1. Chapter 11 Property Dispositions Howard Godfrey, Ph. D
Chapter 11 Property Dispositions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited October 27, T13F-Chp-11-1-Property-Dispositions-2013

4. Sale to Related Party
Losses on sales to related parties are disallowed
Related parties include brothers, sisters, spouse, ancestors and lineal descendents, as well as a more-than 50% owned corporation
If related buyer later sells property at a gain, this gain can be reduced (not below zero) by the seller’s previously disallowed loss

5. Loss on Sale to Relative - 1
In April 2013, Pam sold stock with a cost basis of $17,000, to Lisa, her sister, for $10,000.
In September 2013, Lisa sold the same shares of stock to her neighbor, Niki, for $20,000.
What is Lisa's gain for 2013?
a. $0 b. $3,000 c. $7,000 d. $10,000

11. Amount Realized
Amount realized is gross sales price less selling expenses.
Gross sales price is the amount received by the seller from the buyer and includes:
Cash and FMV of property or services received
Seller’s debt assumed by or paid by the buyer
Gross sales price is decreased by amounts given to the buyer by the seller:
Buyer’s expenses paid by or assumed by seller

12. Effect of Debt Assumption
Assumption of debt is treated as a realization of income similar to paying or receiving cash
Assumption of the seller’s debt increases sales price (as if buyer paid cash)
Assumption of debt by the seller decreases the sales price (as if buyer received cash)

13. Types of Dispositions
Sale – seller receives cash or cash equivalents in return for asset
Exchange – taxpayer receives property other than cash or cash equivalents in return for property transferred to the other party
Involuntary conversion – complete or partial destruction due to events not under control of taxpayer (condemnations, thefts, and casualties)
Abandonment – property is permanently withdrawn from use (loss = basis of asset)

15. Recognized Gain or Loss
Almost all realized gains are recognized (taxable)
Losses are usually only recognized (deductible) if they are
Incurred in a business
Incurred in an investment activity
Casualty or theft losses

16. Allan’s Gains and Losses-1 Allan received $5,000 cash and an auto worth $15,000 in exchange for a lot that was encumbered by a $13,000 liability that the buyer assumed. a. What is the amount realized on this sale? b. If Allan had a basis of $34,000 in the land, what is his gain or loss on the sale?

17. Allan’s Gains and Losses-2 c
Allan’s Gains and Losses-2 c. If Allen has owned the land for five years as an investment, what is the character of the gain or loss? d. How would your answer to (c) change if the land had been used by Allan’s business as a parking lot?

18. Allan’s Gains and Losses-13 a
Allan’s Gains and Losses-13 a. $5,000 + $15,000 + $13,000 = $33,000 amount realized. b. $33,000 - $34,000 = $1,000 loss c. Long-term capital loss. d. If the property had been used in a business, it would be Section property and it would be a Section loss.

21. Concept Review
Under the capital recovery concept, a property’s basis may be recovered before any taxable income is realized from disposal of property.
No income or loss is recognized for tax purposes until it has first been realized.

22. Character of Gain or Loss
Amount realized from disposition
less: Adjusted basis of property
Realized gain (loss)
less: Allowed deferral
Recognized gain (loss)
Character of gain (loss)
Ordinary
Section 1231
Capital
Personal Use
Loss not deductible
Gains

23. Capital Gains and Losses
A capital asset is “any asset other than inventory, receivables, copyrights, assets created by the taxpayer, and depreciable or real property used in a trade or business.”
A collectible gain or loss results from the sale or exchange of works of art, gems, metals, antiques, rugs, stamps, wine, etc. held more than 12 months.

24. Capital Gains and Losse Holding Period
The holding period for capital assets is how long the taxpayer owned the asset.
Long-term means the asset was held for more than 12 months.
Short-term means the asset was held for < 12 months.
Determining holding period is the first step in determining tax treatment.

