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Chapter 10
Property Dispositions
Note: Read all footnotes
Read in the following order
1)Chapter 10 pages 1 to 7
2) Chapter 11 LO2 pages 11-7 to 11-25
3) Chapter 10 pages 6 to 18
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Vocabulary
Dispositions: Realization, Amount Realized, debt relief, buyers assumption of
sellers liability, FMV of other property
Cost basis, adjusted basis
Realized gain or loss
Recognized gain or loss
Character of gain or loss, ordinarygain (loss), long-termcapital gain (loss),
shorter-termcapital gain (loss), holding period,
Use of property: business, investment, personal
Ordinaryassets
Capital assets
Section 1231 Asset, 1231 gain or loss
Character of Gain Vocabulary
Character of gain or loss
Ordinary income: Ordinary assets,
Capital gain (loss): capital assets, holding
period, long-term holding period, short-term
holding period, investment use, personal use,
corporate taxpayers
Section 1231 gain (loss), trade or business,
depreciable real property, depreciable
personal property, net gains, net loses,
Recognized gain (loss) on sale
of property
Amount realized
Less adjusted basis
=Realized gain (loss)
Less deferred gain (or +deferred loss)
Less excluded gain (or +disallowed loss)
=Recognized Gain (Loss)
COMPUTING RECOGNIZED GAIN
Warren sold a rental house which he had purchased
on 1/1/2010 for $200,000 (Land $50,000, Building
$150,000). He sold the property to Sally on 9/1/2013.
The accumulated depreciation was $19,991. He sold
no other 1231 property during the year.
Sally used the house as her personal residence.
She paid $600,000 in cash. (On 9/1/2013 the land had a
FMV of $100,000 and the building had a FMV of
$500,000).
What is the recognized gain to Warren?
What is the character of the gain to Warren?
What is the basis of the property to Sally?
ANSWER:
Character of Gain
Total gain 419,991
25% gain (Unrecaptured Section1250 gain): 19,991
Section 1231 Gain: 400,000*
*Treated as LTCG since no other 1231 gains or losses
Building Land Total
Amt. Realized 500,000 100,000 600,000
Cost Basis 150,000
-Acc. Depr -19,991
Adjusted Basis -130,008 50,000 180,008
Realized Gain (Loss) 369.992 50,000 419,992
-Deferred Gain -0
-Excluded Gain -0
Recognized Gain 369,992 50,000 419,992
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Basis for depreciation, limits on
depreciation?
Assume instead of receiving $600,000 cash, Warren sold the
house to Terrance. Terrance paid $20,000 in cash and took out
a mortgage fromBank of America for $580,000. Terrance used
the property as rental property.
What is the basis of the property to Terrance?
Can Terrance depreciate the building?
Does Terrance depreciate the building based on the
$20,000 cash he paid or on $500,000 value of the building?
Is there any limitation on the amount of depreciation he can
deduct?
Is there any limitation if Terrance reports net rental
income?
Is there any limitation if Terrance reports a net rental
loss?
Amount Realized Defined
Cash
+F.M.V. of property received
E.g. notes receivable, stock, bonds, real or personal
property
+Liabilities of seller discharged (buyers assumption of
liabilities)
E.g. mortgage that is discharged
Selling expenses
(e.g. commissions, legal fees, etc)
= Amount Realized
BASIS Defined
Basis is determined byhowthe propertyis acquired:
If purchasedbasis is cost
Cost Basis
Cash paid
+F.M.V. of propertygiven
+Acquisition and preparation costs
+Liabilities assumed bybuyer
=Basis prior to adjustments to basis
Basis of real property
Must allocate between land and building
Must distinguish between capitalized expenditures and deductible
expenditures
Adjusted Basis Defined
Initial Basis
Plus Capital additions, for example
Replacing a roof
Paving your driveway
Installing central air conditioning
Legal fees in defending title
Note: Repairs are deducted not capitalized
Less capital recoveries
Depreciation
Deductions under 179 and bonus depreciation
Amortization of intangibles under 197.
