acres being the lion's share, if not the entire estate. And maybe there's a house on the property, which adds more complexity. But

now you have the 400 acres that we're going to have to deal with. And if selling is not an option, then we need to even things up. So under the assumption selling is an option, I think we could sell portions of it and be able to use some of that capital for your sister and possibly you. If selling is not an option, and this is why it's important to start having these conversations now with your parents — your dad's out there still farming it and everything else, it's time to bring it up. And everyone needs to have a conversation about

what is going on. Dad's in his seventies and still working the farm. Time to start bringing in an honest conversation of what does all of this look like? Because your sister doesn't want anything to do with it, your brother wants to keep farming it. And in many cases, what could end up happening is your dad could look at it and say, hey, I don't want the property sold. Now we throw a huge wrench in this whole conversation, because if the property can't be sold, then how are we going to equalize the estate?

And I've seen that go multiple ways. I've seen gen one look at it and say, that's not my problem. I don't want to equalize the estate. We're keeping the 400 acres. It's been in the family since 1912. So the 400 acres is ours. If you want to work the farm, great. If you don't, not my problem. We still have the farm that's here. You can technically own a piece of it, but if you're not going to farm it, you could go lease it out and that'll be fine. I actually don't think that's a horrible idea. If

you're looking at it that way and say you have 400 acres, it's going to be split into 133 acres apiece for the three of you. And your brother can farm it if he wants, or lease it. You can lease it or farm it — probably not likely since you're in Chicago. And if your brother would like to have more property to farm, then he can lease it from you, find what a fair lease rate is, and he can now lease that back from you and your sister. The difficulty is going to be the liquidity. You can get fancy there with some

life insurance policies and different ways to structure it. But the reality is the margins aren't there in farming like they would be in a normal business, to say, that's all right, I'm just going to farm this 133 acres and I'll buy my other two siblings out of their 266 acres of property. That's probably not going to happen on a farmer's profit.

All right. And let's move on to our third question. I read your Q3 newsletter last week and really enjoyed the opening letter, so thanks for that. The patterns you described, the second home around five million dollars, the legacy conversation around ten million dollars, the spending plateau, were all things I recognized in myself and the people I know at those levels. I'd be curious to hear about what other patterns you've noticed over seven years of these conversations. So that was a fun conversation. I'm glad you enjoyed it. That was

an interesting reflection, after seven years of having Scholar, of what types of questions we normally see. Because just like any profession, when you have enough conversations around the same type of topics, patterns start to emerge. And you start to see patterns like, as I mentioned in the newsletter, when someone typically buys a vacation home, when we start having legacy conversations, what does spending really look like in retirement. And there are tons of other patterns that exist.

I would say, in addition to that $10 million from a legacy perspective, there's the $10 million complexity trap. There's this myth that exists that if you have $10 million, now all of a sudden you have to start investing differently. And you now have eight figures, and it's like you've ascended to this level. That just isn't true whatsoever. $10 million looks a heck of a lot like $7 million, and looks even more like $15 or $20 million. You don't need to add complexity. I've seen

$50 million, I've seen $300 million portfolios that are invested in index funds. There's no rule that says you need to go pick up a bunch of private investments. Now, are they available to you? Of course. After $10 million, those options start to open up. But that becomes the trap of, because options are open to you doesn't mean that you should just do them. So watching out for that is a common conversation that starts to show up around that. We see that also around income.

You start passing a million dollars in W-2 income. Everyone wants to go add some fancy tax-saving strategy to their portfolio, because now they're going to save on W-2 income. If you're making a million dollars in W-2 income, the odds are you're not getting away from taxes on that in any easy way without adding a ridiculous amount of complexity, which generally means opening up some sort of business or real estate to get into it, which is adding a second job. So I always look at that like, if you're going to —

if you're making a million dollars in W-2 income, do you really want a second job? If so, there are some better jobs out there from a tax perspective, but you still have to take a second job. And around the job aspect, the retiring-early myth. The amount of people that I see that say, I want to retire in my fifties, retire at sixty years old, I'm going to save up and we're going to go travel the world and never work again — it never happens. The reality of that, from a personality perspective, and a lot of this is behavior, from

a personality perspective, if you've built up the wealth to be able to retire early, and I'm talking about 40s, 50s, the reality is that you're probably pretty good at what you did. And you're very organized, and you get something out of the work that you're doing. So then you go retire, and you kind of miss out on all of the fun projects that you did. Maybe you don't miss the entire job, you don't miss the role that you had completely, but there are certain aspects of that role that you miss.

