Basis Of Property
Billy Bob Lowdermilk owns securities with a tax basis of $8,000. He gives them to Jamie Orwell when they are worth $7,100. She holds them and they begin to climb slowly in value. She eventually sells them for $7,800. What is the impact on taxable income that she must report on this sale?
Zero
At the time of the gift, the securities are worth less than the donor's basis. The IRS will not allow a taxpayer to shift losses to another taxpayer by gifting property. Therefore, in cases where the fair market value of the property is lower than the donor's basis you will need to determine if the property is sold at a gain, or a loss.
The basis for figuring gain is the same as the donor's adjusted basis, and the basis for figuring a loss is the FMV on the date of the gift.
In this example, using the donor's basis to figure a gain is not possible since $7,800 – $8,000 basis results in a loss of $200, and is not allowed.
Using the FMV at the time of the gift to figure a loss $7,800 – $7,100 FMV results in a $700 gain, not a loss.
This question is an example of a zero tax situation resulting from the dual basis rules. If you use the donor's adjusted basis for figuring a gain and get a loss, and then use the FMV for figuring a loss and have a gain, you have neither gain nor loss on the sale or disposition of the property.
Julia sold her stock in ABC Company to her sister Hannah for $30,000. Julia's tax basis in this investment was $33,000. Sixteen months later, Hannah sold the stock to an unrelated third party for $32,000 in cash. What is the income tax effect of Hannah's sale?
Neither a gain nor a loss
The first transaction results in a disallowed loss of $3,000 ($30,000 less $33,000) because the investment was sold to a related party. The second transaction was to an unrelated party and results in a gain of $2,000 ($32,000 less $30,000). The disallowed loss of $3,000 can then be used to reduce this gain for tax purposes to zero. However, a disallowed loss of this type cannot be used to create a taxable loss. Therefore, although the loss of $3,000 is greater than the eventual gain of $2,000, it can only reduce the gain to zero. That is its limit.
Qualified small business stock, for purposes of applying rollover and exclusion rules, is stock that meets all the following tests EXCEPT:
Total gross assets of $100,000,000 or less at all times after August 10, 1993 and before it issued the stock.
Qualified small business stock, for purposes of applying rollover and exclusion rules, is stock that meets all the following tests:
An increase in basis of property can be due to items properly added to a capital account. These items include all of the following, EXCEPT:
Amounts received for granting an easement
Capital improvements include putting a rec room in an unfinished basement, adding a bathroom or bedroom, building a fence, installing new plumbing, installing a new roof, paving the driveway. The basis of property decreases by all items that represent a return of capital, including non-taxable corporate distributions, casualty and theft losses, easements, depreciation and section 179 deductions.
Which of the following is NOT real property?
Appliances
Real property is land and anything built on it (i.e., buildings) on or attached to it (i.e., fixtures). When a taxpayer buys real property, certain fees and other expenses become part of the cost basis in the property and are subject to the capitalization rules. IRS Pub. 551.
Tom gave Fred a rental house. Tom had purchased the property in 2000 for $80,000 and has taken $9,000 in depreciation. Tom's adjusted basis was $71,000. The fair market value of the rental house on the day of transfer was $90,000. If Fred sells the house at a gain, his basis in the property will be:
$71,000
The FMV exceeds the donor's basis at the time the gift is made so Fred's basis is the donor's adjusted basis at the time that he received the gift, $71,000.
The related persons rule regarding asset sales applies to transactions between _________?
The grantor and a fiduciary of a trust
The Code recognizes that transactions between related persons are subject to tax abuse. For instance, a child may sell property to her parent at a loss (i.e. cost basis exceeds amount realized) in order to offset income from another transaction. This transaction is deemed abusive because child claims a loss even though she retains ownership of the property. In this case, the losses in a transaction between a grantor and fiduciary will be disallowed because trust grantors and fiduciaries of such trusts fall within the list of related persons. Related persons include family members (but not in-laws), and individuals and entities in which the individual owns or controls more than 50% of the entity.
A gain on inherited property is generally classified as:
Long-term gain
With the exception of 2010 transfers electing modified carryover basis, a gain on inherited property is always long-term.
In 20X1, Ralph received 10 shares of White Corporation stock as a gift from his father. Ralph's father had originally paid $10 per share for this stock. The stock was trading for $20 per share at the time of the gift. In 20X4, Ralph purchased an additional 20 shares of White Corporation stock for a price of $30 per share. Ralph was charged a $20 transaction fee on this purchase. In October of 20X5, Ralph sold 20 shares of his White Corporation stock. Ralph cannot adequately identify the shares he disposed of. What is Ralph's basis in the White Corporation shares he still owns?
