Module 4 - TaxPoint 2001
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Transcript Module 4 - TaxPoint 2001
MODULE 19
Computing Gain or Loss on
Disposition
of Assets
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1. Computing gains and losses
2. Basis considerations
3. Installment sales
Computing Gains and
Losses
Key Learning Objectives
The gains and (losses) formula
Applicable law
Amount realized
Adjusted basis
The Gains and (Losses) Formula
Sales price
-Selling expenses
Amount realized
-Adjusted basis
Realized gain (loss)
-Deferred gain (loss)
Recognized gain (loss)
Applicable Law
The gain or loss from the sale of property
Determined
by the law in force at the
date of sale
Depreciation adjustments reduce basis
Determined
by the law in force at the
time the property is acquired
Amount Realized
Sum of
Any money received
Plus FMV of property received
Less any selling expenses
Adjusted Basis
Uncovered Cost of the Asset
Original cost basis
Minus cost recoveries
Plus improvements
Basis Considerations
Key Learning Objectives
Recovery of capital doctrine
Determining cost basis
Cost basis factors
Gift basis
Property acquired from decedent
Property converted from personal use
Adjusted Basis Determined by
How acquired
Purchase
Gift
Inherited
Basis Determined by Purchase
Purchase
Cash/FMV of property received
Debt assumption
Non-deductible improvements
Basis Determined by Gift
Note: D= doner; D'e = donee; Date of gift = DOG
General rule if FMV > basis at DOG
Use
D's basis and
Adjust for gift taxes
If FMV < basis at DOG see special rules
Basis Determined by Gift
Adjustment for Gift Taxes Paid
D = doner; D'e = donee; DOG = date of gift
Gift taxes are paid by D
Gift taxes are based on FMV at DOG
Adjustment to D’e basis only if
FMV
> basis at DOG
D’e gets gift taxes relating to appreciation
[FMV- basis]
FMV
In Class Exercise:
Adding Gift Taxes to Basis
D = doner; D'e = donee; DOG = date of gift
At DOG
FMV
= $17,000
D’s basis = 13,500
Gift tax
= 2,000
Calculate D’e basis
Solution--In Class Exercise:
Adding Gift Taxes to Basis
Property is appreciated at DOG
So start with adjusted basis of $13,500
Add % of gift taxes relating to appreciation
$412
Gift taxes x (FMV - AB) ÷ FMV
$2,000 x ($17,000 - $13,500) ÷ $17,000
Total basis to D'e = $13,912 ($13,500+$412)
Basis Determined by Gift
FMV < Basis at DOG
D = doner; D'e = donee; DOG = date of gift
No
adjustment for gift taxes
Basis (AB) determined when D’e sells
If used by D’e and subject to
depreciation, use FMV at DOG
Basis Determined by Gift
FMV < Basis at DOG
D= doner; D'e = donee; DOG = date of gift
Sold for
>
D's basis then AB = D's basis
< FMV at DOG then AB = FMV at DOG
< D’s basis BUT > FMV at DOG
AB = Amount realized
No gain/loss recognized to D’e
In Class Exercise: Gift Basis
FMV < Basis at DOG
D = doner; D'e = donee; DOG = date of gift
At DOG: AB = $12,000 FMV = $10,000
D’e sells at a later date for:
Case
A
B
C
AR = $13,000 $11,000 $9,000
What is adjusted basis in each case?
What is total gain realized?
In Class Exercise: Gift Basis
FMV < Basis at DOG
At DOG: AB = $12,000 FMV = $10,000
Case
A
B
C
AR = $13,000 $11,000 $ 9,000
AB = 12,000 11,000 10,000
GL = $ 1,000
0
(1,000)
Note that you would plug any basis for AR
between $10,000 and $12,000
Conversion From Personal Use
Follow rules similar to gift rules
If
FMV > A/B use A/B
If FMV < A/B use FMV
In Class Exercise: Conversion
from Personal Use
John has an automobile used 100% for
personal purposes for two years
He converts it to 100% business use when
A/B = $16,000
FMV = $8,500
What is John’s basis for business purposes?