25. Capital Gains and Losses Netting Procedures
The following are treated as long-term gains and losses for the netting procedure
Collectible gains and losses
Gains on qualified small business stock
Unrecaptured Section 1250 gain

26. Capital Gains and Losses Netting Procedures
Long-term gains
netted against
Long-term losses
Net Long-term
Gain or Loss =
Short-term gains
netted against
Short-term losses
Net Short-term
Gain or Loss =

27. Capital Gains and Losses Netting Procedures
If one is a loss and one is a gain, then:
Net Short-term Gain or Loss
netted against
Net Long-term Gain or Loss
Net Capital
Gain or Loss =
If both are losses or both are gains, no further netting is done.

30. Tax Treatment for Net Long-term Gain Individual Taxpayers
Net long-term gain (minus net collectibles gain, gain on qualified small business stock, and unrecaptured Section 1250 gain) is taxed at a maximum rate of 15%
5% if marginal tax rate < 15%

31. Adjusted Net Capital Gains (ANCG)
Are taxed at the 15% or 5% rates.
ANCG = NLTG - [Net Collectible Gain + Small Business Gain - NSTCL - LTL carryovers]* - unrecaptured Sec gain + Eligible Dividend Income
* called: “28% rate gain”

32. Tax Treatment for Net Long-term Gain Individual Taxpayers
Collectibles held more than 12 months are taxed at a maximum rate of 28%.
50% of the gain on qualified small business stock is excluded, the remainder taxed at a maximum rate of 28%.
Unrecaptured Section 1250 gain is taxed at a maximum rate of 25%.

35. Example Results: “28% rate gain” = ($10,000 -$5,000 - $2,000) = $3,000
ANCG = $15,000 - $3,000 = $12,000
NLTCG is added to taxable income
Net capital gain, taxed at 15% = $12,000
Collectibles gain, taxed at 28% = $3,000

36. Tax Treatment for Net Short-term Gain Individual Taxpayers
Net short-term capital gain is taxed as ordinary income (i.e., taxpayer’s marginal tax rate).

37. Gain Treatment for Corporations
Corporations do not receive special treatment for capital gains.

38. Tax Treatment for Net Loss
Net Capital Loss
Individuals may use only $3,000 to offset other income
Excess loss is carried forward indefinitely and retains its short term or long term class for netting purposes
Corporations cannot deduct a net capital loss
Excess loss carried back 3 then forward 5 years to offset capital gains

45. Sharon’s Capital Asset Sales-1
Sharon has salary income of $68,000,
a net short-term capital gain of $15,000, and a net long-term capital loss of $24,000.
What is Sharon’s adjusted gross income if she has no other income items?

48. Qualified Small Business Stock
Qualified stock
Held for more than 5 years
Purchased directly from corporation
Corporation with gross assets < $50 million
Purchased after 8/10/93
Up to 50% of gain may be excluded
Limited to the greater of
10 times basis in the stock, or
$10 million for each small business
Exclusion is based on a 28% rate

49. Qualified Small Business Stock Rollover Provision
Individual taxpayers may rollover gain on Qualified Small Business Stock
Held more than 6 months
Replaced with other small business stock purchased within +/- 60 days
Basis in new stock is reduced by deferred gain
Must recognize gain if the gain realized is more than the cost of the replacement stock

50. Planning Strategies Net Capital Gain position
Sell assets with unrealized losses
Net Capital Loss position
Sell assets with unrealized gains
Optimize at $3,000 (deduct $3,000 from Ord. Inc.)
Worthless Securities
Worthlessness deemed to occur on the last day of the year
Realized loss = basis in the worthless security
Basis determination
FIFO
Specific identification

52. Section 1231 Asset Definition
Asset used in a trade or business
not for investment
Held long term

53. Section 1231
Net Section 1231 gains may be allowed capital gain treatment even though they arise from “ordinary” assets.
Net Sec losses are ordinary.