CPA QUESTION: Capital
Expenditures
Mr. Black purchased his first house in March for $410,000. In addition, Mr. Black
incurred the following expenses:
$3600 for 3 years of casualtyinsurance
$8200 for newdriveway
$2500 for interior painting
$1450 for title insurance
$4000 for exterior painting
$4050 for newgutters
What is Mr. Blacks basis in this house?
A. $422,250
B. $423,700
C. $427,300
D. $430,200
Answer
B) is correct. Under Sec. 1012, the basis of propertyis the cost of the property. In addition, basis includes
expenditures for major improvements andcosts to acquiretitle. The costs that are not capitalizedare the casualty
insurance, the interior painting, andthe exterior painting. Paintingis usuallyconsideredordinarymaintenance.
Furthermore, thesecosts are not deductible unless the house is rental property, i.e., unless the costs were
incurredfor the productionof income.
Purchase price 410,000
Newdriveway 8200
Title insurance 1450
Newgutters 4050
Basis in house 423,700
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CPA QUESTION: Basis in Building
Mr. T purchasedanapartmentbuildingonDecember 15of the current year. Mr. Ts costs in
connectionwiththe purchasewere as follows:
Cashpaidto seller $250,000
Securednotes to seller 550,000
Assumedanexisting mortgageonthe property 150,000
Sales commissionpaidto broker 30,000
Transfer taxes paidto cityon purchase 6,000
Paidbacktaxes owedbyseller 7,000
Paidinterest on mortgage fromdate of purchase
to endof December 1,000
Whatis the amountof Mr. Ts basis in the building?
$800,000
$956,000
$993,000
$994,000
Answer
(C) is correct. The basis of propertyis its original cost (Sec. 1012), reducedbyallowable depreciation[Sec. 1016(a)(2)].
The cost of propertyincludes debt to which the propertyis subject [Crane, 331 U.S. 1(1947)]. Consequently, the basis of the
propertyincludes the cash paid, any notes to the seller and the liabilityto which the propertywas subject. Closingcosts such
as commissions paidto a broker are also includedas part of the purchase cost. Taxes paidbya buyer which were not the
legal responsibilityof the buyer are also allocatedto the purchase price (theyare not deductibleunder Sec. 164). Mortgage
interest paidis deductibleunder Sec. 163(not includedincost).
Cash 250,000
Secured Notes 550.000
Mortgage 15,0000
Sales Commission 30,000
Transfer Taxes 6,000
Sellers Taxes 7,000
Total $993,000
Example: Amount Realized
Scrap-Happy Inc., a scrapbooking retail chain,
owns a warehouse which is subject to a $50,000
mortgage. A manufacturing company offers to
purchase the warehouse for $15,000 cash and a
$30,000 note receivable, as well as assume the
mortgage. If Scraphappy accepts this offer, and
pays $1,500 in selling expenses, what is the amount
realized?
Answer: 50,000 liability assumed
+15,000 cash
+30,000 note receivable
1,500 selling expenses
$ 93,500 Amount Realized
10-15
Summary of Character of Gain
and Loss
IF YOU SELL PROPERTY USED AS: CHARACTER OF GAIN IS: CHARACTER OF LOSS IS: Schedul e
I. INVESTMENTS (Exampl es)
1. Stocks, bonds, mutual funds,
2. Land Hel d for i nvestment
3. Col l ecti bl es
E.G. Anti ques, Coi ns, Gems, Art, Hi stori cal Items,
NLTCG (Max rate is 20%)
NSTCG (Max rate is 39.6)
Collectibles (Max rate is 28%)
Capital loss deductible fromCapital Gains with only
$3000 of any excess deductible fromordinary income.
