Study Unit 9

Question 1

Give examples of capitalized costs.

Answer 1

• Acquisition cost and facilitation payments
• An improvement expenditure that
  
  • Results in a betterment to the unit of property
  • Adapts the unit of property to a new or different use
  • Results in a restoration of the unit of property
• Cost necessary to prepare a real or personal property for its intended use

Question 2

Should costs and losses associated with demolishing a structure be included in the cost of the new building?

Answer 2

The are allocated to the cost of the land.

Question 3

To whom do the uniform capitalization rules not apply?

Answer 3

The uniform capitalization rules do not apply to producers and resellers (who maintain inventories) if the company’s average annual gross receipts (for the past 3 years) do not exceed $26 million.

Question 4

What are de minimis expenses?

Answer 4

De minimis expenses are so small that they are not worth tracking for capitalization. They may be expensed.

Type of Taxpayer Expendable Amount

Taxpayer without audited or $2,500 per invoice or item (if the company uses the
Other approved financial same policy for financial reporting purposes)
Statements

Taxpayers with audited or $5,000
Other approved financial
Statements

Question 5

When more than one asset is purchased for a lump sum, how is the allocated cost of an individual asset calculated?

Answer 5

Allocated cost = (FMV of asset/FMV of all assets purchased x lump sum purchase price

Question 6

Describe the residual method to allocate the purchase price to individual assets in a group of assets acquired.

Answer 6

The residual method allocates purchase price to asset categories up to FMV in the following order:

1. Cash and cash equivalents
2. Near-cash items
3. Accounts receivable, mortgages credit card receivables
4. Inventory
5. Assets not listed in 1 through 4 (e.g., equipment, building, land)
6. Section 197 intangibles
7. Goodwill and going-concern value

Question 7

What is the donee’s basis in a gifted property when, on the date of gift, the property’s fair market value is greater that the adjusted basis?

Answer 7

The donee’s basis is the donor’s basis (transferred basis), increased for any gift tax paid attributable to appreciation.

Question 8

What are the donee’s basis and gain or loss in the gifted property when, on the date of gift, the property’s fair market value is less that the adjusted basis?

Answer 8

The donee had a dual basis for the property

The gift is later sold for… Basis Gain or Loss Recognized

< FMV at the date of gift FMV Loss

> AB at the date of gift AB Gain

FMV < selling price < AB Selling None
Price

Question 9

What is the depreciable basis of a gifted property if it is converted from personal to business use?

Answer 9

If converted from personal to business use, the basis is the lesser of

* FMV on the date of conversion or
* Transferor’s AB.

Question 10

What is the basis in and holding period of inherited property?

Answer 10

Basis Holding Period

Alternative FMV 6 months Long-term
Measurement after the date
Date elected of death

Alternative FMV on the Long-term
Measurement date of
Date not elected death

Question 11

What are the recovery periods for (1) computers, office machinery, cars, trucks, and R&E equipment and (2) office furniture and equipment?

Answer 11

MACRS Recover Period Type of Personal Property

5 years									Computers, office machinery, cars, trucks, and R&E equipment

7 years									Office furniture and equipment

Question 12

What are the recovery periods for (1) residential rental property and (2) nonresidential real property?

Answer 12

Straight-line Recovery Period Type of Real Property

		27.5 years						Residential rental property

		39 years							Nonresidential real property

Question 13

What is the mid-year convention?

Answer 13

Under the mid-year convention, personal property is treated as placed into service at the midpoint of

* the year acquired and
* The year disposed of.

NOTE: The IRS MACRS table incorporated the mid-year convention in the first year but not the year of disposal. Cost recovery in the first year is the product of cost basis and the factor. In the year of disposal, cost of recovery is half of that product.

Question 14

What is the mid-month convention?

Answer 14

Under the mid-month convention, real property is treated as placed into service at the midpoint of

* The month acquired and
* The month disposed of.

NOTE: The IRS table incorporates the mid-month convention in the first year but not the year of disposal. Cost recovery in the first year is the product of cost basis and the factor. In the year of disposal, cost of recovery is half of that product.

Question 15

What is the mid-quarter convention?

Answer 15

The mid-quarter convention applies when over 40% of all personal property is placed in service during the last quarter of the year.

It treats each asset as placed in service at the midpoint of the quarter in which it was placed in service.

Question 16

What is the recovery period if a property is placed in service and disposed of in the same year?

Answer 16

No depreciation is allowed (recovery period = 0).

Question 17

Describe the Section 179 expense.

Answer 17

Under Sec. 179, a taxpayer may elect to deduct all or part of the cost of personal property and qualified real property used in the active conduct of a trade or business.

The deduction is not more than

* $1,050,000 (this amount is reduced dollar for dollar if the asset acquisitions for the year are over $2,620,000) or
* Taxable income from the active conduct of any trade or business during the tax year.

Question 18

Generally, how are intangible assets amortized for tax purposes?

Answer 18

Over 15 years, using the straight-line method.

Question 19

How is the periodic depletion expense calculated under cost depletion?

Answer 19

Periodic Adjusted Basis in x Mineral Units
depletion mineral property/ Sold during year
Expense Estimated mineral
units available
at year’s start

Question 20

How is the periodic depletion expense calculated under percentage depletion?

Answer 20

Percentage depletion is the lower of

* Taxable income before depletion x 50% or
* Gross income x statute percentage

Question 21

Define capital assets.

Answer 21

Capital assets are property held either for personal use of the production of income. It excludes property held primarily for sale to customers in the ordinary course of trade or business (i.e., inventories)

Question 22

How is the realized gain or loss from the disposition of property calculated?

Answer 22

Money received (or to be received)
\+	FMV of other property received
\+	Liability relief
-	Money or other property given up
-	Selling expenses
-	Liabilities assumed
=	Amount Realized
-	Adjusted Basis
=	Gain (loss) realized

Question 23

Describe the wash sales rule.

Answer 23

A wash sale occurs when substantially the same securities are purchased within 30 days before or after being sold at a loss.

When a wash sale occurs,

* The realized loss is not recognized (disallowed).
* The disallowed loss is added t the basis of the security purchased in the wash sale.
* The holding period of the security sold is included in that of the security purchased.

Question 24

How are the holding periods of the property in a short sale determined?

Answer 24

If, prior to the short sale date, Holding period of property in short sale runs…
The taxpayer….

Owns substantially identical Date the property owned was originally
Property purchased to date of short sale

Does not own substantially Date the property was purchased to
Identical property date the short sale is closed out

Question 25

How is the character (capital or ordinary) of gains or losses on a short sale determined?

Answer 25

The character of the gains or losses on a short sale is determined by the character of the property used to close the sale. If the property used to close the sale is a capital asset, the gain or loss is a capital gain or loss.