BUSINESS - BUSINESS PROPERTY

Question 1

Cost Recovery of Property

Answer 1

A.K.A DEPRECIATION of Property.

A tax deduction based on the original basis in the property and a predetermined useful life is allowed to recover this lost usefulness as a tax-deductible expense.

This cost recovery is depreciation (or amortization or depletion) and reduces the property’s basis.

Question 2

5 Requirements for DEPRECIATING property

Answer 2

It must be:

1. Owned by the taxpayer;
2. Used in a TP’s business or income-producing activity;
3. Have a determinable useful life;
4. Be expected to last more than one year; and
5. Not be excepted (excluded) property.

Basically, Tangible Personal Properties (eg. buildings and structures, etc)

Question 3

What Defines Excluded Property (List of 6)

Answer 3

LEASED PROPERTY - unless the company retains the incidence of ownership for the property.

PERSONAL USE PROPERTY used solely for personal use activities (residences)

INVESTMENT PROPERTY if the income from it is NOT taxable

INVENTORY - b/c not held for use, but for sale.

LAND, though the cost of getting land ready may be able to be depreciated if connected to another asset.

Internally Generated GOODWILL (IGG), but Acquired Good Will may be able to be depreciated.

Question 4

Other Excepted Property

Answer 4

Property placed in service and disposed of in the same year

Non Acquired Section 197 intangibles (goodwill)

Interests in a corporation, partnership, trust or estate

Interests in land

Interests in films, sound recordings, video tapes, books if not acquired with the assets of a trade or business

Question 5

The 2 possible Tax Depreciation Systems in the USA.

Answer 5

Accelerated Cost Recovery System - ACRS (used for assets acquired between 1980-1986), or the

Modified Accelerated Cost Recovery System - MACRS (1987-present).

Question 6

What are the 2 Categories of Property with the depreciation category?

Answer 6

Real property

Personal property

Question 7

Categories of Real Property for Depreciation

Answer 7

Residential rental property – depreciated straight-line over 27½ years

Nonresidential real estate – depreciated straight-line over 39 years

Question 8

Categories of Personal Property for Depreciation

Answer 8

Personal property includes all tangible property that is not real property.

3-year – tractor units and race horses over 2 years old

5-year – automobiles, light trucks, computers

7-year – office furniture and fixtures

10-year – ships and water transportation

These assets are depreciated using the 200% Declining Balance Method, and then switching to a Straight Line method when the Straight Line Method results in a larger deduction.

Question 9

Categories of Personal Property for Depreciation for 15 and 20 years

Answer 9

15-year – wastewater treatment plants

20-year – municipal sewers and farm buildings

These assets are depreciated using the 150% Declining Balance Method, and then switching to a Straight Line method when the Straight Line Method results in a larger deduction.

Question 10

Is Salvage Value considered for MACRS purposes?

Answer 10

No. Salvage value of the property is NOT considered for MACRS purposes.

(It’s the original basis of the property multiplied by the depreciation % based on the life of the asset.)

Question 11

Personal Property Depreciation Convention

Answer 11

MACRS personal property uses the MID-YEAR Depreciation convention.

Which means that no matter when you buy the asset we will take 6 months of depreciation in the year of acquisition and 6 months of depreciation in the year of disposal.

HOWEVER, If more than 40% of the total cost of property placed into service during the year is placed into service in the last quarter of the year, ALL property is depreciated under the MID-QUARTER convention.

The MID-QUARTER Convention is in place to avoid people buying assets on Dec 30th and taking a full year depreciation.

Question 12

Real Property Depreciation Convention

Answer 12

Real property uses the mid-month depreciation convention.

Question 13

Section 179 Deduction - Depreciation

Answer 13

Under Section 179, a company that buys $2,550,000 or less of qualifying property during 2019, may generally choose to expense up to $1,020,000 of the purchased property.

If the amount of property acquired during 2019 is more than $2,550,000, the $1,020,000 amount that may be expensed is reduced dollar-for-dollar for the amount over $2,550,000.

The 179 Deduction can not exceed taxable income. You can’t use it to create a tax loss. But it can be carried forward indefinitely.