Sch. D
II. ORDINARY BUSINESS ASSETS
1. Inventory
2. Suppl i es
3. Accts and notes rec. from the sal e of i nventory or for servi ces
4. Copyri ghts, l i terary, or musi cal composi ti ons, etc.
Ordinary income (Max rate is 39.6%) Ordinary loss
a) NOL carried back 2 years and forward 20
b) Passive loss restrictions
Sch. C
if self employed
III. 1231 BUSINESS ASSETS
1. Land used i n a busi ness
------------------------------
2. Secti on 1245:
a. Depreci abl e personal property (Exampl es: trucks, autos,
computers, equi pment)
b. Intangi bl e amorti zable property
-------------------------------
3. Secti on 1250.
a. Depreci abl e real property
i . Exampl e: Resi denti al rental property, warehouse, offi ces
Net 1231 Gain=LTCG (Max 20%)
-----------------------
2.Ordinary income on recaptured depreciation (1245
Recapture) (Max 39.6%)
2. Remaining amount is1231 Gain; Net 1231 gain is
LTCG (Max 20%)
---------------------
3. Unrecaptured Sec. 1250 Gain (MAX 25%)
3. Remaining gain is 1231 Gain: Net 1231 gain is
LTCG (Max 20%)
Ordinary loss.
Net Section 1231 losses are treated as ordinary losses.
No1245Recaptureonlosses
Lookback rule: Net 1231GaintreatedasOrdinar ytotheextent
of unrecaptured net 1231losses for past 5years
Form4797
IV. PERSONAL USE ASSETS
1. E.G. car, j ewel ry, furni ture, art obj ects, and coi n or stamp col l ecti ons
hel d or personal use
2. Personal Resi dence
Capital gain (LTCG Max 20 %)
Exclude $500K on J t. Return; $250K for others
Not deductible Sch. D
2013 Tax Rates
1. Individual income tax rates for 2013
Taxable income* Ordinary income Capital gains and
dividends
Medicare tax
Single Joint Collectible Earned income** Investment
income
$0+ $0+ 10%
0%
10%
2.9% 0% $8,925 $17,850+ 15% 15%
$36,250+ $72,500+ 25%
15%
25%
$87,850+ $146,400+ 28% 28%
$183,250+ $223,050+
33%
28%
$200,000+ (AGI) $250,000+(AGI)
28%
3.8% 3.8%
$398,350+ $398,350+ 35% 28%
$400,000+ $450,000+ 39.6% 20% 28%
Chapter 11 Vocabulary
Capital assets, investment-type assets,
personal-use assets. Market discount, mutual
funds, dividend reinvestment plans, FIFO
method, specific identification method,
depreciable real property, 25% gain,
unrecaptured 1250 gain, nonbusiness bad debt,
0/15/20% gain, 28% rate, collectibles, qualified
small business stock, capital loss carryovers,
netting process, net capital gain, loss on sale of
personal-use assets, sales to related parties,
wash sales,
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Capital Gains and Losses
Reasons for Separate Reporting of Capital Gains
and Losses.
The alternative tax computation may yield a lower
tax.
Net Capital Gains Tax Rates (28%, 20%,15%,
0%).
Net Capital losses:
Capital losses are only deductible to the extent of
capital gains plus $3,000 per year against
ordinary income
SWANSON TAX RETURN 1:
In 2013, the Swansons file a joint taxreturnandreport SalaryIncome of $100,000. Theyhavetwo childrenBob,
Age10, andDaniel, Age12, who are dependents. Theyhad$9100of federal taxes withheld fromtheir
paychecks. Theytake the standarddeduction. Theyalso hadthe following stocktransactions:
Purchased: 100shares Intel Corp. Stock1/01/2009for $34,000.
Sold: 100shares Intel Corp. Stock05/03/2013for $16,000.
Purchased: 120shares ABC CorpStockon03/16/2013$27,000.
Sold: 120shares ABC CorpStockon9/11/2013for $13,000.
QUESTION: Whatis their AGI?
