Chapter 13 Property Transactions: Determination of Gain or Loss, Basis Considerations, and Nontaxable Exchanges Flashcards
If the amount realized exceeds the property’s adjusted basis, the result is
a
realized gain
if the property’s adjusted basis exceeds the amount realized,
the result is a
realized loss
Tab sells Swan Corporation stock with an adjusted basis of $3,000 for $5,000. Tab’s E X A M P L E 1
realized gain is
2,000
is defined broadly in the tax law and includes virtually
any disposition of property. Thus, transactions such as trade-ins, casualties, condemnations,
thefts, and bond retirements are treated as dispositions of property.
sale or other disposition
Lori owns Tan Corporation stock that cost $3,000. The stock has appreciated in value E X A M P L E 2
by $2,000 since Lori purchased it. Lori has realized gain?
False. Lori has no realized gain because mere fluctuation in
value is not a disposition or an identifiable event for tax purposes. Same goes for if it falls in value.
The _______ ________ from a sale or other disposition of property is the sum of any
money received plus the fair market value of other property received
amount realized. The amount realized also includes any liability on the property disposed of, such
as a mortgage debt, if the buyer assumes the mortgage or the property is sold subject
to the mortgage
Barry sells property on which there is a mortgage of $20,000 to Cole for $50,000 cash. E X A M P L E 4
Barry’s amount realized from the sale is
$70,000 if Cole assumes the mortgage or takes
the property subject to the mortgage.
The _____ ______ _______ of property received in a sale or other disposition has been
defined by the courts as the price at which property will change hands between a
willing seller and a willing buyer when neither is compelled to sell or buy
fair market value
The adjusted basis of property disposed of is
the property’s original basis adjusted
to the date of disposition
is the cost or other basis of the property
on the date the property is acquired by the taxpayer
original basis
Increase the original basis?
capital additions
Decrease the original basis?
recoveries of capital
Adjusted basis is
determined as follows:
Cost (or other adjusted basis) on date of acquisition
+ Capital additions
− Capital recoveries
= Adjusted basis on date of disposition
Capital additions include
the cost of capital improvements and betterments made
to the property by the taxpayer. These expenditures are distinguishable from
expenditures for the ordinary repair and maintenance of the property, which are
neither capitalized nor added to the original basis
following are examples
of capital recoveries:
- Depreciation and cost recovery allowances
- Casualties and thefts
- Certain corporate distributions
- Amortizable bond premium
- Easements
Explain Depreciation and cost recovery allowances
The original basis of depreciable property
is reduced by the annual depreciation charges (or cost recovery allowances) while the property is held by the taxpayer. The amount of depreciation
that is subtracted from the original basis is the greater of the allowed
or allowable depreciation calculated on an annual basis.14 In most circumstances,
the allowed and allowable depreciation amounts are the same (refer to
Chapter 8).
Explain Casualties and thefts
A casualty or theft may result in the reduction of the
adjusted basis of property.15 The adjusted basis is reduced by the amount of
the deductible loss. In addition, the adjusted basis is reduced by the amount
of insurance proceeds received. However, the receipt of insurance proceeds
may result in a recognized gain rather than a deductible loss. The gain
increases the adjusted basis of the property
The adjusted basis for casualties and thefts is reduced by what amount?
the amount of
the deductible loss. In addition, the adjusted basis is reduced by the amount
of insurance proceeds received. However, the receipt of insurance proceeds
may result in a recognized gain rather than a deductible loss. The gain
increases the adjusted basis of the property
Explain corporate distributions?
A corporate distribution to a shareholder that is not
taxable is treated as a return of capital, and it reduces the basis of the shareholder’s
stock in the corporation.17 For example, if a corporation makes a cash
distribution to its shareholders and has no earnings and profits, the distributions
are treated as a return of capital. Once the basis of the stock is reduced to
zero, the amount of any subsequent distributions is a capital gain if the stock is
a capital asset. These rules are illustrated in Example 8 of Chapter 19
Explain amortizable bond premium
The basis in a bond purchased at a premium is
reduced by the amortizable portion of the bond premium.18 Investors in taxable
bonds may elect to amortize the bond premium, but the premium on taxexempt
bonds must be amortized.19 The amount of the amortized premium
on taxable bonds is permitted as an interest deduction. Therefore, the election
enables the taxpayer to take an annual interest deduction to offset ordinary
income in exchange for a larger capital gain or smaller capital loss on
the disposition of the bond. No such interest deduction is permitted for taxexempt
bonds.
explain Easements?