Question 14

Section 179 Deduction - Qualifying Property

Answer 14

Personal property including computer software bought from a third party and certain limited types of real property

Also, certain limited types of REAL PROPERTY

Purchased exclusively for business use

Purchased from an unrelated party

Question 15

50% Business Use is Required to Qualify for the Section 179 Deduction

Answer 15

The taxpayer MUST use the property more than 50% for business in the year placed in service.

Question 16

Section 179 Deduction - Example 01

Answer 16

In 2019 Corporation X purchased $600,000 of Section 179 qualifying property. Its taxable income was $700,000.

Corporation X may use the Section 179 deduction and expense immediately $600,000 of the Section 179 property for tax purposes because it purchased less than $2,550,000 of Section 179 property in 2019 and its taxable income exceeds $600,000 (the value of the Section 179 expense to be taken).

Question 17

Section 179 Deduction - Example 02

Answer 17

In 2019 Corporation Y purchased $2,600,000 of Section 179 qualifying property. Its taxable income was $125,000.

Because its $2,600,000 of purchases is $50,000 larger than the 2019 $2,550,000 threshold amount, Corporation Y must reduce the maximum value of the Section 179 deduction by $50,000.

This reduces the maximum possible Section 179 deduction to $970,000 ($1,020,000 – $50,000). However, the amount it may expense is limited to only $125,000 in 2019 because the Section 179 deduction may not exceed taxable income.

The excess Section 179 deduction of $845,000 ($970,000 maximum – $125,000 allowed) may be carried forward to reduce future taxable income.

Question 18

Special Depreciation Allowance (also called Bonus Depreciation)

Answer 18

The Tax Code provides a special depreciation allowance for qualified taxpayers and qualified assets.

For 2019, the special depreciation allowance is 100% of the first year’s regular depreciation calculated after subtracting the 179 deduction and certain deductions and credits.

This special depreciation allowance is calculated after the Section 179 deduction and before regular depreciation.

Question 19

Special Depreciation Property

Answer 19

To be eligible for the special depreciation allowance, the property must be certain qualified property acquired after December 31, 2017 and placed in service before January 1, 2023.

Tangible property depreciated under MACRS with a recovery period of 20 years or less.

Water utility property.

Computer software that is readily available for purchase by the general public, is subject to a nonexclusive license, and has not been substantially modified.

Qualified leasehold improvement property.

Qualified film, television and live theatrical productions.

Qualified reuse and recycling property.

Qualified second-generation biofuel plant property.

Question 20

Special Depreciation Property - Example

Answer 20

On November 1, 2019, Tom bought and placed in service in his business qualified property that cost $450,000. He did not elect to claim a section 179 deduction. He can deduct 100% of the cost as a special depreciation allowance for 2019.

Question 21

Depreciation of Passenger Automobiles (cars, trucks, vans, and SUVs weighing 6,000 pounds or less)

Answer 21

If the taxpayer does not claim bonus depreciation, the greatest allowable depreciation deduction for a vehicle placed in service in 2019 is:

$10,100 for the first year,

$16,100 for the second year,

$9,700 for the third year, and

$5,760 for each later taxable year in the recovery period.

Question 22

Bonus Depreciation for Passenger Automobiles (cars, trucks, vans, and SUVs weighing 6,000 pounds or less)

Answer 22

If a taxpayer claims 100 percent bonus depreciation, the greatest allowable depreciation deduction for a vehicle placed in service in 2019 is:

$18,100 for the first year ($10,100 plus $8,000 bonus depreciation),

$16,100 for the second year,

$9,700 for the third year, and

$5,760 for each later taxable year in the recovery period.

Question 23

Business Use of Vehicle

Answer 23

These limits assume that the vehicle is used 100% for business.

If the vehicle is used 75% for business, the allowable depreciation is 75% of the maximum amount.

If business use is less than 50% the alternative deduction system must be used, which is essentially straight-line spread out over a longer period.

Question 24

De Minimis Safe Harbor

Answer 24

A way to help a business decide if an expense should be Capitalized or Deducted.

Eliminates having to make a decision for every small expenditure a company makes.

Allows taxpayers to follow financial accounting treatment of these expenditures for tax purposes, provided the amounts deducted under their financial accounting policies adhere to specific dollar limitations.