QUESTION:: Howmuchof the $14,000loss onABC Corporationstock weretheyable to deduct?
Description AGI Ordinary LTCG(L) STCG (L)
Salary 100,000 100,000 16,000 13,000
(34,000) (27,000)
(18,000) (14,000)
SWANSON TAX RETURN 1:
In 2013, the Swansons file a joint taxreturnandreport SalaryIncome of $100,000. Theyhavetwo childrenBob,
Age10, andDaniel, Age12, who are dependents. Theyhad$9100of federal taxes withheld fromtheir
paychecks. Theytake the standarddeduction. Theyalso hadthe following stocktransactions:
Purchased: 100shares Intel Corp. Stock1/01/2009for $34,000.
Sold: 100shares Intel Corp. Stock05/03/2013for $16,000.
Purchased: 120shares ABC CorpStockon03/16/2013$27,000.
Sold: 120shares ABC CorpStockon9/11/2013for $13,000.
QUESTION: Whatis their AGI?
QUESTION:: Howmuchof the $14,000loss onABC Corporationstock weretheyable to deduct?
Description AGI Ordinary LTCG(L) STCG (L)
Salary 100,000 100,000 16,000 13,000
(34,000) (27,000)
NCL (3,000) (3,000) (18,000) (14,000)
97,000 97,000
Net capital loss deduction
QUESTION: What if the Swansons insteadsold the Intel stock for $10,000.
QUESTION (True-False): The Swansons were onlyable to deduct $3000of the total $14,000
loss fromthe sale of ABC Corp. Stockin 2013.
Description AGI Ordinary LTCG(L) STCG(L)
Salary 100,000 100,000 16,000 13,000
(10,000) (27,000)
6,000 (14,000)
(14,000) 14,000
(8,000) 0
NCL (3,000) (3,000) 3,000
TOTAL 97,000 97,000 CF (5,000)
Classification of property
Classification of the gain or the loss on the sale of
property is either:
Ordinary
Capital asset
Section1231 asset
Holding period
The long-term holding period is more than one year.
The short-term holding period is one year or less.
Long-term vs short-term capital gain
Arnie purchased a used sofa for $200 on
April, 20, 2012 He sells the sofa for $220
on April 20, 2013.
Is the gain recognized?
What is the character of the gain?
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QUESTION :
Two taxpayers, Emily and J acob, are in the
maximum income tax brackets. In J une 2013,
each recognizes a $100,000 capital gain from
the sale of stock. If Emily has held her stock for
11 months and J acobs holding period is 13
months how much tax does J acob save over
Emily?
Answer: 100,000 (39.6% - 20%) =19,600
Definition of Collectibles.
Collectibles held more than one year
Not eligible for the 0/15/20% alternative tax.
28% alternative tax rate applies.
The 28% is applicable for tax brackets of 28% or higher only.
E.G. a taxpayer in the 15% bracket pays 15% tax
For capital gain or loss purposes, collectibles include:
Anywork of art.
Anyrug or antique.
Anymetal or gem.
Anystamp.
Anyalcoholic beverage.
Most coins.
Anyhistorical objects (documents, clothes, etc.).
LTCG Rates: Collectibles and stock
Danny, whose tax rate is 35%, purchased
bowling common stock and antique chairs
for investment on March 10, 2001. He
sells the assets on April 16, 2013. He has
a gain of $8,000 on the sale of the stock
and $10,000 on the sale of the antique
chairs.
What is Dannys tax on the capital
gains?
LTCG Rates: Collectibles and stock
Danny, whose taxrate is 35%, purchasedbowlingcommonstockandantiquechairs for
investmentonMarch 10, 2001. He sells the assets on April 16, 2013. He has a gainof $8,000on
the sale of the stockand$10,000onthe sale of the antiquechairs.
Whatis Dannys taxon the capital gains?