An easement is the legal right to use another’s land for a special
purpose. Historically, easements were commonly used to obtain rights-of-way
for utility lines and roads. In recent years, grants of conservation easements
have become a popular means of obtaining charitable contribution deductions
and reducing the value of real estate for transfer tax (i.e., estate and gift)
purposes. Likewise, scenic easements are used to reduce the value of land as
assessed for ad valorem property tax purposes.
If the taxpayer does not retain any right to the use of the land, all of the
basis is assigned to the easement. However, if the use of the land is only
partially restricted, an allocation of some of the basis to the easement is
appropriate.
is the amount of the realized gain that is included in the taxpayer’s
gross income
recognized gain
is the amount of a realized
loss that is deductible for tax purposes
recognized loss
In certain cases, a realized gain or loss is not recognized upon the sale or other disposition
of property. One such case involves
nontaxable exchanges, which are covered
later in this chapter. Others include losses realized upon the sale, exchange,
or condemnation of personal use assets (as opposed to business or income-producing
property) and gains realized upon the sale of a residence. In addition, realized
losses from the sale or exchange of business or income-producing property
between certain related parties are not recognized.
A realized loss from the sale, exchange, or condemnation of personal use assets
(e.g., a personal residence or an automobile not used at all for business or
income-producing purposes) is recognized for tax purposes?
False It isn’t
pervades all of the tax rules relating to property
transactions. The doctrine derives its roots from the very essence of the income
tax—a tax on income.
recovery of capital doctrine
Under the recovery of capital doctrine as a general rule a taxpayer is entitled to recover?
the cost or other original basis of property acquired and is not taxed on
that amount.
The cost or other original basis of depreciable property is recovered through annual
depreciation deductions
The general guidelines for the relationship between the recovery of capital doctrine
and the realized and recognized gain and loss concepts are summarized as
follows: See page 13-8
.
A bargain purchase of property is an exception to the general rule for determining
basis. A bargain purchase may result when (2 things)
an employer transfers property to
an employee at less than the property’s fair market value (as compensation for services)
or when a corporation transfers property to a shareholder at less than the
property’s fair market value (a dividend).
The amount included in income either
as compensation for services or dividend income is the difference between
bargain purchase price and the property’s fair market value
When a taxpayer acquires multiple assets in a lump-sum purchase, the total cost must be
allocated among the individual assets.28 Allocation is necessary for several reasons:
• Some of the assets acquired may be depreciable (e.g., buildings), while others
may not be (e.g., land).
• Only a portion of the assets acquired may be sold.
• Some of the assets may be capital or § 1231 assets that receive special tax treatment
upon subsequent sale or other disposition.
If a business is purchased and goodwill is involved, a special allocation rule
applies. What is it?
Initially, the purchase price is assigned to the assets, excluding goodwill, to
the extent of their total fair market value. This assigned amount is allocated among
the assets on the basis of the fair market value of the individual assets acquired.
Goodwill is then assigned the residual amount of the purchase price. The resultant
allocation is applicable to both the buyer and the seller
In the case of nontaxable stock dividends, the allocation depends on whether the
dividend is a common stock dividend on common stock or a preferred stock dividend
on common stock. If the dividend is common on common, the cost of the
original common shares is
allocated to the total shares owned after the dividend
If the nontaxable stock dividend is preferred stock on common, the cost of the
original common shares is
allocated between the common and preferred shares on
the basis of their relative fair market values on the date of distribution
When a taxpayer receives property as a gift, there is no cost to the donee (recipient).
Thus, under the cost basis provision, the donee’s basis would be
zero. However,
this would violate the statutory intent that gifts not be subject to the income
tax.35 With a zero basis, if the donee sold the property, all of the amount realized
would be treated as realized gain. Therefore, a basis is assigned to the property
received.