$310
If a person buys and sells securities at various times in varying quantities and cannot adequately identify the shares sold, the basis used is the basis of the securities acquired first. This is the first in, first out (FIFO) method. If adequate identification is possible, the taxpayer may elect to report the specific shares sold, regardless of their order of purchase.
To account for the 20 shares sold under FIFO, he will report the 10 gifted shares and 10 of the shares he purchased. He is left holding 10 shares at $31/sh, or $310 in basis.
Carol provides services in 2011 to Bragg Corporation. Her service contract with Bragg Corporation listed her fee at $50,000 receivable in cash and/or stock. At the time her fee was due Bragg Corporation stock was trading for $1,000 per share. Carol elected to receive $30,000 in cash and 20 shares of Bragg Corporation stock. In 2015, the Bragg Corporation stock split increasing the number of Carol's shares to 40. In the current year Carol sells 20 shares of her Bragg Corporation stock for $1,500 per share. What is Carol's basis in the Bragg Corporation shares she still owns?
$10,000
Her basis in the 20 shares before the split is $20,000 ($1,000 per share). After the split, she has 40 shares and her basis is still $20,000, with a basis of $500 per share. She sells 20 of those 40 shares, which does not affect the basis of her remaining shares. Her remaining 20 shares still have a basis of $500 each for a total of $10,000.
In 2021, your father gave you a gift of property with a fair market value (FMV) of $75,000. His adjusted basis was $50,000. The gift tax paid was $10,000. What is your basis in the property?
$54,167
FMV of the gift is greater than the donor's basis at the time of the gift, so the basis equals the donor's basis. If the donor paid gift tax on the transfer, the basis increases by the part of the gift tax that is due to the net increase in the value of the gift. The net increase in the value of the gift is the FMV of the gift minus the donor's adjusted basis. Figure the increase by multiplying the gift tax paid by a fraction.
gift tax paid × [(FMV at time of gift – donor's basis) ÷ (amount of gift – 2021 annual exclusion)] = gift tax due to net increase in value of gift
$10,000 × [($75,000 – $50,000) ÷ ($75,000 – $15,000)] = $4,167 gift tax due to net increase in value of gift
The basis of the gift is the same as the donor's basis, increased by a portion of the gift tax paid (the amount due to the appreciation).
$50,000 basis of gift (same as donor's basis) + $4,167 gift tax due to net increase in value of gift = $54,167 your basis in the property
Which of the following statements is true as it pertains to non-business bad debt?
Qualifying debt is classified as short term capital loss
The bad debt may be deductible in the year it becomes worthless. It must be totally worthless and it must arise out of a genuine debtor-creditor relationship. The debt cannot have been intended as a gift. There is no debt obligation when a minor child borrows from their parents. Bad debts are deductible as short-term capital losses.
The Path Act of 2015 permanently extends the percentage exclusion for qualified small business stock sold by an individual to:
100% of eligible gain
The PATH Act permanently extends the exclusion of 100 percent of the gain on certain small business stock for non-corporate taxpayers to stock acquired and held for more than five years.
The amount of gain eligible for the exclusion by an individual with respect to the stock of any corporation is the greater of: (1) ten times the taxpayer’s basis in the stock or (2) $10 million (reduced by the amount of gain eligible for exclusion in prior years).
As originally enacted, Code section 1202 allowed a taxpayer other than a corporation to exclude 50 percent (60 percent for certain empowerment zone businesses) of the gain from the sale of certain small business stock acquired at original issue and held for at least five years.
For section 1202 stock acquired after February 17, 2009, and before September 28, 2010, the percentage exclusion for qualified small business stock sold by an individual was increased to 75 percent.
For stock acquired after September 27, 2010, the §1202 exclusion is 100% of eligible gains. Congress made the 100% exclusion permanent in the PATH Act of 2015.
In the year 20X1, Captain Carl received 100 shares of Bland Corporation stock as a gift from his neighbor's barber. Captain Carl's neighbor's barber had originally paid $1 per share for this stock. The stock was trading for $5 per share at the time of the gift to Captain Carl. In 20X2, Captain Carl purchased an additional 200 shares of Bland Corporation stock at $30 per share. Captain Carl was charged a $100 fee for that purchase. In March of 20X4, Captain Carl sold 150 shares of his Bland Corporation stock. Captain Carl cannot adequately identify the shares he disposed of. What is the Captain's basis in the Bland Corporation shares he still owns?