Description Ordinary
35%
LTCG 28% LTCG
0/15/20%
Total
Capital gains 10,000 8,000 18,000
Tax Rate X 28% X 15%
Tax 2,800 1,200 4,000
LTCG Rates: Collectibles and stock
QUESTION : What if, instead, Dannyis in the 15 percent bracket?
Descript
ion
Ordinary
15%
LTCG
MAX
28%
LTCG
0/15/20%
Total
Amount 10,000 8,000 18,000
Rate 15% 15%
Tax 1,500 1,200 2,700
Treatment of net 1231 gains (losses)
Section 1231 Gain Treatment.
Net gain from disposition of 1231 assets is given
long-term capital gain treatment.
Except may be recharacterized as ordinary
Under depreciation recapture rules
Or look-back rule
Section 1231 Loss Treatment.
Net loss from disposition of 1231 assets is
treated as ordinary loss.
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Definition of and Requirements for
1231 Assets.
QUESTION : The Prime Corporation owns land held as an investment and land
used as an employee parking lot. Do these properties qualifyas Sec.
1231assets? Both properties are held for 5 years.
Definition 1231 Property:
Must be held for more than one year
Propertythat meets 1231 definition and held less than one year is ordinary
income
Must be
Depreciable real propertyused in a business
E.g. Warehouse, apartment building
Or Land used in a business or
E.g. land on which warehouse is located
Or Depreciable personal propertyused in a trade or business or
Machinery, Equipment
Or Amortizable Purchased intangible assets used in a business
E.g. Patents and Copyrights
Asset Usesold at a gain
The capital asset determination usuallyhinges on the assets purpose and use.
QUESTION : Peter owned a 1967 Mustang which he held for more than one
year and sold at a gain. What is the character of the gain?
QUESTION : Which does Peter prefer, a personal asset, an investment, a car
used for his business, or inventory?
Use of asset Character of Gain
Personal CG
Investment CG
Used in a Business 1231 Gain
Inventory Ordinary
Asset Use: Sold at a loss
Whatis the character of the LOSS if insteadPeter hada loss?
Use of asset Gain Loss
Personal 1. Capital Gain 4. Not deductible
Investment 2. Capital Gain 3. Capital Loss
Inventory 4. OrdinaryGain 1. OrdinaryLoss
Used in a
business
3. 1231 Gain 2. 1231 Loss
How do you determine whether the loss is
personal, investment or business?
How does Peter determine whether the car is used either
for personal-use or for investment?
Did he engage in the activity with an intent to make
a profit?
Hobby loss rules apply
How does Peter determine whether the car is use either
as an investment or for business?
Business: Actively involved on continuous, regular
and systematic basis.
Investment: Sporadic and more passive.
Sale of a businesscharacter of gain
Stan owns a sole proprietorship. The sole proprietorshiphas the followingassets. Stansells the business to Paul. Classify
the gainonsale as ordinary, capital gain, or Section1231gainor loss to Stan
Accounts receivablefromsales to customer
Ordinary
Investment instocks of various corporations
Capital
Inventory
Ordinary
Machinery
1231and 1245
Building
1231and 1250
Landused inthe business
1231and 1250
Landheldfor investment
Capital
Goodwill developedby Stan
Not subject to amortizationbecause not purchased. Capital
Whatis the basis of the assets to Paul, the purchaser?
FMV
Whatis the character of the goodwill to Paul?
1231
Ordinary, capital, or 1231?
Eric owns the following assets heldmore thanone year unless statedotherwise-- identify themas ordinary,
capital or 1231:
Anautomobile heldfor his personal use
Capital Gain or non-deductible loss
Bonds heldfor his personal accountsold at a gain
Capital
A paintingdisplayedin his business
Capital (Investment) or Inventory(Ordinary) or Usedin Business (1231)
Gold
Same as above
Anantique vaseusedto furnishhis housesoldat a loss
Personal (not deductible) or Investment(Capital)
Gainonthe sale of a four unit apartmentcomplexhe ownedfor 5 years.