For gifts a basis is assigned to the property
received depending on the following:
- The date of the gift.
- The basis of the property to the donor.
- The amount of the gift tax paid.
- The fair market value of the property.
Gift Basis Rules if No Gift Tax Is Paid. If the donee disposes of gift property in a transaction that results in a gain, the
basis to the donee is
is the same as the donor’s adjusted basis.36 The donee’s basis
in this case is referred to as the gain basis. Therefore, a realized gain results if the
amount realized from the disposition exceeds the donee’s gain basis.
Gift Basis Rules if No Gift Tax Is Paid. If the donee disposes of gift property in a transaction that results in a loss, the
basis to the donee is the
lower of the donor’s adjusted basis or the fair market
value on the date of the gift. The donee’s basis in this case is referred to as
the loss basis. Therefore, a realized loss results if the amount realized from the
disposition is less than the donee’s loss basis
The ______ _______ for property acquired by gift begins on the date the donor
acquired the property if the gain basis rule applies
holding period
The basis of property acquired from a decedent is generally the property’s
fair market
value at the date of death (referred to as the primary valuation amount). The
property’s basis is the fair market value six months after the date of death if the
executor or administrator of the estate elects the alternate valuation date for estate
tax purposes.
The
property’s basis is the fair market value six months after the date of death if the
executor or administrator of the estate elects the alternate valuation date for estate
tax purposes. This amount is referred to as the
alternative valuation amount
Nancy inherited all of the property of her father, who died in 2012. Her father’s adjusted
basis for the property at the date of death was $650,000. The property’s fair market value
was $3,750,000 at the date of death and $3,760,000 six months after death. What is Nancy’s basis?
The alternate
valuation date cannot be elected because the value of the gross estate has increased during
the six-month period. Nancy’s basis for income tax purposes is $3,750,000
Assume the same facts as in Example 27, except that the property’s fair market value
six months after death was $3,745,000. What is nancy’s basis?
If the executor elects the alternate valuation
date, Nancy’s basis for income tax purposes is $3,745,000
Assume the same facts as in the previous example, except that the property is distributed
four months after the date of the decedent’s death. At the distribution date, the
property’s fair market value is $3,747,500. Because the executor elected the alternate
valuation date, Nancy’s basis for income tax purposes is
$3,747,500
Explain deathbed gifts?
a donor makes a gift of appreciated
property to a dying person with the understanding that the donor (or the donor’s
spouse) will inherit the property upon the donee’s death.
What are rules on this?
If the time period between
the date of the gift and the date of the donee’s death is not longer than one year,
the usual basis rule (stepped-up basis) for inherited property may not apply. The
adjusted basis of such property inherited by the donor or his or her spouse from the
donee is the same as the decedent’s adjusted basis for the property rather than the
fair market value at the date of death or the alternate valuation date
Both the decedent’s share and the survivor’s share of community property have a basis
equal to
the fair market value on the date of the decedent’s death
The holding period of property acquired from a decedent is deemed to be
long term (held for the required long-term holding period). This provision applies regardless of whether the property is disposed of at a gain or at a loss
Section 267 provides that realized losses from sales or exchanges of property, directly
or indirectly, between certain related parties are not recognized. This loss disallowance
provision applies to several types of related-party transactions. The most common
involve? (2 things)
(1) members of a family and (2) an individual and a corporation in
which the individual owns, directly or indirectly, more than 50 percent in value of
the corporation’s outstanding stock.
Specifically, if a taxpayer sells or exchanges
stock or securities and within 30 days before or after the date of the sale or exchange
acquires substantially identical stock or securities, any loss realized from the sale or
exchange is not recognized because the transaction is a
wash sale
As discussed previously, losses from the sale of personal use assets are not recognized
for tax purposes, but losses from the sale of business and income-producing
assets are deductible?
True
Can a taxpayer convert a personal use asset that has declined
in value to business or income-producing use and then sell the asset to recognize a business or income-producing loss? The tax law prevents this practice by specifying
that the original basis for loss on personal use assets converted to business or incomeproducing
use is the
lower of the property’s adjusted basis or fair market value on
the date of conversion
The gain basis for converted property is
the property’s
adjusted basis on the date of conversion. The tax law is not concerned with gains
on converted property because gains are recognized regardless of whether property
is business, income-producing, or personal use
Three types of issues tend to complicate the determination of adjusted basis. What are they?
