Unit 8: Nonrecognition Property Transactions Flashcards
What is Section 121 Exclusion rule?
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.
How do you report gains from sale of a residence that is not the main home?
as taxable income
Where do you report gains on sale of a home used for business purposes or as a rental property?
Form 4797, Sale of Business Property
Eligibility requirements for Section 121
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
Ownership and Use Test
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.
How is the Section 121 applied for Married Homeowners
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.
What is the special rule for the holding period applied to a home that is transferred by a spouse in a divorce?
the receiving spouse is considered to have owned the home during any period of time that the transferor owned it.
Section 121 rule on legally same-sex couples?
Eligible up to $500,000 exclusion from gain on jointly filed returns
SEction 121 rule on unmarried couple who owns and lives in a house together and later gets married.
eligible for the $500,000 if they file a joint return
Section 121 rule on Unrelated Individuals
may take up to $250,000 exclusion individually on separate returns if they meet the ownership and use tests
Section 121 rule for surviving spouses
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
Section 121 exclusion rule for Military Personnel
The five-year period can be suspended for up to ten years
Section 121 exclusion for disabled taxpayers
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
Reduced Exclusion rule
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”
Reduced exclusion calculation
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)
Gain on sale of vacant land that was used in connection with a principal residence
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
Depreciation recapture
taxpayer is required to report all or a portion of the prior depreciation deductions as ordinary income in the year of the sale
Unrecaptured Section 1250 gain
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
Like-Kind Exchange or Section 1031 exchange (definition)
it occurs when a taxpayer exchanges real property for similar property; applies to real estate
Section 1031 exchange rule
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
All Conditions for nonrecognition treatment of Section 1031 that must be followed:
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
Form used to report like-kind exchanges
Form 8824, Like-kind Exchanges
Nonqualifying Section 1031 exchanges
personal use realty, foreign real-estate, inventory
Taxable exchanges
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
Boot
cash or other property added to an exchange to compensate for a difference in the values of properties traded
How would a taxpayer recognize gains if he receives boot.
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
mortgage boot or debt reduction boot rule
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.
Basis of Property Received in a Like-kind Exchange
the basis of property acquired is the basis of the property given up with some adjustments.
if a taxpayer trades property and also pays money as part of the exchange what is the basis of the property received?
the basis of the property given up plus the money paid
What is the basis of the property received if a taxpayer receives boot in connection with an exchange and recognizes gain?
it is equal to the basis of the property given up plus the amount of gain recognized
Related party Like-kind Exchange rules
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
What is the exception to the 2 year holding period rule for related party exchanges?
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
Section 1033 Exchange (Involuntary Conversion)
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)
Section 1033 exchange rule
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
Replacement period for real property held for investment or used in a trade or business in a Section 1033 exchange
3 years
Replacement period for livestock that is involuntary converted because of weather-related conditions
4 years
replacement period for a general involuntary conversion
2 years after the end of the first tax year in which any part of the gain is realized
replacement period of a main home in a federally declared disaster areas
4-5 years
What is the basis of the property if the taxpayer reinvests in replacement property similar to the converted property?
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
What is a condemnation?
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)
What is the time period for replacing condemned property?
similar to other 1033 exchanges
What is the rule on condemnation of a main home?
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
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?
realized gain: $400 - 250 = $150
Taxable or recognized gain: $400 - 380 = $20
Deferred gain: $150 - 20 = $130
New basis: $380 - 130 = $250