58. Net all business casualty
Section 1231 Netting
Net all business casualty
gains and losses
1st Step:
loss
gain
All gains and losses
are ORDINARY
Net all other Sec. 1231
gains and losses
loss
2nd Step:
gain
gains are taken to Step 3

59. Section 1231 Netting Gains from Step 2 Gains are ORDINARY
to the extent of any
previous Sec losses
3rd Step:
Apply lookback rule
Remaining Sec gain is treated as
a net long-term capital gain netted with
other capital gains and losses

60. Section 1231 Netting Results
Net Section 1231 gain is classified as long-term capital gain
Lookback rule may reclaim some gains as ordinary
to the extent of Section 1231 loss reported in the previous 5 years
Net Section 1231 loss is classified as ordinary loss

61. Section 1231 Disposition of Rental Activities
Disposition of rental property held for the production of income (investment) yields capital gain or loss
Disposition of rental property used in a trade or business yields Section 1231 gain or loss

63. Depreciation Recapture
Prevents taxpayers from receiving the dual benefits of a depreciation deduction and special Section 1231 gain treatment.
Applies to Sec gain property only
Requires gains to be treated as ordinary to the extent of prior depreciation deductions

64. Depreciation Recapture-Section 1245
Requires full recapture of all depreciation
Gains are treated as ordinary income to the extent of any depreciation taken
Any gain in excess of depreciation is netted under Section 1231

65. Depreciation Recapture-Section 1245
Applies to
Depreciable personal property and
Nonresidential real estate placed in service between 1981 and 1986 and depreciated under ACRS

66. Depreciation Recapture
Depreciation recapture converts part or all of the gain on the sale of depreciable assets to ordinary income to the extent of the reduction in basis attributable to depreciation expense previously claimed
The amount of income recaptured as ordinary income can never exceed either the realized gain or prior depreciation deductions
Recapture rules cannot apply to assets on which there is a realized loss

67. Section 1245 Full Recapture
Applies to machinery, equipment, furniture, and fixtures (but not to buildings or structural components)
Any gain on the sale of section 1245 property is ordinary income to the extent of all depreciation allowed or allowable for the property
Any amount expensed under section 179 is included in the depreciation allowed
The income recaptured is the lesser of all depreciation taken or the realized gain

73. The next slide has an illustration of how the tax law worked for accelerated depreciation on residential real estate. However, only the straight-line method has been allowed for buildings acquired in last 25 years.
Buildings bought more than 25 years ago would actually already be fully depreciated by now (shorter life used then).
But this shows how it worked.

75. Depreciation Recapture-Section 1250
Requires partial recapture of depreciation
Gains are treated as ordinary income to the extent of depreciation taken in excess of straight-line amount
Any gain in excess of depreciation is netted under Section 1231

76. Depreciation Recapture-Section 1250
Applies to depreciable real property
Not covered by Section 1245 and
Not depreciated using the straight-line method
Eliminates most MACRS realty

77. Unrecaptured Section 1250 Gain
Requires that the portion of the gain attributable to depreciation that is not Section 1250 recapture is taxed at a rate of 25%.
Applies to depreciable real property sold after 5/7/97.
Any gain not attributable to depreciation (SP in excess of original cost) is a Section 1231 gain taxed at 15%.

82. Section 1231 Look-Back Rules
Net Section 1231 gains are taxed as ordinary income to the extent of any unrecaptured net Section 1231 losses in the five preceding years
This prevents taxpayers from generating tax savings by bunching their Section 1231 gains into one year (to receive tax-favored long-term capital gains treatment) and losses into alternate years (deducting the Section 1231 losses in full against ordinary income)

84. Added Section 291 Recapture for Corporations
Section 291 applies to corporate dispositions of realty (Section 1250 property)
Converts to ordinary income (as Section 1250 recapture) 20% of any Section 1231 gain that would have been ordinary income if Section 1245 full recapture applied
For realty acquired after 1986, Section 1245 full recapture x 20% = Section 291 recapture
Eliminates some of the capital gains that would otherwise be available to offset corporate capital losses