First,
the applicable tax provisions for calculating the adjusted basis depend on how the
property was acquired (e.g., purchase, taxable exchange, nontaxable exchange,
gift, or, inheritance). Second, if the asset is subject to depreciation, cost recovery,
amortization, or depletion, adjustments must be made to the basis during the time
period the asset is held by the taxpayer. Upon disposition of the asset, the taxpayer’s
records for both of these items may be deficient. For example, the donee
does not know the amount of the donor’s basis or the amount of gift tax paid by
the donor, or the taxpayer does not know how much depreciation he or she has
deducted. Third, the complex positive and negative adjustments encountered in
calculating the amount realized are also involved in calculating the adjusted basis
In a ______ ________, realized gains or losses are not recognized
nontaxable exchange. However,
the nonrecognition is usually temporary. The recognition of gain or loss is postponed
(deferred) until the property received in the nontaxable exchange is subsequently
disposed of in a taxable transaction. This is accomplished by assigning a carryover
basis to the replacement property.
Adjustments to Basis Table is on 13.2
.
What is Section 1031 on?
Like-Kind Exchanges
Section 1031 provides for nontaxable exchange treatment if the following requirements are satisfied (3 of them)
• The form of the transaction is an exchange.
• Both the property transferred and the property received are held either for
productive use in a trade or business or for investment.
• The property is like-kind property.
include business for business, business for investment,
investment for business, or investment for investment property
like-kind exchanges
Property held for
personal use, inventory, and partnership interests (both limited and general) do qualify under the like-kind exchange provisions?
False they do not
Do securities qualify for like-kind exchange treatment?
No
“The words ‘like-kind’ refer to
the nature or character of the property and not to its grade or quality. One kind or class of property may not … be exchanged for property of a different kind or class
The term like-kind is intended to be interpreted very broadly. However, three categories
of exchanges are not included.
First, livestock of different sexes do not
qualify as like-kind property. Second, real estate can be exchanged only for other
real estate, and personalty can be exchanged only for other personalty. For example,
the exchange of a machine (personalty) for an office building (realty) is not a
like-kind exchange.
Is a machine realty or personalty?
personalty
Real estate (or realty) includes
principally rental buildings,
office and store buildings, manufacturing plants, warehouses, and land.
Personalty includes
principally machines,
equipment, trucks, automobiles, furniture, and fixtures.
real property
located in the United States exchanged for foreign real property (and vice versa)
does qualify as like-kind property
False it does not
Another special provision applies if the taxpayers involved in the exchange are
related parties under § 267(b). To qualify for like-kind exchange treatment, the taxpayer
and the related party must not
dispose of the like-kind property received in
the exchange within the two-year period following the date of the exchange
The Regulations also provide for greater specificity in determining whether depreciable tangible personal property is of a like kind or class. Such property held for productive use in a business is of a like class only if
the exchanged property is
within the same general business asset class (as specified by the IRS in Revenue Procedure
87–57 or as subsequently modified) or the same product class (as specified by
the Department of Commerce)
The following are examples of general business asset classes:
- Office furniture, fixtures, and equipment.
- Information systems (computers and peripheral equipment).
- Airplanes.
- Automobiles and taxis.
- Buses.
- Light general-purpose trucks.
- Heavy general-purpose trucks
The transaction must involve a direct exchange of property to qualify as a like-kind
exchange. The sale of old property and the purchase of new property, even though
like kind, is generally not an exchange. However, if the two transactions are mutually
dependent, the IRS may treat them as a like-kind exchange. For example, if
the taxpayer sells an old business machine to a dealer and purchases a new one
from the same dealer, like-kind exchange treatment could result?
True
The Code provides
that the delayed swap will qualify as a like-kind exchange if the following
requirements are satisfied:
• Identification period. The new property must be identified within 45 days of the
date when the old property was transferred.
• Exchange period. The new property must be received by the earlier of the
following:
• Within 180 days of the date when the old property was transferred.
• The due date (including extensions) for the tax return covering the year of
the transfer.
