Unit 8: Nonrecognition Property Transactions

Question 1

What is Section 121 Exclusion rule?

Answer 1

A taxpayer may exclude the gain from the sale of a main home up to $250,000 for single and $500,000 for joint filers.

Question 2

How do you report gains from sale of a residence that is not the main home?

Answer 2

as taxable income

Question 3

Where do you report gains on sale of a home used for business purposes or as a rental property?

Answer 3

Form 4797, Sale of Business Property

Question 4

Eligibility requirements for Section 121

Answer 4

TP must have:

sold his main home
meet ownership and use tests
not have excluded gain in the two years prior to the current sale of a home

Question 5

Ownership and Use Test

Answer 5

During the five-year period ending on the date of the sale, the TP must have:

Owned the home for at least two years (ownership), and Lived in the home as his main home for at least two years (use test)

the required two years of ownership does not have to be continuous

Longer breaks, such as a one year sabbatical, are not included.

Question 6

How is the Section 121 applied for Married Homeowners

Answer 6

They can exclude gain up to $500,000 if they meet all of the following:

filed a joint return

either spouse meets the ownership test

bout spouses meet the use test

neither spouse has excluded gain in the two years before the current sale of the home.

Question 7

What is the special rule for the holding period applied to a home that is transferred by a spouse in a divorce?

Answer 7

the receiving spouse is considered to have owned the home during any period of time that the transferor owned it.

Question 8

Section 121 rule on legally same-sex couples?

Answer 8

Eligible up to $500,000 exclusion from gain on jointly filed returns

Question 9

SEction 121 rule on unmarried couple who owns and lives in a house together and later gets married.

Answer 9

eligible for the $500,000 if they file a joint return

Question 10

Section 121 rule on Unrelated Individuals

Answer 10

may take up to $250,000 exclusion individually on separate returns if they meet the ownership and use tests

Question 11

Section 121 rule for surviving spouses

Answer 11

the taxpayer is considered to have owned and lived in a home during any period of time that the spouse owned and lived in it as a main home (provided they didn’t remarry before the date of sale). They may exclude up to $500,000 of gain even if he sells the home within two years from the date of death of the deceased spouse

Question 12

Section 121 exclusion rule for Military Personnel

Answer 12

The five-year period can be suspended for up to ten years

Question 13

Section 121 exclusion for disabled taxpayers

Answer 13

the TP is considered to have lived in the home during any time that he is forced to live in a licensed facility. The TP must still meet the ownership test

Question 14

Reduced Exclusion rule

Answer 14

a taxpayer who owned and used a home for less than two years or who has used the home sale exclusion within the prior two-year period may be able to claim a reduced exclusion if a home sale occurred because of “unforeseen circumstances”

Question 15

Reduced exclusion calculation

Answer 15

Exclusion amount multiplied by a fraction

numerator: the shorter of the period the taxpayer owned and used the home as a principal residence during the five-year period ending on the sale date, or the period between the last sale for which the taxpayer claimed the exclusion and the sale date for the home currently being sold.
denominator: two years or the equivalent in months or days (730 days or 24 mo’s)

Question 16

Gain on sale of vacant land that was used in connection with a principal residence

Answer 16

gains are excluded if the land sale occurs within two years before or after the sale of the home.

the land must have been adjacent to the land on which the home was located, and the taxpayer must have owned and used the land as part of their home

Question 17

Depreciation recapture

Answer 17

taxpayer is required to report all or a portion of the prior depreciation deductions as ordinary income in the year of the sale

Question 18

Unrecaptured Section 1250 gain

Answer 18

a tax provision designed to recapture the portion of a gain related to previously used depreciation allowances applicable to the sale of depreciable real estate

Question 19

Like-Kind Exchange or Section 1031 exchange (definition)

Answer 19

it occurs when a taxpayer exchanges real property for similar property; applies to real estate

Question 20

Section 1031 exchange rule

Answer 20

if the exchange qualifies for Section 1031, and if no other property is given or received, the taxpayer does not recognize any resulting gain and cannot deduct any losses until he later disposes of the property received

Question 21

All Conditions for nonrecognition treatment of Section 1031 that must be followed:

Answer 21

the property must be held for investment or for productive use in a business

the property must not be “held primarily for sale” (such as inventory

there must be an actual exchange of two or more assets or properties

for deferred exchanges, the property to be received must be identified in writing (or actually received) within 45 days after the date of transfer of the property given up

a “qualified intermediary” must be procured to facilitate the exchange using escrow accounts

the replacement property in a section 1031 exchange must be received by the earlier of:

the 180th day after the date on which the property given up was transferred, or the due date, including extensions, of the tax return for the year in which the transfer of that property occurs

Question 22

Form used to report like-kind exchanges

Answer 22

Form 8824, Like-kind Exchanges

Question 23

Nonqualifying Section 1031 exchanges

Answer 23

personal use realty, foreign real-estate, inventory

Question 24

Taxable exchanges

Answer 24

if a taxpayer receives property in exchange for other property that does not meet the like-kind exchange rules, he may need to recognize gain if the FMV of the property received is greater than the adjusted basis of the property exchanged. His basis in the property received is generally its FMV at the time of the exchange

Question 25

Boot

Answer 25

cash or other property added to an exchange to compensate for a difference in the values of properties traded

Question 26

How would a taxpayer recognize gains if he receives boot.