1231and1250
Gainonthe sale of welding machineryusedin his business andheld9 months.
Ordinary
Gainonsale of a diamondbracelet
Personal (Capital) or Investment(Capital) or Inventory(Ordinary)
Loss of personal residence due toa fire
Casualtyloss (ordinary)
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NETTING RULES
Net short-term capital gain is taxed as ordinary
income
The net long-term capital gain components are named
the:
0/15%/20% gain
On Capital Assets other than Collectibles
28% gain
On Collectibles
25% gain
(nrecaptured section 1250 gain on depreciation
on real property
Netting rules
If opposite signs you net the two:
Net NSTCL and NLTCG are added.
NSTCG and NLTCL are added.
If the same signs you do not net
NSTCG and NLTCG are not added.
NSTCG is taxed at ordinary rates
NLTCG is taxed at beneficial rates
NSTCL and NLTCL are not added.
NSTCL is deductible against ordinary income first.
Capital Loss Carryovers retains their character as short-
termor long-term
Netting: STCG and STCL
Hal has Salaryof $50,000. He sold Yahoo stock for a STCG of $30,000
and Dell stock for a STCL of $23,000. What is Hals NSTCG or loss?
Howis it treated?
Description AGI Ordinary STCG (L)
Salary 50,000 50,000 30,000
(23,000)
7,000
Net Capital Gain 7,000 7,000 (7000)
Total 57,000 57,000 0
Hal has a salary of $50,000. He sold IBM stock with a
STCG of $4,000 and Intel stock with a STCL of $9,000. What
is Hals AGI and capital loss carry forward?
Description AGI Ordinary STCG
Salary 50,000 50,000 4,000
(9,000)
(5,000)
NSTCL (3,000) (3,000) 3,000
TOTAL 47,000 47,000
NSTCL C/F
(2000)
Netting: Net STCL Carryforward Netting: Net LTCG
Hal salaryis $90,000. He is single , has no dependents andtakes the standarddeductionHe sold
IBM stockwitha LTCG of $34,000andIntel stockwitha LTCL of $25,000. Whatis the amountof
his taxfor 2013?
Description AGI Ordinary LTCG
Salary 90,000 90,000 34,000
(25,000)
Net Capital Gain 9,000 9,000
AGI 99,000
- Std Deduction -6,100 -6,100
- Personal Exemption -3,900 -3,900
_
Taxable Income 89,000 80,000 9,000
TaxBracket *25% X 15%
Tax 17,285 **15,935 1.350
*Marginal bracket **fromtax
tables
Netting: NLTCG
Hal has salaryof $50,000 . He also sold Revco stock with a STCG of $5,000, a City
of Cleveland Bond with a STCL of ($9,000), Apple preferred stock with a LTCG of
$10,000 and Land with a LTCL of ($2,000).
Description AGI Ordinary LTCG STCG
Salary 50,000 50,000 10,000 5.000
(2.000) (9,000)
8,000 (4,000)
(4000) 4,000
Net CG 4,000 4,000 0
AGI 54,000 50,000 4,000
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NETTING: NLTCL and NSTCL
Hal has a salary of $45,000 and four transactions involving
the sale of capital assets during the year. As a result of those
transactions, he has a STCG of $5,000, a STCL of $7,000, a
LTCG of $10,000 and a LTCL of $22,000.
Description AGI Ordinary LTCG STCG
Salary 45,000 45,000 10,000 5,000
(22,000) (7,000)
(12,000) (2,000)
Net CL (3,000) (3,000) 1,000 2,000
Total 42,000 42,000 0
C/F 11,000
Netting: LTCL Carryforward
(continued from above) In the following year Hals salary is
$60,000 and he sells a capital asset and generates a STCG
of $2000.
