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Chapter 11 Property Dispositions ©2006 South-Western Kevin Murphy Mark Higgins Kevin Murphy Mark Higgins
Transparency 11 -2 © 2006 South-Western 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. Concept Review
Transparency 11 -3 © 2006 South-Western Property Disposition Amount realized from disposition less:Adjusted basis of property Realized gain (loss) less:Allowed deferral Recognized gain (loss)
Transparency 11 -4 © 2006 South-Western Amount Realized Amount realized is gross sales price less selling expenses. FGross sales price is the amount received by the seller from the buyer and includes VCash and FMV of property or services received VSeller’s debt assumed by or paid by the buyer FGross sales price is decreased by amounts given to the buyer by the seller VBuyer’s expenses paid by or assumed by the seller
Transparency 11 -5 © 2006 South-Western Effect of Debt Assumption vAssumption of debt is treated as a realization of income similar to paying or receiving cash FAssumption of the seller’s debt increases sales price (as if buyer paid cash) FAssumption of debt by the seller decreases the sales price (as if buyer received cash)
Transparency 11 -6 © 2006 South-Western Character of Gain or Loss Amount realized from disposition less:Adjusted basis of property Realized gain (loss) less:Allowed deferral Recognized gain (loss) OrdinarySection 1231 CapitalPersonal Use Character of gain (loss) Gains Loss not deductible
Transparency 11 -7 © 2006 South-Western 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.
Transparency 11 -8 © 2006 South-Western Capital Gains and Losses Holding Period The holding period for capital assets is how long the taxpayer owned the asset. FLong-term means the asset was held for more than 12 months. FShort-term means the asset was held for < 12 months. Determining holding period is the first step in determining tax treatment.
Transparency 11 -9 © 2006 South-Western Capital Gains and Losses Netting Procedures The following are treated as long-term gains and losses for the netting procedure FCollectible gains and losses FGains on qualified small business stock FUnrecaptured Section 1250 gain
Transparency 11 -10 © 2006 South-Western 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 = =
Transparency 11 -11 © 2006 South-Western Capital Gains and Losses Netting Procedures If one is a loss and one is a gain, then: If both are losses or both are gains, no further netting is done. Net Short-term Gain or Loss netted against Net Long-term Gain or Loss Net Capital Gain or Loss =
Transparency 11 -12 © 2006 South-Western Tax Treatment for Net Long-term Gain Individual Taxpayers vNet 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% v5% if marginal tax rate < 15%
Transparency 11 -13 © 2006 South-Western Adjusted Net Capital Gains (ANCG) Are taxed at the 15% or 5% rates. ANCG = NLTG - [Net Collectible Gn + Small Business Gain - NSTCL - LTL carryovers]* - unrecaptured Sec. 1250 gain + Eligible Dividend Income * called: “28% rate gain”
Transparency 11 -14 © 2006 South-Western FCollectibles held more than 12 months are taxed at a maximum rate of 28%. F50% of the gain on qualified small business stock is excluded, the remainder taxed at a maximum rate of 28%. FUnrecaptured Section 1250 gain is taxed at a maximum rate of 25%. Tax Treatment for Net Long-term Gain Individual Taxpayers
Transparency 11 -15 © 2006 South-Western Example Juan has the following capital gains and losses in the current year: Short-term capital loss$ (2,000) Long-term capital gain 12,000 Long-term capital loss carryover (5,000) Collectibles gain 10,000
Transparency 11 -16 © 2006 South-Western Example Short-term: Short-term capital loss $ (2,000) Long-term: Collectibles gain $10,000 Long-term capital gain 12,000 Long-term capital loss c/o ( 5,000) Long-term capital gain $ 17,000 Net long-term capital gain $ 15,000
Transparency 11 -17 © 2006 South-Western 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
Transparency 11 -18 © 2006 South-Western Tax Treatment for Net Short-term Gain Individual Taxpayers vNet short-term capital gain is taxed as ordinary income (i.e., taxpayer’s marginal tax rate).
Transparency 11 -19 © 2006 South-Western Gain Treatment for Corporations vCorporations do not receive special treatment for capital gains.
