11.16+-+Chapter+11 - Berkeley Women in Business

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CONCEPTS IN
FEDERAL TAXATION
CHAPTER 11:
PROPERTY
DISPOSITIONS
November 16,
2012
ADMINISTRATIVE
 Attendance
 Research project
Due November 19 th
 Midterm 2
Regrade policy
Concerns?
HOMEWORK PROBLEMS
HW Problems:
Assignment #12
Chapter 11
P#24, 27, 28, 52, 55
Extra problems: #44, 57
#24
Tu ye n i s n e g o t i a t in g t h e s a l e o f h e r l a ke f r o n t p r o p e r t y n e a r Wa b a s h a . N i l s i s
o f fe r i n g :
Cash of $10,000
A p a r c e l o f l a n d n e a r Re d W i n g v a l u e d a t $ 5 , 0 0 0 w i t h a n a d j u s te d b a s i s o f $ 3 , 0 0 0
A s k i b o a t v a l ue d a t $ 9 , 0 0 0 w i t h a n a d j u s te d b a s i s o f $ 1 5 , 0 0 0
I n s t a l l a t io n o f n ew h e a t i n g a n d a i r c o n d i t io n i n g i n Tu ye n ’ s Ro c h e s te r r e s i d e n c e
( N i l ’s l a b o r a n d e q u i p m e n t c o s t s a r e v a l u e d a t $ 4 , 5 0 0 )
 P ay m e n t o f $ 2 , 0 0 0 i n r e a l e s t a te t a x e s d u e o n t h e p r o p e r t y
 Assumption of the $120,000 balance of the mortgage on the property
 P ay m e n t o f t h e $ 9 0 0 i n a t to r n ey f e e s a n d $ 5 0 i n f i l i n g f e e s to c o m p lete t h e
transaction




I n a d d i t i o n , Tu ye n i s o f fe r i n g to t r a n s f e r h e r p o n to o n b o a t a n d o u t b o a r d m o to r to N i l s .
T h e b o a t a n d m o to r h av e a f a i r m a r ket v a l ue o f $ 8 , 5 0 0 a n d a n a d j us te d b a s i s o f
$ 1 0 , 0 0 0 . A l s o , s h e w o u l d a s s u m e t h e $ 3 , 0 0 0 m o r t g a g e b a l a n c e o n t h e Re d W i n g r e a l
e s t a te
Tu ye n ’ s b r o t h e r te l l s h e r s h e s h o u l d n o t a c c e p t a n o f f e r o f l e s s t h a n $ 1 5 0 , 0 0 0 f o r t h e
Wa b a s h a p r o p e r t y. Wr i te a l et te r to Tu ye n ex p l a i n i n g h o w m u c h s h e w o ul d r e a l i z e i f
s h e a c c e p t s N i l s ’ o f fe r a s p r e s e n te d .
#24
 Adjusted basis irrelevant for determination of amount realized
 Look at FV
Determination of amount realized by Tuyen:
Cash receipt
Value of parcel of land near Red Wing
Ski boat value
Value of heating and air conditioning installation
Real estate taxes owed by Tuyen, paid by Nils
Mortgage assumed by Nils
Tuyen’s fees ($900 + $50)
Less:
Value of boat and motor transferred to Nils
Mortgage assumed on the Red Wing land
Amount realized
$ 10,000
5,000
9,000
4,500
2,000
120,000
950
(8,500)
(3,000)
$139,950
#24
 $139,950 < $150,000 suggested by Tuyen’s brother
 Whether she accepts/declines the deal depends on if she
deems the $139,950 to be a fair selling price or not
#27
During the current year, James sells some land he purchased in
2007 as an investment. He had paid $4,000 in cash and borrowed
$22,000 to buy the land. He had paid legal fees of $440 and
commissions of $560 on the purchase. He sells the land on
October 1 to DeWayne, who gives James 200 shares of Aardvark
common stock with a fair market value of $9,600 (DeWayne had
paid $3,700 for the stock) and assumes James’s debt on the land,
which is $20,800 at the time of sale. James pays legal fees of
$400 and $1 ,800 of commissions on the sale. DeWayne pays
legal fees of $575 and commissions of $980 related to the
purchase. In addition, DeWayne agrees to pay the property taxes
of $800 on the land for the entire year. Assume you are a staff
accountant in a CPA firm. Write a memorandum to your supervisor
explaining James’s gain or loss on the land sale, James’s basis in
the common stock received, DeWayne’s gain or loss on the
transaction, and DeWayne’s basis in the land.