Question 25

De Minimis Limitations

Answer 25

The regulations provide a de minimis safe harbor limit of $5,000 per item substantiated by invoice for taxpayers that have an Applicable Financial Statement (AFS).

This limit is $2,500 for taxpayers that do not have an AFS.

This limit is a “cliff.” If you’re over the limit on any one item, you can not deduct anything. So, if an item is $3,000 and your limit is $2,500, you can deduct nothing.

Question 26

Applicable Financial Statement (AFS)

Answer 26

An AFS includes a financial statement required to be filed with the SEC, as well as other types of certified audited financial statements accompanied by a CPA report, including a financial statement provided for a loan, reporting to shareholders, or for other non-tax purposes.

Question 27

Application of De Minimis

Answer 27

A taxpayer electing the safe harbor may deduct and may not capitalize or treat as materials or supplies amounts paid to acquire or produce a unit of tangible property, if

Has, at the beginning of the taxable year, accounting procedures that expense for non-tax purposes amounts that are paid for property that:
• costs less than a certain dollar amount; or
• has an economic useful life of 12 months or less; and

The taxpayer treats the amounts paid for the property as an expense on its books and records in accordance with its accounting procedures.

Question 28

De Minimis Safe Harbor Election EXAMPLE

Answer 28

In 2019, you do not have an applicable financial statement and you purchase five laptop computers for use in your trade or business. You paid $2,000 each for a total cost of $10,000 and these amounts are substantiated in an invoice.

You had an accounting procedure in place at the beginning of 2019 to expense the cost of tangible property if the property costs $2,000 or less.

You treat each computer as an expense on your books and records for 2019 in accordance with this policy. If you elect the de minimis safe harbor in your tax returns for your 2019 tax year, you can deduct the cost of each $2,000 computer.

There was no AFS, but they did have an Accounting Policy followed for financial purposes.

Question 29

Repairs and Improvements - Rules of the Road for Deductions Vs Capitalization

Answer 29

Repairs are DEDUCTIBLE.

Improvements are CAPITALIZED (both direct and indirect costs).

Repairs is upkeep.
Improvements make things bigger or better.

Question 30

Safe Harbor for Small Taxpayers

Answer 30

A small taxpayer is defined as a taxpayer having average annual gross receipts of no more than $10 million during the preceding three years.

Not required to capitalize expenditures if the total amount expended during the year does not exceed the lesser of $10,000 or 2% of the unadjusted basis of the building.

Question 31

Small Taxpayer Defined:

Answer 31

A small taxpayer is defined as a taxpayer having average annual gross receipts of no more than $10 million during the preceding three years.

Question 32

Routine Maintenance Safe Harbor

Answer 32

Routine Maintenance Safe Harbor permits a deduction for any expenditures that the taxpayer reasonably expects to be required more than once during an asset’s class life (or over 10 years in the case of buildings).

Question 33

Small Taxpayer Safe Harbor Example:

Answer 33

Assume a taxpayer has annual gross receipts of less than $10 million and owns an office building that was purchased for $750,000. In 2019, the taxpayer pays $5,500 for improvements to the building.

As long as these expenses are no more than the lesser of 2% of the original cost (in this case, $15,000) or $10,000, the taxpayer can immediately deduct all of the costs, regardless of their nature. Because the $5,500 meets these criteria, the small taxpayer safe harbor applies.

Now assume the same facts except that the taxpayer spends $10,500 for costs related to the building during 2019. Since $10,500 exceeds the lesser of 2% of the original cost or $10,000, the small taxpayer safe harbor is not available and the taxpayer must capitalize any expenditures that qualify as improvements.

Why does this make sense? Because we’re talking small potatoes. And the difference between deducting now vs depreciating over a few years is not that big of a difference.

Question 34

Routine Maintenance Safe Harbor Requirements

Answer 34

This allows the deduction for any expenditure that the TP reasonably expects to happen more than once over the life of the asset. It doesn’t mean it must be performed more than once.