Answer 26

the taxpayer who receives boot may have to recognize taxable gain to the extent of the cash and FMV of unlike property received, but the recognized gain when boot is received is still limited to the realized gain on the like-kind property.

the amount considered boot would be reduced by any qualified costs paid in connection with the transaction

Question 27

mortgage boot or debt reduction boot rule

Answer 27

when an exchange involves property that is subject to liability, the assumption of the liability is treated as if it was a transfer of cash and thus considered boot by the party who is relieved of the liability

if each property in an exchange transferred is subject to a liability, a taxpayer is treated as having received boot only if he is relieved of a greater liability than the liability he assumes

when there is mortgage boot and cash boot in the same transaction, the mortgage boot paid does not offset any cash boot received.

Question 28

Basis of Property Received in a Like-kind Exchange

Answer 28

the basis of property acquired is the basis of the property given up with some adjustments.

Question 29

if a taxpayer trades property and also pays money as part of the exchange what is the basis of the property received?

Answer 29

the basis of the property given up plus the money paid

Question 30

What is the basis of the property received if a taxpayer receives boot in connection with an exchange and recognizes gain?

Answer 30

it is equal to the basis of the property given up plus the amount of gain recognized

Question 31

Related party Like-kind Exchange rules

Answer 31

If either party disposes of the property within two years after a 1031 exchange, the exchange is disqualified from nonrecognition treatment; any gain or loss deferred in the original transaction must be recognized in the year the disposition occurs

Question 32

What is the exception to the 2 year holding period rule for related party exchanges?

Answer 32

The two-year holding period does not apply:

if one of the parties involved in the exchange subsequently dies

if the property is subsequently converted in an involuntary exchange

if the IRS establishes that the exchange and subsequent disposition were not mainly done for tax avoidance purposes

Question 33

Section 1033 Exchange (Involuntary Conversion)

Answer 33

Occurs when a property is lost, damaged, or destroyed, and the taxpayer receives an award, insurance money, or some other type of payment as a result of:

casualty, disaster, or theft,
the loss of a property due to an exercise of eminent domain, or
condemnation (or threat of condemnation)

Question 34

Section 1033 exchange rule

Answer 34

a taxpayer reports the gain or deducts the loss in the year the gain or loss is realized but this doesn’t mean that the involuntary conversion is a taxable event

A taxpayer can elect to defer reporting the gain on an involuntary conversion if he receives proceeds from insurance or another source and reinvests in property that is similar to the converted property

replacement property cannot be purchased from a related party to qualify for nonrecognition treatment

Question 35

Replacement period for real property held for investment or used in a trade or business in a Section 1033 exchange

Answer 35

3 years

Question 36

Replacement period for livestock that is involuntary converted because of weather-related conditions

Answer 36

4 years

Question 37

replacement period for a general involuntary conversion

Answer 37

2 years after the end of the first tax year in which any part of the gain is realized

Question 38

replacement period of a main home in a federally declared disaster areas

Answer 38

4-5 years

Question 39

What is the basis of the property if the taxpayer reinvests in replacement property similar to the converted property?

Answer 39

It is the same basis as the converted property on the date of the conversion subject to the following adjustments:

decreased by:

any loss a taxpayer recognizes on the involuntary conversion

any money a taxpayer receives that he does not spend on similar property

increased by:

any gain a taxpayer recognizes on the involuntary conversion

any additional costs of acquiring the replacement property

Question 40

What is a condemnation?

Answer 40

it is a specific type of involuntary conversion when a property is legally condemned due to being dangerous to public health and safety or a legal process in which private property is taken from its owner for public use (eminent domain)

Question 41

What is the time period for replacing condemned property?

Answer 41

similar to other 1033 exchanges

Question 42

What is the rule on condemnation of a main home?

Answer 42

if a TP has a gain because his main home is condemned or destroyed, he can generally exclude the gain as if he had sold the home under section 121 exclusion.

any gains above the exclusion amounts may be potentially deferred under section 1033 if the taxpayer reinvests the proceeds in another, similar property

Question 43

You own an apartment complex with a basis of $250,000. You receive an insurance settlement of $400,000 after the building was destroyed. You purchase another building for $380,000. What is your realized gain? your taxable or recognized gain? your deferred gain under section 1033 exchange? and your basis on the replacement property?

Answer 43

realized gain: $400 - 250 = $150

Taxable or recognized gain: $400 - 380 = $20

Deferred gain: $150 - 20 = $130

New basis: $380 - 130 = $250