Description AGI Ordinary LTCG STCG
Salary 60,000 60,000
C/F (11,000) 2,000
2,000 (2.000)
(9,000) 0
Net CL (3,000) (3,000) 3,000
Total 57,000 57,000
C/F (6,000)
NETTING: LTCG AND STCG
Hals salary is $40,000. He sells IBM stock for a STCG of
$5,000 and Intel stock for a LTCG of $10,000.
Description AGI Ordinary LTCG STCG
Salary 40,000 40,000 5,000
NCG 15,000 5,000 10,000 (5,000)
Total 55,000 5,000 10,000 0
Hal has salary of $60,000. He sells IBM stock with a STCL of
<$10,000>, Idaho Bonds with a LTCG of $6000. He also sells
a Persian Rug for a gain of $7,000.

Description AGI Ordinary 28 %LTCG 0/15/20%

LTCG
STCG
Salary 60,000 60,000 7,000 6,000 (10,000)
(7,000) (3,000) 10,000
NCG 3,000 3,000 0 0
Total 63,000 63,000 3,000
NETTING: Collectible gain Capital losses: Year-end planning
Capital losses are onlydeductible to the extent of capital gains plus $3,000per year against
ordinaryincome. Can carryforwardthe loss indefinitely
QUESTION: In2013, Brianholds Cisco stockwithan unrealized$50,000short-termcapital gain.
He is holdingYahoo stockwithan unrealizedLTCL of $30,000. He owns no other capital assets.
QUESTION : Wouldit be better sell the Yahoo (loss) stockthis year andthe Cisco
(gain) stocknext year or vice versa?
Option1:
2013Sell Cisco Stock STCG 50,000
2014Sell Yahoo Stock LTCL (30,000)
Answer: Loss cannot be carriedback, canonlyoffset $3000against ordinary
incomeandcarry-forward
Option2
2013Sell Yahoo stock LTCL (30,000)
2014Sell Cisco stock STCG or LTCG 50,000
Answer: Cancarrythe loss forward.
Net 1231 Loss:
QUESTION : In 2013, Peter received $60,000 in salary. Peter sold land
that he held for over one year as an investment for a gain of $25,000. He
also sold a parking lot that he used in his business for a loss of $15,000
(held for over one year). There were no other sales during the year.
There were no unrecaptured 1231 losses for the prior five years.
Description AGI Ordinary LTCG STCG 1231
Salary 60,000 60,000
NCG 25,000 25,000 (15,000)
1231 loss (15,000) (15,000) 15,000
Total 70,000 45,000 25,000 0
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In 2013, Peter received $60,000 in salary. Peter sold land that he held for
over one year as an investment for a loss of ($55,000). He also sold a
parking lot that he used in his business for a gain of $25,000 (held for over
one year). There were no other sales during the year. There were no
unrecaptured 1231 losses for the prior five years.
Description Ordinary AGI LTCG 1231
Salary 60,000 60,000 (55,000) 25,000
25,000 (25.000)
(30,000) 0
NCL (3,000) (3,000) 3,000
57,000 57,000 CF(27,000)
Net 1231 GAIN LOOKBACK RULE:
Same as above except that the taxpayer had a net unrecaptured 1231
losses of $4000 in 2009 $7000 in 2010. There were no other 1231
transactions in 2008, 2011, or 2012.
Lookback Provision: 1231 Net gain is offset against
nonrecaptured net 1231 losses from5 prior tax years.
Description Ordinary AGI LTCG 1231
Salary 60,000 60,000 (55,000) 25,000
Lookback rule 11,000 11,000 (11,000)
14,000 14,000
(41,000) 0
NCL (3,000) (3,000) 3,000
Total 57,000 57,000 CF(38,000) 0
Depreciation Recapture Sections
1231, 1245, 1250
10-51
Depreciation Recapture
Definition of 1245 Property
Depreciable personal property
And amortizable intangible
assets are
10-52
1245 Assets
Buckeye Corporation owns the following assets. Which
of the assets are 1245 assets.
Equipment
Patent
Office building
Land.