#27
James’ gain on land:
Gross sales price ($9,600 + $20,800 + $600)
$ 31 ,000
 Stock, debt assumption, property taxes
Less:
Selling expenses ($400 + $1 ,800)
(2,200)
 Legal fees & commission
Amount realized
AB ($4,000 + $22,000 + $440 + $560)
$ 28,800
(27,000)
 Cash, debt, legal fees, commission
Realized gain on sale
 $800 property taxes x 9/12 year = $600
James’s portion of property taxes
$
1 ,800
#27
 James’ basis in the 200 shares of Aardvark stock is its fair
market value $9,600
#27
DeWayne’s realized gain on transaction:
Gross sales price (stock)
Less:
Adjusted basis
Realized gain
$
9,600
(3,700)
$ 5,900
#27
DeWayne’s basis in the land:
Gross sales price
$ 31 ,000
 Stock, debt assumption, property taxes
Plus:
Expenses paid to acquire land ($575 + $980)
1 ,555
 Legal fees & commission
Basis
$ 32,555
#27
Additional Considerations:
 DeWayne’s payment of James’ property taxes of $600 [$800
x (9 ÷ 12)] is part of the agreed upon selling price of the
property
 The remaining $200 ($800 - $600) of property taxes
Dewayne pays is a deductible property tax
#28
Elvira owns an of fice building, and Jared Par tnership owns an apar tment
building. Each proper ty is encumbered by a mor tgage. Elvira and Jared
Par tnership agree to exchange their proper ties and mor tgages, with any
dif ference to be paid in cash. The fair market values, mor tgages, and
adjusted bases for the proper ties are as follows:
Jared
Par tnership
Fair market value
Mor tgage debt
Adjusted basis
Elvira’s Building
$ 220,000
80,000
100,000
Building
$ 250,000
150,000
175,000
a. Write a letter to Elvira explaining who will have to pay cash to
complete the exchange, the amount of her gross selling price, and the
amount of gain or loss she will realize on the exchange.
#28
Fair market value
Mortgage debt
Equity in building
Elvira’s
Jared’s
Building
Building
$ 220,000
$ 250,000
(80,000)
(150,000)
$ 140,000
$ 100,000
Dif ference
$ 30,000
(70,000)
$ (40,000)
 Jared Partnership will need to pay Elvira $40,000 cash to
complete the exchange
#28
 Elvira realizes a gross selling price of $220,000:
Cash received from Jared
Value of building received
Mortgage assumed by Jared
Less:
Assumption of Jared’s mortgage
Gross selling price
$
40,000
250,000
80,000
(150,000)
$ 220,000
#28
Elvira’s gain realized on the exchange is $120,000:
Gross selling price
Less:
Adjusted basis
Realized gain
$ 220,000
(100,000)
$ 120,000
#28
b. Write a letter to Jared Partnership explaining who will have to
pay cash to complete the exchange, the amount of the gross
selling price of its property, and the amount of gain or loss it will
realize on the exchange.
 Jared Partnership will need to pay Elvira $40,000 to complete
the exchange (determined in part a)
 Jared realizes a gross selling price of $250,000:
Value of land received
Mortgage assumed by Elvira
Less: Assumption of Elvira’s mortgage
Less: Cash paid to Elvira
Gross selling price
$ 220,000
150,000
(80,000)
(40,000)
$ 250,000
#28
Jared’s gain realized on the exchange is $75,000:
Gross selling price
Less:
Adjusted basis
Realized gain
$ 250,000
(175,000)
$ 75,000
#52
During August 2009, Madeline invests $400,000 in Qual
Company, Inc., buying 100,000 shares of stock. Her broker tells
her this will be an excellent investment because the securities
are qualified small business stock. He predicts the stock will
triple in value over the next three years. At the end of 2011 ,
Madeline’s shares are valued at $700,000. Madeline is
encouraged. She decides to cash out of this investment in
December 2012 if the stock continues to appreciate. Madeline
comes to you for advice. Write a letter advising her what she
should do.