If the taxpayer in a like-kind exchange gives or receives some property that is not
like-kind property, recognition may occur. Property that is not like-kind property,
including cash, is referred to as
boot
“property that is
not like-kind property
boot
The _______ of boot will trigger recognition of gain if there is realized gain
receipt
The receipt of boot will trigger recognition of gain if there is realized gain. The
amount of the recognized gain is the
lesser of the boot received or the realized gain
realized gain serves as the ceiling on recognition
The Code provides an alternative approach for determining the basis of likekind
property received:
Adjusted basis of like-kind property surrendered \+ Adjusted basis of boot given \+ Gain recognized − Fair market value of boot received − Loss recognized = Basis of like-kind property received This approach is logical in terms of the
Section 1033 provides that a taxpayer who suffers an involuntary conversion of
property may postpone recognition of gain realized from the conversion. The
objective of this provision is to provide relief to the taxpayer who has suffered hardship
and does not have the wherewithal to pay the tax on any gain realized from
the conversion. Postponement of realized gain is permitted to the extent the taxpayer
reinvests the amount realized from the conversion in replacement property.
The rules for nonrecognition of gain are as follows:
• If the amount reinvested in replacement property equals or exceeds the amount
realized, realized gain is not recognized
• If the amount reinvested in replacement property is less than the amount realized,
realized gain is recognized to the extent of the deficiency.
An _______ ________ results from the destruction (complete or partial), theft,
seizure, requisition or condemnation, or sale or exchange under threat or imminence
of requisition or condemnation of the taxpayer’s property
involuntary conversion
However, if either of the
following requirements is satisfied, the nonrecognition provision of § 1033 applies
to the severance damages:
• The severance damages are used to restore the usability of the remaining
property.
• The usefulness of the remaining property is destroyed by the condemnation,
and the property is sold and replaced at a cost equal to or exceeding the sum
of the condemnation award, severance damages, and sales proceeds.
replacement property tests table 13.3 is on 13-36
.
Nonrecognition of gain can be either mandatory or elective, depending on
whether
the conversion is direct (into replacement property) or indirect (into money).
If the conversion is directly into replacement property rather than into money,
nonrecognition of realized gain is optional?
False it’s mandatory
The tax consequences of the involuntary conversion of a personal residence
depend on
whether the conversion is a casualty or condemnation and whether a
realized loss or gain results
If the conversion is a condemnation, the realized loss is recognized?
False it isn’t recognized
Loss from
the condemnation of a personal use asset is never recognized?
True
A taxpayer’s personal residence is a
personal use asset Therefore, a realized loss
from the sale of a personal residence is not recognized
The two-year ownership and use requirement and the “only once every two years”
provision could create a hardship for taxpayers in certain situations that are
beyond their control. Thus, under the following special circumstances, the requirements
are waived
- Change in place of employment.
- Health.
- To the extent provided in the Regulations, other unforeseen circumstances.
For the health exception to apply, health must be the primary reason for the sale
or exchange of the residence.88 A sale or exchange that is merely beneficial to the
general health or well-being of the individual will not qualify. A safe harbor applies
if there is a physician’s recommendation for a change of residence (1) to obtain,
provide, or facilitate the diagnosis, cure, mitigation, or treatment of disease, illness,
or injury or (2) to obtain or provide medical or personal care for an individual suffering
from a disease, illness, or injury. If the safe harbor is not satisfied, then the
determination is made using a facts and circumstances approach. Examples that
qualify include the following:
• A taxpayer who is injured in an accident is unable to care for herself. She sells
her residence and moves in with her daughter.
• A taxpayer’s father has a chronic disease. The taxpayer sells his house in
order to move into the father’s house to provide the care the father requires
as a result of the disease.
• A taxpayer’s son suffers from a chronic disease. The taxpayer sells his house
and moves his family so that the son can begin a new treatment recommended
by the son’s physician that is available at a medical facility 100 miles away.
• A taxpayer suffers from chronic asthma. Her physician recommends that she
move to a warm, dry climate. She moves from Minnesota to Arizona.