Car
Purchased goodwill
ANSWER: Equipment, Patent, Car Copyright
Depreciation Recapture
1250 Definition
Depreciable real property (an office building or a
warehouse),
Unrecaptured 1250 gain is taxed at a maximum
rate of 25 percent
10-54
2/10/2014
10
Character of income: Baskets
Descrip AGI Ordinary LTCG
28%
LTCG
25%
LTCG
0/15/20%
STCG 1231
before
recaptur
e
1245
recaptur
e
1231
after
recap
Swanson Tax Return --1231
In 2013, the Swansons file a joint taxreturnandreport Business Incomeof $80,000. Theyhavetwo children
Bob, Age10andDaniel, Age12who are dependents. Theyhad$9,100of federal taxes withheldfromtheir
paychecks. Assumethere were no non-recaptured1231losses in the prior 5 years. Theytake the standard
deduction. Theyalso hadthe following stocktransactions:
Purchased: 100shares Intel Corp. Stock1/01/2007for $34,000.
Sold: 100shares Intel Corp. Stock05/03/2013for $16,000.
Purchased: 120shares ABC CorpStockon03/16/2012$13,000.
Sold: 120shares ABC CorpStockon9/11/2013for $27,000.
Descrip AGI Ordinary LTCG
25%
LTCG
0/15/20%
STCG 1231
before
1245
Recapture
Business
Income
80,000 80,000
Capital
Gains
(losses)
16,000
-34,000
(18,000)
13,000
-27,000
(14,000)
SWANSON (continued) : 1250 Gain
Character of
Gain
Amountrealized 600,000
Cost 500,000
Accumulated
Depreciation
(80,000)
AdjustedBasis 420,000
Recognized
Gain
180,000
1250(25% Gain) 80,000
1231Gain 100,000
180,000
Swanson Tax Return --1231
Descrip AGI Ordinary LTCG
25%
LTCG
0/15/20%
STCG 1231
before
1245
Recapture
Business
Income
90,000 90,000
Capital
Gains
(losses)
16,000
-34,000
(18,000)
13,000
-27,000
(14,000)
Sale of Apt
Building
80,000 100,000
100,000 (100,000)
(14,000) 14,000
AGI 90,000 90,000 66,000 82,000 0 0
Section 1245
Depreciation Recapture
1245 Property sold at a gain:
The lesser of
gain recognized or
accumulated depreciation is recaptured
(characterized) as ordinary income under 1245
Any remaining gain is 1231 gain
Property sold at a loss:
No Recapture
10-59
Section 1245 Recapture
QUESTION : Is section 1245 recapture beneficial or
detrimental?
QUESTION : Does section 1245 recapture change
the amount of the gain recognized on the sale of an
asset or only the character of the gain?
QUESTION : The purpose of Section 1245 is to re-
characterize __________ gain as ________gain.
QUESTION : Does Section 1245 recapture apply to
recognized losses?
2/10/2014
11
1231 ASSETS:
1245 Recapture Example
A. Scrap-Happysells a machine that cost $8,500 for $10,000. Depreciation taken on
the machine amounts to $2,500. What amount of gain is recaptured as ordinaryand
what amount is 1231 gain?
B. Same as above except the amount realized is $7,500.
C. Same as above except the amount realized is $5000.
10-61
Part A Part B Part C
AmountRealized 10,000 7,500 5000
Cost 8,500 8,500 5000
- Depr 2,500 2,500 2,500
Less AdjustedBasis 6,000 6,000 6,000
=RecognizedGain(loss 4,000 1,500 (1,000)
Character of Gain
1245Recapture (Ordinary) 2,500 1,500 0
1231Gain 1,500 0 (1,000)
Characterizing Gains on the Sale of
Depreciable Property to Related Parties
All gain recognized from selling property i.e., a
depreciable asset to a related-party buyer is
ordinary income
Other Provisions Affecting The
Rate at which Gains are Taxed
10-62