#52
 If the stock triples in value as predicted by her stockbroker,
Madeline will realize a gain of $800,000
($400,000 x 3 = $1,200,0000) - $400,000 on sale in December 2012
 Madeline’s investment can be qualified small business stock
only if she holds it for 5 years
Individuals may exclude 50%, 75%, or 100% of the realized gain on
qualified small business stock depending on timeframe
 By not holding the stock 5 years, Madeline will be taxed at
15% on the $800,000 gain
She will pay $120,000 ($800,000 x 15%) in tax on the gain if she
sells the stock in December 2012
#53
 If she purchases other qualified small business stock costing
at least $1 ,200,000 (the selling price) within 6 months of the
sale, she can defer the entire gain on the stock and the
holding period of the new stock will include the time she held
the Qual Company stock
If she buys replacement stock, the basis of the replacement stock is
reduced by any gain not recognized on the sale
#52
 If Madeline holds the stock until af ter August 2014, the stock
will be qualified small business stock (>5 years)
She can exclude 75% of any gain on the sale
 If she can still sell the stock for $1 ,200,000 at this time, she
can exclude $600,000 of the gain
75% x $800,000 = $600,000
 The remaining gain is taxed at 28 % (assuming she in in the
28% or higher tax bracket)
$200,000 x 28% = $56,000
 By holding the stock an additional 1½ years, she will save
$64,000 ($120,000 - $56,000) in taxes
#52
 Madeline should not sell the stock until af ter August 2014 if she
expects the stock to maintain its value
 If the stock price is expected to drop before this time, she may
want to consider selling in December 2012
 For example, if the stock is projected to be worth only $750,000
in August 2014, she will have a $350,000 ($750,000 $400,000) gain on the sale
 She excludes $262,500 of the gain ($350,000 x 75%) and pays a
tax of $24,500 ($87,500 x 28%) on the $87,500 of gain
remaining af ter the exclusion
 Her realization net of tax is $725,500 ($750,000 - $24,500)
 If she sells the stock in December 2012, her realization net of
tax is $1 ,080,000 ($1 ,200,000 - $120,000)
 The decision to sell the stock in December 2012 or hold it until
af ter August 2014 is dependent on what the price of the stock is
expected to be in the future
#55
Neila sells 500 shares of Bolero Corporation stock for $10,500 and
pays $500 in sales commissions on September 23 of the current
year. She acquired the stock for $4,700 plus $300 in commissions
five years ago. Neila owns the following securities in December of
the current year.
Security
Number
of Shares
Rondo Corporation
Hartley, Inc.
Flescher Company
200
300
400
Purchase
Date
2/13/09
4/11/11
7/18/12
Basis
$
3,000
11 ,000
24,000
Market
Value
$ 6,000
5,000
20,000
Write a memorandum to Neila recommending an optimal year -end
tax-planning strategy for her capital gains and losses.
#55
 Neila realizes a $5,000 [($10,500 - $500) - ($4,700 +
$300)] long-term capital gain on the Bolero Corporation stock
sale
 When a taxpayer is in a net capital gain position prior to the
end of the tax year, the normal strategy is to take losses on
capital assets to of fset the capital gain
 Neila should sell some of her securities that currently have
unrealized losses
#55
 If Neila sells the Hartley Inc . shares, she will realize a $6,000
long-term capital loss
$5000 FV - $11,000 basis
 This will change her net capital gain/loss position to a $1 ,000
($5,000 - $6,000) net capital loss
 Selling the Flescher Company stock will result in a $4,000
short-term capital loss
$20,000 FV - $24,000 basis
 Because of the $3,000 capital loss deduction limitation, Neila
should sell only 200 of the Flescher shares
$2,000 short-term loss on the sale
$3,000 net capital loss ($2,000 + $1,000)
#55
Alternative Solution:
 Neila could sell the 400 Flescher shares
$4,000 loss
 She would then need to sell 200 of the Hartley Inc. shares,
which would produce a $4,000 loss
$6,000 loss x 2/3 = $4,000
 Netting the $4,000 loss on the Flescher shares and the
$4,000 loss on the Hartley shares with the $5,000 gain on the
Bolero Corporation stock sale results in a net capital loss of
$3,000, which is the maximum amount she can deduct
EXTRA PROBLEMS—#44
Rollie has the following capital gains and losses during the
current year:
Short-term capital gain
Collectibles gain
Long-term capital gain
Long-term capital loss
$ 3,000
4,000
11 ,000
6,000
Rollie is married and has a taxable income of $145,000 before
considering the ef fect of his capital gains and losses. What is
the ef fect of Rollie’s capital gains and losses on his taxable
income and his income tax liability?
EXTRA PROBLEMS—#44
Rollie has a $3,000 short-term capital gain and a $9,000 long term capital gain:
Short-term capital gain
Long-term capital gain
Long-term capital loss
Collectibles gain
Net long-term capital gain
$ 3,000
$ 11,000
(6,000)
4,000
$ 9,000
EXTRA PROBLEMS—#44
 The capital gains are added to gross income, increasing his
taxable income to $ 157,000
$145,000 TI + $3,000 STCG + $9,000 LTCG
 The short-term capital gain is taxed at Rollie’s 28% marginal
tax rate
 The net long-term capital gain consists of an adjusted net
capital gain of $5,000 ($9,000 - $4,000) and a $4,000
collectibles gain:
28% marginal rate
28% rate gain
Adjusted net capital gain
= $3,000
= $4,000
= $9,000 - $4,000 = $5,000
EXTRA PROBLEMS—#44
 The $5,000 adjusted net capital gain is taxed at 15 %
 The $4,000 collectibles gain is taxed at 28% (equal to the
marginal tax rate)
 Rollie’s income tax liability increases by $2,710:
Tax on
840
Tax on
750
Tax on
1 ,120
Tax on
short-term capital gain -
$3,000 x 28%
adjusted net capital gain -
$5,000 x 15%
collectibles gain -
$4,000 x 28%
capital gains
$
$2,710
EXTRA PROBLEMS—#57
Opal’s neighbor, Jilian, persuades her to invest in Schaake
Corporation, a new venture, on March 4, 2011 . Opal pays
$15,000 for 3,000 shares of common stock. On February 6,
2012, Schaake Corporation declares bankruptcy and closes its
doors forever. Opal never receives a return on her investment
or a reimbursement of her original investment. What are the
tax consequences to Opal?