For the unforeseen circumstances exception to apply, the primary reason for the
sale or exchange of the residence must be an event the taxpayer did not anticipate
before purchasing and occupying the residence.89 This requirement is satisfied
under a safe-harbor provision by any of the following:
• Involuntary conversion of the residence.
• Natural or human-made disasters or acts of war or terrorism resulting in a casualty
to the residence.
• Death of a qualified individual.
• Cessation of employment that results in eligibility for unemployment
compensation.
• Change in employment or self-employment that results in the taxpayer being
unable to pay housing costs and reasonable basic living expenses for the taxpayer’s
household.
• Divorce or legal separation.
• Multiple births resulting from the same pregnancy.
The amount of the available § 121 exclusion on the sale of a principal residence is
250,000 If the realized gain does not exceed $250,000, there is no recognized gain.
Realized gain is calculated in the normal manner. The amount realized is
the selling
price less the selling expenses, which include items such as the cost of advertising
the property for sale, real estate broker commissions, legal fees in connection
with the sale, and loan placement fees paid by the taxpayer as a condition of arranging financing for the buyer.
If a married couple files a joint return, the $250,000 amount is increased to
$500,000 if the following requirements are satisfied:91
• Either spouse meets the at-least-two-years ownership requirement.
• Both spouses meet the at-least-two-years use requirement.
• Neither spouse is ineligible for the § 121 exclusion on the sale of the current
principal residence because of the sale of another principal residence within
the prior two years.
Starting in 2008, a surviving spouse can continue to use the $500,000 exclusion
amount on the sale of a personal residence for the next two years following the
year of the deceased spouse’s death?
True
As discussed earlier in Requirements for Exclusion Treatment, partial § 121 exclusion
treatment may be available when not all of the statutory requirements are satisfied.
Under the relief provision, the § 121 exclusion amount ($250,000 or
$500,000) is multiplied by
a fraction, the numerator of which is the number of
qualifying months and the denominator of which is 24 months. The resulting
amount is the excluded gain
A vacation home does not qualify for the § 121 exclusion because it does not satisfy
the requirement of being the taxpayer’s principal residence?
True
To be eligible for the § 121 exclusion, the residence must have been owned and
used by
the taxpayer as the principal residence for at least two years during the
five-year window (subject to partial exclusion treatment under the relief provision).
Whether property is the taxpayer’s principal residence “depends upon all of the
facts and circumstances in each case
A residence does not have to be a house. For example, what can qualify?
a houseboat, a house
trailer, or a motor home can qualify
Exchange of Stock for Property—§ 1032
Under § 1032, a corporation
does not recognize gain or loss on the receipt of
money or other property in exchange for its stock (including treasury stock).
In other words, a corporation does not recognize gain or loss when it deals in its
own stock. This provision is consistent with the accounting treatment of such
transactions.
Certain Exchanges of Insurance Policies—§ 1035
Under § 1035,
no gain or loss is recognized from the exchange of certain insurance
contracts or policies. The rules relating to exchanges not solely in kind and the basis of the property acquired are the same as under § 1031. Exchanges qualifying
for nonrecognition include the following:
• The exchange of life insurance contracts.
• The exchange of a life insurance contract for an endowment or annuity
contract.
• The exchange of an endowment contract for another endowment contract
that provides for regular payments beginning at a date not later than the date
payments would have begun under the contract exchanged.
• The exchange of an endowment contract for an annuity contract.
• The exchange of annuity contracts.
Exchange of Stock for Stock of the Same
Corporation—§ 1036
Section 1036 provides
that a shareholder does not recognize gain or loss on the
exchange of common stock solely for common stock in the same corporation or
from the exchange of preferred stock for preferred stock in the same corporation.
Exchanges between individual shareholders as well as between a shareholder and
the corporation are included.
Certain Reacquisitions of Real Property—§ 1038
Under § 1038,
no loss is recognized from the repossession of real property sold on
an installment basis. Gain is recognized to a limited extent.
Transfers of Property between Spouses or Incident to
Divorce—§ 1041
Section 1041 provides that
transfers of property between spouses or former spouses incident
to divorce are nontaxable transactions. Therefore, the basis to the recipient is a
carryover basis. To be treated as incident to the divorce, the transfer must be
related to the cessation of marriage or occur within one year after the date on
which the marriage ceases.