$4,575
If a person buys and sells securities at various times in varying quantities and cannot adequately identify the shares sold, the basis used is the basis of the securities acquired first. This is the first in, first out (FIFO) method. If adequate identification is possible, the taxpayer may elect to report the specific shares sold, regardless of their order of purchase.
To account for the 150 shares sold under FIFO, he will report the 100 gifted shares and 50 of the shares he purchased.
Increase basis by commission paid to purchase stock. The basis of the 200 shares he purchased is $6,100 or $30.50 /sh. He is left holding 150 shares at $30.50/sh, or $4,575 in basis. 150 x 30.50 = $4,575.
Sue gave Jennifer a rental house in 2021. Sue had purchased the property in 2006 for $60,000 and has taken $17,000 in depreciation. Just before the transfer she also paid $5,000 for a room addition. Gift tax of $18,200 was paid. The fair market value of the rental house on the day of transfer was $90,000. Jennifer's basis in the property will be:
$58,192
FMV at time of gift is $90,000.
Donor's adjusted basis is $48,000 ($60,000 purchased – $17,000 depreciation + $5,000 room addition).
Donor's basis is less than FMV at time of gift, so Jennifer's basis will equal the donor's basis plus an adjustment for a portion of the $18,200 gift tax that relates to the net increase in value of the property.
Figure the increase by multiplying the gift tax paid by a fraction.
gift tax paid × [(FMV at time of gift – donor's basis) ÷ (amount of gift – 2021 annual exclusion)]
$18,200 × [($90,000 – $48,000) ÷ ($90,000 – $15,000)] = $10,192
$48,000 donor's adjusted basis + $10,192 portion of gift tax due to increase in value = $58,192 Jennifer's basis in property.
Silas Wykowski receives 20 shares of stock from a friend as a gift. These shares had originally cost the friend $400 but were only worth $300 when the conveyance to Silas was made. The stock was held for some time and then sold for $280. What is the income tax effect recognized by Silas Wykowski?
No gain or loss at the time of gift and a $20 loss when sold.
There is no income tax effect when a gift is made. A gift tax might have to be paid if the amount is large but this is a small gift. If the value then goes down, the owner can recognize a loss when sold. That loss is the difference in what was received and the lower of the tax basis to the previous owner (usually original cost) and the fair value at the date of the gift. Here, that fair value when conveyed ($300) is less. So, the tax loss is this $300 less the $280 sales price or $20.
Wilson bought three acres of land for a total price of $140,000. Several years later, the land was sold to Ammerson for $200,000. Ammerson paid $40,000 in that year and then an additional $80,000 payment each year until the debt was paid off. Wilson qualified to use the installment sales method on this sale for income tax purposes. Interest is calculated separately. In the year of the sale, what profit will Wilson recognize in computing taxable income?
$12,000
In computing the reported income for tax purposes using the installment sales method, the seller starts by computing the gross profit percentage. Here, that is the $60,000 profit on the sale divided by the sales price of $200,000 or 30 percent. That percentage is then multiplied by the amount of cash collected during the year or $40,000. In the year of sale, 30 percent of $40,000 cash is a taxable gain of $12,000. In this way, the taxpayer reports the gain incrementally as the cash is being collected so that money will be available to cover the related tax charge.
Bob Gibson purchased 2,000 shares of IBC Corporation three years ago for $32 per share. These shares are currently selling at $11 per share on the stock market. Bob sells all of his stock on February 1 and then repurchases the same number of shares on February 22 for $11.50. What is the amount of gain/loss to be reported on Bob's tax return for this year?
There is no gain or loss reported on the sale of these securities.
Taxpayers cannot sell capital assets to create losses to offset capital gains if they, in essence, then replace the capital asset. This is referred to as a wash sale and occurs when substantially identical securities are bought within 30 days either before or after the date of the sale or disposal. Here, the taxpayer bought the same shares within 30 days of the sale. This is a wash sale and the taxpayer cannot deduct the loss. The taxpayer does not have a loss because the taxpayer still holds the same shares. Gains on stocks sold under the same scenario are fully taxable.
The cost basis of real property includes:
All of the above
Taxpayers may add the following settlement fees or closing costs to the basis:
You received an acre of land as a gift. At the time of the gift, the land had an FMV of $8,000. The donor's adjusted basis was $10,000. After you received the land, no events occurred to increase or decrease your basis. You sell the land for $9,000. What is the amount of gain or loss you must report?
