The American College: HS 321 Income Taxation

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The American College HS 321Income Taxation

• Class 8 Chapter 13
• Property Transactions Basis Determination
  Recognition of Gain or Loss

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Objectives

• Explain how gain or loss on the sale or exchange
  of property is ascertained for federal income tax
  purposes.

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Objectives

• Describe the rules for
• determining basis when property is acquired
  by purchase, exchange, gift, or inheritance
• like-kind exchanges of business or investment
  property

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Objectives

• Describe the rules for
• nontaxable exchanges of insurance or annuity
  contracts, and
• exclusion of gain when a principal residence is
  sold.
• Describe the wash sale rules.

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Property Transactions
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Introduction to Property Transactions

• Recovery of Cost Doctrine
• Realization Concept Realization requires
• an external transaction
• plus a change in basic property right

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• Realized Gains are not always Recognized

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Introduction to Property Transactions

• Recovery of Cost Doctrine
• Realization Concept Realization requires
• an external transaction
• plus a change in basic property right

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Introduction to Property Transactions

• Exceptions
• Gifts
• Death transfers
• Loans
• Realized income may be
• Recognized immediately
• Recognized later (deferred)
• Never recognized as income

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Introduction to Property Transactions

• General Rule Recognize income as soon as it is
  realized.
• Exceptions
• Tax-exempt bond interest
• Installment sales
• Nontaxable exchanges

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Introduction to Property Transactions

• General Rule Recognize income as soon as it is
  realized.
• Exceptions
• Losses realized on personal use assets, except
  condemnations, and casualties
• Certain other statutory provisions

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How a Gain or Loss Is Calculated
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Definitions Amount Realized Gain or Loss Realized

• Amount realized on sale or disposition of an
  asset Cash received
• Plus
• FMV of other property received
• Liabilities assumed by the buyer (e.g., notes
  receivable given to the seller)

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Definitions Amount Realized Gain or Loss
Realized

• Less
• Selling expenses
• Cash paid to the buyer
• Liabilities assumed by the seller
• (ex. A note payable from the seller to the
  buyer, usually to equalize the FMVs of the
  transaction)

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Definitions Amount Realized Gain or Loss
Realized

• Less
• Liabilities encumbering the property received
  that are assumed by the seller
• Equals amount realized

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Quiz Questions
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Short Quiz 1

• The amount realized on a sale of property is
  the same as the gain realized.
• True
• False

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Short Quiz 1

• Losses on the sale of property are generally not
  deductible unless the transaction was in
  connection with a trade or business or an
  activity entered into for profit.
• True
• False

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Basis of Property
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General Basis of Property

• Add
• Purchase cost
• Cash paid
• FMV of property given up
• Unpaid mortgage of property received, if the
  purchaser assumes the mortgage

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General Basis of Property

• Add
• Other acquisition costs (legal, appraisals, etc.)
• Taxes relating to acquisition
• Interest and taxes on construction
• Most interest related to acquisition may be
  capitalized or deducted (TPs option)
• Capital additions (betterments improvements)

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General Basis of Property

• Less
• Depreciation allowed or taken
• Liquidating distributions by corporations
• Casualties and certain other losses
• Amortized bond premiums
• Equals Adjusted basis

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Discussion BreakPlease pause the DVD.
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Basis of Property Converted from Personal to
Business Use
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Basis of Property Converted from Personal to
Business Use

• Property converted from personal use to business
  use
• Basis lower of adj. basis or FMV at
• date of conversion
• But, for sale at gain, basis original basis
  accum. depr.
• Note Sometimes this means no gain or
  loss on sale

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Basis of Inherited Property
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Basis of Inherited Property

• General Rule Basis
• FMV at date of death or
• Alternative valuation date FMV at date of death
  plus 6 mos. if estate tax is due and estate has
  declined in value
• Holding period Deemed long term
• The step-up in basis rules are scheduled to
  be repealed with respect to deaths occurring
  after the year 2009.

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Basis of Inherited Property

• Exception
• Example
• For decedents who acquired property within one
  year of death and that property passes back to
  donor or donors spouse, new basis donors old
  basis (no step-up)

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Basis of Property Acquired by Gift
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Basis of Property Acquired by Gift

• General Rule
• Carryover Basis
• Adjust basis for gift tax paid on the
  appreciation of the property up to the date of
  the gift. The adjustment is called the gift tax
  adjustment. Add the gift tax adjustment to the
  carryover basis.

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Basis of Property Acquired by Gift

• General Rule
• Carryover Basis
• Gift Tax Adjustment

Gift Tax Paid
FMV at Date of Gift Donors Basis FMV at Date
of Gift
X

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Basis of Property Acquired by Gift

• FMV at date of gift lt donors basisan exception
• Basis for gain/loss depends on whether asset is
  later sold for more or less than donors basis.

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Basis of Property Acquired by Gift

• If sold at a gain, it is donors basis.
• If sold at a loss, basis for loss is lower of
  FMV or the donors basis at date of gift.