EXTRA PROBLEMS—#57
 Opal realizes a $15,000 long -term capital loss on the
worthless securities in 2012
 Opal is deemed to have realized the loss on the last day of the
tax year in which the security is determined to be worthless
(2012)
 The realized loss is equal to the basis of the worthless
security
 The stock is long-term because the holding period is more
than 12 months
March 4, 2011, through December 31, 2012
 Opal can deduct only $3,000 of the loss, unless she has
capital gains to of fset some or all of the $15,000 capital loss
IMPORTANT CONCEPTS
I.
All gain/loss are categorized as:
A.
B.
C.
D.
II.
Ordinary
Capital
Section 1231
Personal use
Realized gain/loss
A.
B.
Gross sales price – selling expenses
Gross sales price:
i.
ii.
iii.
iv.
v.
Cash
FMV property received
FMV services received
Amount of seller’s expenses paid by buyer
Amount of seller debt assumed by buyer
IMPORTANT CONCEPTS
III. Capital gains/losses
A.
Definition: a property that is NOT:
i.
ii.
iii.
iv.
v.
B.
Inventory item
Receivable
Real/depreciable property used in trade/business
Copyrights, etc.
U.S. government publications (don’t worry about this one)
Capital gain/loss netting procedure
i.
ii.
Classify as ST or LT
Identify gains from collectibles, qualified small business stock and
unrecaptured section 1231
Net within categories
iii.
a.
iv.
v.
Collectibles and qualified small business stock are netted with LT
If LT & ST are opposite, keep netting
Otherwise, stop netting and treat LT and ST separately
IMPORTANT CONCEPTS
vi. Adjusted net capital gains are taxed at maximum 15%
a.
b.
Adjusted NCG = NLTG – (28% rate gain + unrecaptured 1231 gain) + eligible dividend
income
28% rate gain = net collectibles gain + (qualified small business stock gain – NSTL – LTL
carryover)
vii. Net collectible gains taxed at maximum 28%
viii. Unrecaptured 1231 taxed at maximum 25%
ix. $3,000 capital loss limit
a.
Corporations can’t deduct capital losses against other types of income and get no tax
break on capital gains
IV. Capital gain exclusion on qualified small business stock
A.
B.
C.
Qualifications
Relief for gains (talked about losses in chapter 7)
Defer gain if replaced
IMPORTANT CONCEPTS
V.
Capital gains/losses—planning strategies
A.
Net capital gain position
i.
B.
Sell assets with unrealized loss
Net capital loss position
i.
C.
Optimize at $3,000 net capital loss
Worthless securities
i.
D.
Deemed to occur on last day of tax year
Basis of securities sold
i.
ii.
Specific identification
FiFO
IMPORTANT CONCEPTS
VI. Section 1231 gains/losses
A.
Definition
i.
ii.
iii.
iv.
v.
B.
Real or depreciable property used in a trade/business and held for
more than 1 year
Timber, coal, iron ore
Cattle or horses held more than 2 years
Other livestock held more than 1 year
Crops in the field
Netting procedure:
i.
ii.
iii.
Net gain = LTCG
Net loss = ordinary loss
Lookback recapture rule (applies only to gains)
IMPORTANT CONCEPTS
VII. Depreciation recapture
A.
B.
Only applies to gains on property dispositions
Section 1245 recapture
i.
ii.
C.
Full recapture
Applies to peronalty
Section 1250 recapture
i.
ii.
D.
Partial recapture of excess depreciation over SL
Real estate using MACRS will not have any 1250 recapture since
already using SL
Section 1245 and 1250 properties
i.
ii.
iii.
Apartment buildings always 1250
Nonresidential realty depends on when it is placed in service
Look at table 11-2
IMPORTANT CONCEPTS
VIII. Unrecaptured section 1250 gain
A.
B.
Gain that would be ordinary if using Section 1245
Taxed at maximum 25%
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