Transparency 11 -20 © 2006 South-Western Tax Treatment for Net Loss vNet Capital Loss FIndividuals may use only $3,000 to offset other income VExcess loss is carried forward indefinitely and retains its short term or long term class for netting purposes FCorporations cannot deduct a net capital loss VExcess loss carried back 3 then forward 5 years to offset capital gains
Transparency 11 -21 © 2006 South-Western Qualified Small Business Stock vQualified stock FHeld for more than 5 years FPurchased directly from corporation VCorporation with gross assets < $50 million FPurchased after 8/10/93
Transparency 11 -22 © 2006 South-Western Capital Gain Exclusion on Small Business Stock vUp to 50% of gain may be excluded FLimited to the greater of V10 times basis in the stock, or V$10 million for each small business FExclusion is based on a 28% rate
Transparency 11 -23 © 2006 South-Western Qualified Small Business Stock Rollover Provision vIndividual taxpayers may rollover gain on Qualified Small Business Stock FHeld more than 6 months FReplaced with other small business stock purchased within +/- 60 days vBasis in new stock is reduced by deferred gain vMust recognize gain if the gain realized is more than the cost of the replacement stock
Transparency 11 -24 © 2006 South-Western Planning Strategies vNet Capital Gain position FSell assets with unrealized losses vNet Capital Loss position FSell assets with unrealized gains FOptimize at $3,000
Transparency 11 -25 © 2006 South-Western Planning Strategies vWorthless Securities FWorthlessness deemed to occur on the last day of the year FRealized loss = basis in the worthless security vBasis determination FFIFO FSpecific identification
Transparency 11 -26 © 2006 South-Western Section 1231 Asset Definition vAsset used in a trade or business Fnot for investment vHeld long term
Transparency 11 -27 © 2006 South-Western Section 1231 vNet Section 1231 gains may be allowed capital gain treatment even though they arise from “ordinary” assets. vNet Sec. 1231 losses are ordinary. This is the best of both worlds!
Transparency 11 -28 © 2006 South-Western Section 1231 Netting 1st Step: 2nd Step: Net all business casualty gains and losses Net all other Sec. 1231 gains and losses All gains and losses are ORDINARY gain gains are taken to Step 3 loss gain
Transparency 11 -29 © 2006 South-Western Section 1231 Netting Gains from Step 2 3rd Step: Apply lookback rule Remaining Sec. 1231 gain is treated as a net long-term capital gain netted with other capital gains and losses Gains are ORDINARY to the extent of any previous Sec. 1231 losses
Transparency 11 -30 © 2006 South-Western Section 1231 Netting Results vNet Section 1231 gain is classified as long-term capital gain FLookback rule may reclaim some gains as ordinary Vto the extent of Section 1231 loss reported in the previous 5 years vNet Section 1231 loss is classified as ordinary loss
Transparency 11 -31 © 2006 South-Western Section 1231 Disposition of Rental Activities vDisposition of rental property held for the production of income (investment) yields capital gain or loss vDisposition of rental property used in a trade or business yields Section 1231 gain or loss
Transparency 11 -32 © 2006 South-Western Depreciation Recapture Prevents taxpayers from receiving the dual benefits of a depreciation deduction and special Section 1231 gain treatment I knew it was too good to be true!
Transparency 11 -33 © 2006 South-Western Depreciation Recapture vApplies to Section 1231 gain property only vRequires gains to be treated as ordinary to the extent of prior depreciation deductions
Transparency 11 -34 © 2006 South-Western Depreciation Recapture Section 1245 vRequires full recapture of all depreciation FGains are treated as ordinary income to the extent of any depreciation taken vAny gain in excess of depreciation is netted under Section 1231
Transparency 11 -35 © 2006 South-Western Depreciation Recapture Section 1245 vApplies to FDepreciable personal property and FNonresidential real estate placed in service between 1981 and 1986 and depreciated under ACRS
Transparency 11 -36 © 2006 South-Western Depreciation Recapture Section 1250 vRequires partial recapture of depreciation FGains are treated as ordinary income to the extent of depreciation taken over straight-line amount vAny gain in excess of depreciation in netted under Section 1231
Transparency 11 -37 © 2006 South-Western Depreciation Recapture Section 1250 vApplies to depreciable real property FNot covered by Section 1245 and FNot depreciated using the straight-line method VEliminates most MACRS realty
Transparency 11 -38 © 2006 South-Western Unrecaptured Section 1250 Gain vRequires that the portion of the gain attributable to depreciation that is not Section 1250 recapture is taxed at a rate of 25%. vApplies to depreciable real property sold after 5/7/97. vAny gain not attributable to depreciation (in excess of original cost) is a Section 1231 gain taxed at 15%.
Transparency 11 -39 © 2006 South-Western End of Chapter 11
McGraw-Hill/Irwin © 2007 The McGraw-Hill Companies, Inc., All Rights Reserved. Chapter 8 Property Dispositions McGraw-Hill/IrwinCopyright © 2009 by The.
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