Solutions: In Class Exercise:
Conversion from Personal Use
He converts it to 100% business use when
A/B = $16,000
FMV = $8,500
John uses $8,500 since FMV is lower than
A/B when the property is converted
The $7,500 decline in value is considered to
be a non-deductible personal expenditure
Basis Determined by Inheritance
Use value reported on estate’s tax return
Generally FMV at date of death (DOD)
Estate may choose to use alternative
valuation date
FMV
6 months after DOD
Installment Sales
Key Learning Objectives
Eligible sales
Ineligible sales
Mandatory reporting
Gain reported
Problem areas
Installment Sale
At least one payment is received after the
close of the tax year in which the
disposition of the asset occurs
Ineligible Sales
Dealer disposition of property held for sale
to customers
Gains relating of the recapture provisions
of §1245 and §1250
Stock or securities traded on an established
securities market
Property of any kind regularly traded on an
established market
Mandatory Reporting
Unless Election Out
Any sale that is covered by the definition of
an “installment sale”
Must elect out of the installment method to
avoid
Election out attached to a timely tax return
Entire gain included in income for the
taxable year
Consequences of Electing Out of
Installment Method
Cash
basis amount realized
Money
Accrual
and FMV of property
basis amount realized
Money
and FMV of property
Face value of any obligation received
Installment Method
Gain Reported As Cash Collected
Gross profit = A/R - A/B
Gross profit percentage =
Gross profit ÷ total contract price
Gain recognized =
Gross profit percentage x am’t received
Ratio applied to payments received in the
current period
In Class Exercise: Gain Reported
on Installment Sale
Mary
agrees to sell for $500,000
Land for which she paid $300,000
She will receive $100,000 a year for
5 years
Interest will be paid at the required rate
How much gain will she recognize
each year?
Solution: In Class Exercise: Gain
Reported on Installment Sale
Gross profit = A/R
- A/B
$200,000
= $500,000 - 300,000
Gross profit percentage =
gross profit ÷ total contract price
40% =
$200,000 ÷
$500,000
Solution: In Class Exercise: Gain
Reported On Installment Sale
Gross profit percentage = 40%
Amount received each year = $100,000
Gain recognized each year = $40,000
Gross profit percentage x am’t received
40% x $100,000
Total gain recognized is $200,000
$40,000
x 5
In Class Exercise: Gain Reported
on Installment Sale & §1250
Gains associated with depreciation cannot
be deferred through an installment sale
How would Mary’s gain recognition change
if the property she sold was a building AND
$50,000 of the gain is §1250 recapture?
Solution: In Class Exercise: Gain
Reported on Installment & §1250
Gross profit = A/R
- A/B
$200,000
= $500,000 - $300,000
BUT $50,000 is recognized immediately so
gross profit is reduced to $150,000
Gross profit percentage =
Gross profit ÷ total contract price
30% =
$150,000 ÷
$500,000
Solution: In Class Exercise: Gain
Reported On Installment & §1250
Gross profit percentage = 30%
Amount received each year = 100,000
Gain recognized each year = 30,000
Gross profit percentage x am’t received
30%
x $100,000
Total gain recognized is $200,000
$30,000
x 5 + $50,000
Installment Method Problem
Area: Imputed Interest
If the contract does not specify an interest
rate equal to the applicable federal rate
Then interest will be imputed at that rate
Problem Area-Related Party Sales
Sale between related parties
Spouses, children, grandchildren, and parents
Controlled corporation, partnership, trust, estate
Normal rules apply, unless
Property is depreciable or
Purchaser resells the property before payment
of the original sales price
Rules can be avoided if the taxpayer can establish
(to the Secretary’s satisfaction) that tax avoidance
was not the motive for the transaction
Transferring an Installment
Obligation
Sale, gift, or other transfer of the installment
obligation
Unreported gain may be reported at the time
of transfer
Difference between
Basis
in the obligation and
Amount realized
Fair market value of the obligation
Basis in Obligation
Excess of the face value of the obligation
over an amount equal to the income which
would be returnable were the obligation
satisfied in full
Interest on Deferred Taxes
Require the taxpayer to pay interest
Only required if the sales price of the
property exceeds $150,000
Obligations from all such sales that arise
during and are outstanding at the end of the
tax year exceed $5,000,000
Gains associated in excess of $5,000,000