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Basis of Property Acquired by Gift

• Holding Periods
• Starts on donors date of acquisition, generally

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Like-Kind Exchanges
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Section 1031 Like-Kind Exchanges

• Mandatory deferred gain or loss on exchange of
  business/investment property

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Section 1031 Like-Kind Exchanges

• To qualify, property must be like-kind.
• Real estate can be exchanged for real estate.

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Section 1031 Like-Kind Exchanges

• To qualify, property must be like-kind.
• Properties exchanged must be the same type of
  property.

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Section 1031 Like-Kind Exchanges

• To qualify, property must be like-kind.
• Section 1031 excludes inventories, stocks,
  bonds, notes, non-U.S. property, interest in
  partnerships.

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Like-Kind Exchange Between Related Parties

• Deferral of gain is permitted if exchange between
  related persons remains intact for at least 2
  years after the exchange.
• Any gain that is deferred on exchange between
  related persons is recognized if exchanged
  property is sold within 2 years of the exchange.

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Like-Kind Exchange Between Related Parties

• Deferral of gain is permitted if exchange between
  related persons remains intact for at least 2
  years after the exchange.
• Transferor will be treated as if the property was
  sold on the exchange date. . .recognizing
  deferred gain as of the date the transferee
  sold the property (transferee pays tax on
  post-exchange appreciation).

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Like-Kind Exchanges Continued
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Section 1031 Like-Kind Exchanges with Boot

• When boot is received in a like-kind exchange
• Recognize as income lesser of boot received or
  gain realized.
• No loss is recognized when boot is received.

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Section 1031 Like-Kind Exchanges with Boot

• The receipt of boot may cause recognition of
  gain. (Boot does not disqualify Section 1031.)
• Treat liabilities forfeited as boot received,
  liabilities assumed as boot given. . .net
  liability relief is treated as boot received.

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Like-Kind Exchanges of Mortgaged Property

• Realized losses on Sec. 1031 exchanges are not
  recognized (but loss on boot property given up is
  recognized).

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Like-Kind ExchangesTiming

• Timing
• Simultaneous exchange required
• Simultaneous IF
• Property to be received in the exchange is
  identified within 45 days after TP gives up
  his/her property and

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Like-Kind ExchangesTiming

• Timing
• Simultaneous exchange required
• Simultaneous IF
• Incoming property is actually recd w/in 180 days
  after TP transfers property out, or by the date
  of the tax return (including extensions),
  whichever is earlier.

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Basis of Property Recd in Sec. 1031 Exchange
Adj. Basis of Property Given Up

• PLUS LESS
• Gain recognized Boot recd (not including
  mortgages out)
• Boot paid Liabilities assumed by
  transferee(cash or property) (notes receivable
  to transferor)
• Liabilities assumed Liabilities encumberingby
  TP property transferred out
• Liabilities Equals Basis ofencumbering
  property property recd

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Quiz Questions
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Short Quiz 2

• An exchange of General Motors stock valued at
  15,000 for a General Motors auto valued at
  15,000 is treated as a like-kind exchange that
  will allow taxation of gain to be postponed.
• True
• False

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Short Quiz 2

• Nontaxable exchanges occur when property is
  exchanged solely for other property of like kind.
• True
• False

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Section 121 and Wash Sales
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Section 121

• Exclusion of 250,000 (500,000 MFJ) of Gain on
  Sale of Personal Residence
• Purpose of Sec. 121
• To exclude 250,000 (500,000 MFJ) of gains on
  sale of a personal residence

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Section 121

• Exclusion of 250,000 (500,000 MFJ) of gain on
  sale of personal residence
• Eligibility
• TP must own and occupy home as principal
  residence for at least 2 of 5 prior years.
• The full exclusion is available only if TP has
  not utilized exclusion in previous 2 years.

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Section 121 Example

• S (Single TP) sells her home and realizes a
  125,000 gain. S, who is moving to a new state to
  take a new job, has owned the home for only 9
  months.
• S may exclude 93,750 of her realized gain.
• 250,000 x 9 months 93,750 24 months

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Section 121

• Exclusion of 250,000 (500,000 MFJ) of gain on
  sale of personal residence
• A partial exclusion is allowed if TP moves for
  employment, health, or other unforeseen
  circumstances.

of months req. are met 24 months
Partial exc. full exc. x
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Section 121 Special Rule for Depreciation

• If deprecation was claimed on the home (home
  office or renal for example), gain must be
  recaptured up to amount of deprecation claimed
  on/after May 7, 1997.

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Disallowed Losses Wash Sale Losses

• Definition
• Where TP sells stock or securities and within 30
  days before or after the sale acquires
  substantially identical stock or securities

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Disallowed Losses Wash Sale Losses

• Add unrecognized loss to the basis of the
  replacement stock/securities to enable later
  recovery of basis.
• Holding period of old stock/securities carries
  over.

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Quiz Questions
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Short Quiz 3

• For purposes of the exclusion of gain from the
  sale of a personal residence, married taxpayers
  filing jointly may exclude up to 500,000 where
  both spouses meet the use requirement and one
  spouse meets the ownership requirement.
• True
• False