Section 1041 also provides for nontaxable exchange treatment on property
transfers between spouses during marriage. The basis to the recipient spouse is a carryover
basis.
Rollovers into Specialized Small Business Investment
Companies—§ 1044
A postponement opportunity is available for some sellers of publicly traded securities
under § 1044. If the amount realized is reinvested in the common stock or
partnership interest of a specialized small business investment company (SSBIC),
the realized gain is
not recognized. Any amount not reinvested will trigger recognition
of the realized gain to the extent of the deficiency. The taxpayer must reinvest
the proceeds within 60 days of the date of sale to qualify. In calculating the basis of
the SSBIC stock, the amount of the purchase price is reduced by the amount of the
postponed gain
Statutory ceilings are imposed on the amount of realized gain that can be postponed
for any taxable year as follows:
• For an individual taxpayer, the lesser of:
• $50,000 ($25,000 for married filing separately).
• $500,000 ($250,000 for married filing separately) reduced by the amount of
such nonrecognized gain in prior taxable years.
• For a corporate taxpayer, the lesser of:
• $250,000.
• $1 million reduced by the amount of such nonrecognized gain in prior taxable
years.
Rollover of Gain from Qualified Small Business Stock into
Another Qualified Small Business Stock—§ 1045
Under § 1045,
realized gain from the sale of qualified small business stock held for
more than six months may be postponed if the taxpayer acquires other qualified
small business stock within 60 days. Any amount not reinvested will trigger the recognition
of the realized gain on the sale to the extent of the deficiency.
In calculating
the basis of the acquired qualified small business stock, the amount of the
purchase price is reduced by
the amount of the postponed gain.
Qualified small business stock is stock of a qualified small business that is
acquired by
the taxpayer at its original issue in exchange for money or other property
(excluding stock) or as compensation for services
A qualified small business is
a domestic corporation that satisfies the following requirements:
• The aggregate gross assets prior to the issuance of the small business stock do
not exceed $50 million.
• The aggregate gross assets immediately after the issuance of the small business
stock do not exceed $50 million.
Disallowed Losses
Section 267 Disallowed Losses
This is so even in light of the
provision that permits the related-party buyer to offset his or her realized gain by the related-party seller’s disallowed loss. Even with this offset, several inequities
exist. First, the tax benefit associated with the disallowed loss ultimately is realized by the
wrong party (the related-party buyer rather than the related-party seller). Second, the
tax benefit of this offset to the related-party buyer does not occur until the buyer disposes
of the property. Therefore, the longer the time period between the purchase and
disposition of the property by the related-party buyer, the less the economic benefit.
Third, if the property does not appreciate to at least its adjusted basis to the related-party
seller during the time period the related-party buyer holds it, part or all of the disallowed
loss is permanently lost. Fourth, because the right of offset is available only to the original
transferee (the related-party buyer), all of the disallowed loss is permanently lost if
the original transferee subsequently transfers the property by gift or bequest.
The wash sales provisions can be avoided if
the security that was sold is replaced
within the statutory time period with a similar rather than a substantially identical
security. For example, a sale of Dell, Inc. common stock accompanied by a purchase
of Hewlett-Packard common stock is not treated as a wash sale.
Because application of the like-kind exchange provisions is mandatory rather than
elective, in certain instances, it may be preferable to
avoid qualifying for § 1031
nonrecognition.
If the like-kind exchange provisions
do not apply, the end result may be the recognition of capital gain in exchange for
a higher basis in the newly acquired asset. Also, the immediate recognition of gain
may be preferable in certain situations. Examples where immediate recognition is
beneficial include the following:
- Taxpayer has unused net operating loss carryovers.
- Taxpayer has unused general business credit carryovers.
- Taxpayer has suspended or current passive activity losses.
Qualification for § 121 Exclusion
The key requirement for the § 121 exclusion is that the taxpayer must have owned and used
the property as a principal residence for at least two years during the five-year window. As
taxpayers advance in age, they quite frequently make decisions such as the following:
• Sell the principal residence and buy a smaller residence or rent the principal
residence.
• Sell vacation homes they own.
• Sell homes they are holding as rental property