So what happens is, I generally give clients nine months, 12 months, to be retired. And in that first year, you can only take so many trips to Home Depot to go fix up your house, or do the list that you've had. You go travel to the countries you've wanted to travel to, you've taken the big cruise, you've done all the typical things that you've been planning for retirement. Then you come back and say, what's next?

And you start to miss some of the structure around some of the fun projects you worked on, some of the work conversations and people you were dealing with. And there's something to be said about accomplishing these kind of mini goals of projects and the role that you're in. So you end up taking some consulting gig or part-time, or shifting that completely into roles that are fulfilling, but money is just not the motivating factor anymore. The funny thing about that is

you typically take these roles because you go in and say, well, I'm going to go consult, and it's not going to matter what I charge because it's going to be a lot of fun. The reality is people would pay a ridiculous amount for your consulting, because you're typically pretty good at what you are, and you end up making quite a bit of money anyway, that now you can't spend on the travel because you're doing all the same things over again. So it's not necessarily a bad thing. I just think that one of the patterns that definitely emerges is

people retire early, they think that's going to be a panacea for anything that they're dealing with in life. They realize about nine months later they're ready to go do something else. And they're just looking for a shift in careers, not an ending of careers. So that's a reframing that's pretty common there. And that goes into, as I was mentioning, that inconsistent travel spending. I think that's a big one. One of the biggest issues of financial advice is the way it's modeled. And we assume this

constant modeling of expenses through retirement, and travel expenses. And the reality is you typically travel really big for the first year or two in retirement, and then that drops down. You're still traveling a lot for those first five years. And then travel pretty typically dips off quite a bit, and you get used to certain places you'd like to visit. Then you start thinking, well, instead of traveling all over the place, we should just buy a house at the place we like to keep going back to.

And that turns into either a second or third property, and then travel dips down. So we see a big spike of travel early on, and then it continues to dip down throughout your retirement. And with the vacation homes — it's something we've talked about so many times on the podcast — the justification for vacation homes as being, well, I could rent it out. And no one ever rents out their vacation home. You might do it for a season or two. The reality is eventually you look at it and say,

it's not worth the hassle, or you start to justify the fact that it doesn't need to be rented out. Generally that falls into the category of it's not worth the hassle for us to do it, or, you know what, Stephan, we've been handling the investments, we bought our vacation home, this is our dream spot, I don't want to have to share it with anybody else. We want to decorate it the way we want, we want to put the furniture we wanted, and renters just don't handle it the same way as if they owned it. And that flows into, we're no longer renting out the vacation home, it's just going to be ours, which is completely fine.

But knowing that up front helps to set the budget for how much vacation home you can pick up. Another one is the too-good-to-be-true issue, which hits that question we were talking about earlier about the 351 exchanges and a lot of these really unique strategies. If it's too good to be true in finance, it's almost guaranteed that it's too good to be true. I've been doing this long enough now to see the patterns emerge where everyone gets excited about a certain strategy. We say it sounds too good to be true.

And then six months later, there's an action letter from the IRS, or something that comes out from the SEC, that says, hey, it was too good to be true, you shouldn't do that, you're abusing the system. And now you're stuck in lawsuits and tax issues for the next two or three years dealing with paying off the IRS for back taxes. Those are the big patterns. I'll throw one more at you that's a really interesting pattern for your question, which is that grandkids ruin financial plans. I cannot tell you — if you come in as a client, we're

working with you and we're building everything out, and you have spending and travel and vacation homes and everything. The moment a grandkid appears on that screen, it's all over. All of our modeling goes out the window. We might as well just start over from ground zero. You're not traveling as much. Money gets spent on time there. All your travel is diverted, timing is diverted, which are all great things. But I think that's always a very funny pattern to me, that people don't

realize until it shows up, that once grandkids come into the picture, all of your past financial plans are completely obsolete and we need to start over. So that's our show. Thanks for listening, and we'll see you next week.