When in play the taxpayer can deduct the amounts that:

The cost is paid for recurring activities

The cost arises from the use of the property in the taxpayer’s trade or business

The cost keeps the property in an ordinarily efficient operating condition

The taxpayer reasonably expects, at the time the property is placed in service, to perform the activity more than once during the 10-year period starting when placed in service for buildings, or more than once during the class life for other property

Question 35

How do you calculate gain or loss?

Answer 35

Gain or loss is the difference between the fair value of what you receive and adjusted basis of the property given up.

Keep in mind, debt assumed or transferred needs to be considered as well

Question 36

Nontaxable exchange

Answer 36

A nontaxable exchange is an exchange in which any gain is not taxed and any loss can not be deducted. If you receive property in a nontaxable exchange, its basis is usually the same as the basis of the property you exchanged.

Question 37

Listed Property

Answer 37

Listed property includes any property of a type generally used for entertainment, recreation, or amusement (including photographic, phonographic, communication, and video recording equipment).

A taxpayer cannot claim a section 179 deduction or a special depreciation allowance if business use of listed property is not more than 50%.

Note: A vehicle with a loaded gross vehicle weight of over 14,000 pounds that is designed to carry cargo is an excepted vehicle that is not listed property

Question 38

How do you determine if the sale of a business asset is a gain or loss?

Answer 38

In order to determine whether the sale of a business asset resulted in a gain or loss, the seller must calculate whether the amount realized from the sale is greater or less than his adjusted basis in the asset sold. ADJUSTED BASIS is the original basis plus any additions and minus any deductions such as depreciation. In order to determine depreciation, it is necessary to know both the PROPERTY TYPE and the HOLDING PERIOD.

Note: Replacement Cost is not relevant.

Question 39

Exchange of Like-Kind Property

Answer 39

If the properties in an exchange are “like-kind” (similar in nature or character), and held either for:

• productive use in a trade or business, or
• for investment,

No gain or loss will be recognized on the transaction by either party.

Question 40

Like-Kind Exchange with Boot

Answer 40

Boot is cash, other property, or the assumption of liabilities that belonged to the other party.

If boot is received as part of like-kind exchange, some gain will recognized by the recipient of the boot.

Question 41

Realized Gain Calculation

Answer 41

FMV received

Minus Basis Given Up

= Gain Realized

Question 42

Recognized Gain

Answer 42

The LESSER of:

Realized gain, or

Amount of boot received.

Question 43

Loss is NEVER recognized in a Like-Kind Exchange.

True or False?

Answer 43

True.

A loss is never recognized in like-kind exchanges, even when there is boot included in the transaction.

Question 44

Basis of New Like-Kind Asset (Formula)

KNOW THIS!!!!

Answer 44

Basis of Old Property Exchanged

+ Basis of any BOOT given

+ Gain Recognized

• FMV of BOOT Received

= Basis in the Newly Acquired Property

(NOTE: The basis of the boot received will be its FMV.)

Question 45

Rules for Amortization of Section 197 Intangibles.

Name such Intangibles:

Answer 45

Generally, you may amortize the capitalized costs of section 197 intangibles ratably over a 15-year period. You must amortize these costs if you hold the section 197 intangibles in connection with your trade or business or in an activity engaged in for the production of income.

Section 197 intangibles include:

• trademarks,
• patents,
• goodwill, and
• custom software.

Question 46

How to calculate the adjusted basis of a new building received in a like-kind exchange.

Answer 46

EXPLANATION
If a taxpayer trades business or investment property for other business or investment property of a like kind, the taxpayer does not pay tax on any gain or deduct any loss until he sells or disposes of the property received. If a taxpayer acquires property in a like-kind exchange, the basis of that property is generally the same as the basis of the property transferred. With the following adjustments:

INCREASE BASIS by the total amount of:

• Additional money paid, including exchange expenses
• FMV of any non-like kind property transferred to other party
• Net liabilities assumed by the taxpayer
• Any gain recognized on the exchange

DECREASE BASIS by the amount of:

• Boot received (ie. money, FMV of non-like kind property, net liabilities other party assumes)
• Any loss recognized on the exchange

Question 47

How do you determine Recognized Gain?

Answer 47

Recognized Gain is the LESSER of:

The Realized Gain

-or-

The amount of BOOT received.