$0
If the FMV of the property at the time of the gift is less than the donor's adjusted basis, your basis depends on whether you have a gain or a loss when you dispose of the property. Your basis for figuring gain is the same as the donor's adjusted basis plus or minus any required adjustment to basis while you held the property. Your basis for figuring loss is its FMV when you received the gift plus or minus any required adjustment to basis while you held the property. If the sales price is between $8,000 and $10,000, you have neither gain nor loss. For instance, if the sales price was $9,000 and you tried to figure a gain using the donor's adjusted basis ($10,000), you would get a $1,000 loss. If you then tried to figure a loss using the FMV ($8,000), you would get a $1,000 gain.
Ed purchased a house on an acre of land from Ruth on June 30. Prior to the purchase, Ed had been renting the house from Ruth for $500 per month. Ed paid the following amounts:
What is Ed's basis in the house and land purchased from Ruth?
$102,000
$100,000 purchase price + $1,000 real estate taxes Ruth owed to the town (assuming sellers liability) + $1,000 closing costs = $102,000 Ed's adjusted basis.
The other items do not affect the basis calculation. Ed can either expense or amortize the points. His escrowed real estate taxes are an expense when paid, and the past due rent is not deductible.
On January 1, John Jacob sold shares of Ford Motor Company to his daughter Emily. The original cost had been $11,000 to Jacob but the sale was for $7,000, the market value of those shares on that date. Emily held the shares until September 1 when she started college and sold them to an outside party for $8,300 to help pay for tuition. What does each party report on their separate federal income tax returns?
John reports no loss and Emily reports no gain
The sale was to a related party from father to daughter. Thus, the loss has no impact as long as Emily continues to hold the shares. They are still within the family. When she sells the shares, the $4,000 loss incurred by the father can be used to reduce, or in this case, eliminate the entire $1,300 gain of the daughter. However, the remaining $2,700 loss cannot be deducted. The remaining reduction is lost.
Horace Fife is a 20 percent partner of a local convenience store although he does not actively participate in its operations. This year he was allocated a loss from this business of $24,000. He also owns shares of several publicly held companies and received dividends this year of $17,000. Fife owns two rental houses. During the year, their revenues totaled to $40,000 and operating expenses were $30,000. Finally, Fife held a share of a limited partnership and reported income this year of $4,000 as a result of that ownership. What is the increase in Fife's adjusted gross income as a result of all these investments?
$17,000
All of these income items except for the $17,000 in dividends are passive activities. Passive activity gains and losses are netted together. A net gain is taxable. A net passive loss cannot be deducted but can be carried over into future years. Here, there is a passive activity loss of $10,000: $24,000 loss on the business where Fife is not an active participant, $10,000 income from rental property, and $4,000 income from limited partnership. That loss is not deducted but is carried forward.
Horace Turner owned a building with an income tax basis of $400,000 but with an estimated fair value of $510,000. The property was condemned by the local government so that the property could be used for a landfill. To avoid litigation, the government paid him $530,000. He used $360,000 of this money to buy property that qualified as replacement property. What gain, if any, should he recognize on this condemnation of this building?
$130,000
When property is condemned, destroyed, or stolen, it is viewed as an involuntary conversion. If the owner receives an amount below the tax basis of his business property, a loss must be recognized for the difference. In this case, the owner collected $130,000 in excess of the tax basis. Because the sale was not intended but was created by an involuntary conversion, the gain that is reported for tax purposes is this $130,000 gain or the amount of the proceeds remaining after similar property is acquired as a replacement. Although $530,000 was received, only $360,000 was used for the replacement property. The $170,000 ($530,000 received – $360,000 used for replacement) in cash that is left is more than the $130,000 gain. As the lower figure, the $130,000 is Turner's taxable gain.
Charles gave his daughter, Jane, a residential house. He had purchased the house for $250,000 in 2000. The fair market value on the date of the gift was $300,000. Charles had added a $25,000 roof the year before he gave it to Jane. Jane converts the house to a residential rental property within one year of the gift. Jane's basis in the property for depreciation is:
$275,000
Donor's adjusted basis is $275,000 ($250,000 purchase plus $25,000 improvements), the FMV is $300,000, and no gift taxes were paid on this gift made after 1976. FMV exceeds adjusted basis on date of gift. Her basis for depreciation of this property upon its conversion to business use is the donor's adjusted basis on the date of the gift, $275,000.