mod 6 CFP 514
Mary has owned her principal residence for over six years. Two years ago, she married John, who immediately moved into the residence. John has never used the Section 121 exclusion. If Mary sells the residence this year and John and Mary file a joint return, which of the following statements is CORRECT with respect to the availability of the Section 121 exclusion? A) The maximum exclusion is $500,000 because Mary has at least two years of ownership, and both spouses meet the use requirement. B) The maximum exclusion is $250,000 because John is not an owner of the residence. C) The maximum exclusion is $250,000 because that is the maximum exclusion for an individual who was single when the residence was purchased. D) The maximum exclusion is $500,000 because that is the amount always available for married taxpayers who file jointly.
A) Currently, Section 121 allows for a gain exclusion, of up to $500,000 for taxpayers married filing jointly, to any taxpayer who satisfies certain tests, known as the ownership test and the use test. To satisfy the ownership test, the home must have been owned and used as a principal residence for at least two of the five years preceding the date of sale. (Note: These years do not have to be consecutive; they only have to add up to at least two years.) Either spouse can meet the ownership test, but both must meet the use (two-out-of-five-year) test. This is likely not difficult for most married couples (applies even to those living in the house and then getting married), but it can be burdensome for individuals who are divorced or in the process of a divorce.
Three years ago, Sam received a gift of 100 shares of common stock from his uncle. The fair market value of the stock on the date of the gift was $12 per share. His uncle had purchased the stock four years earlier at $5 per share. Sam sold this stock for $17 per share last week. What was Sam's per-share basis in the stock when it was sold? A) $5 B) $12 C) $22 D) $17
A) If the fair market value on the date of the gift is greater than the donor's adjusted basis, the donor's adjusted basis is used as the recipient's basis. Note that the donor's holding period would be tacked to the donee's holding period.
Which of the following statements is accurate with respect to a like-kind exchange? A) No gain will be recognized unless the taxpayer receives boot. B) No gain will be recognized on the exchange of inventory. C) Gain recognized is equal to the gain realized on the exchange plus the boot received. D) The amount of gain recognized will reduce the taxpayer's basis in the property received.
A) In a like-kind exchange, the gain recognized is always the lesser of the gain realized or the boot received. If there is no boot received, there is no gain recognized. Inventory is not eligible for like-kind exchange treatment—thus, gain would be recognized. The basis in the acquired property is the FMV of the acquired property, reduced by the gain realized but not recognized (the deferred gain).
Susan received 100 shares of stock as a gift from her uncle, Carl. Carl purchased the stock 15 years ago for $12 per share. Susan received the stock from Carl two months ago, when the fair market value of the stock was $15 per share, and she sold the stock this week for $19 per share. What is the amount and character of Susan's gain from the sale of the stock? A) $700 long-term capital gain B) $700 short-term capital gain C) $400 long-term capital gain D) $400 short-term capital gain
A) In the case of an asset received as a gift, where the fair market value on the date of the gift is greater than the donor's adjusted basis, the recipient has a carryover basis. In this case, Uncle Carl had purchased the stock for $12 per share and had gifted it to Susan when the fair market value was $15 per share. Susan subsequently sold the stock for $19 per share. Thus, the carryover basis from Uncle Carl would be $12 per share. In a situation where the recipient of the gift takes the donor's basis, the holding period is tacked. In other words, the donor's holding period is added to the donee's holding period. Thus, Susan is treated as holding the stock for over 15 years.
Jane owns a printing business. She wants to trade her old copiers for new fax machines. In the contemplated exchange, Jane will pay $750 in cash. Additional information related to the transaction is given as follows: The copiers have an adjusted basis of $1,500. The copiers have a fair market value of $1,000. The fax machines have a fair market value of $1,750. What is Jane's recognized gain or loss in this exchange? A) ($500) B) $500 C) $0 D) ($250)
A) Jane is paying $750 plus the adjusted basis of $1,500 ($2,250); compared to the fair market value of the property received of $1,750, thus yielding a $500 loss. Because this is not real estate, this is not a like-kind exchange. This exchange is simply treated as a sale of the asset. A loss on a Section 1231 asset may be recognized in the year of the loss. Personalty does not qualify for tax-deferred Section 1031 like-kind exchange treatment.
Jim owns an apartment building with a fair market value of $225,000 and an adjusted basis of $85,000. He wants to acquire Frank's duplex, which has a fair market value of $240,000 and an adjusted basis of $130,000. In the exchange, Jim will pay Frank $15,000 in cash. What is Jim's substitute basis in the acquired duplex? A) $100,000 B) $140,000 C) $240,000 D) $225,000
A) Jim is receiving an FMV of $240,000 for the duplex. He is giving up an adjusted basis of $85,000 plus $15,000 cash. The difference between the $240,000 received and the $100,000 given up is the realized gain of $140,000. The gain recognized (the taxable amount reported on the income tax return) in a like-kind exchange is the lesser of gain realized ($140,000) or boot received ($0). The substitute basis in an asset acquired in a like-kind exchange is the FMV of the qualifying property received ($240,000) reduced by the gain realized, but not recognized ($140,000 - $0 = $140,000). Thus, $240,000 - $140,000 = $100,000.
Marcus purchased a diamond ring for $15,000 10 years ago. It was stolen in March this year. The ring was purchased to celebrate achieving a significant promotion at work. The FMV at the time of the theft was $20,000. The ring was insured, and after the deductible, Marcus received $19,000 from the insurance company. Marcus replaced the ring with a new one for $20,000. Under Section 1033, what is Marcus's new basis in the replacement ring? A) $16,000 B) $19,000 C) $20,000 D) $15,000
A) Marcus's deferred gain on the new ring is $4,000. His new basis is the FMV of the property at acquisition minus the deferred gain ($20,000 − $4,000 = $16,000).
Which of the following rules regarding the sale of Section 1231 property is CORRECT? When Section 1231 property is sold for more than the purchase price, the gain is afforded capital gain treatment and taxed using capital gain tax rates. When Section 1231 property is sold at a loss, the loss is treated as a capital loss. A) I only B) Both I and II C) II only D) Neither I nor II
A) Statement II is incorrect. When Section 1231 property is sold at a loss, the loss is treated as an ordinary loss, not a capital loss.
Helen purchased an antique cabinet as an investment for $30,000 a few years ago. On January 15 of this year, she sold the cabinet to an art museum for $120,000 in an installment sale. She received a down payment of $12,000 and a note requiring monthly principal payments (to begin in March of this year) of $5,000. What amount of gain must Helen recognize for the current year? A) $46,500 B) $62,000 C) $42,500 D) $50,000
A) Step 1: Calculate gross profit percentage: profit divided by sale price. $90,000/$120,000=75%$90,000$120,000=75% Step 2: Calculate payments received in current year. $12,000 down payment + (10 × $5,000) = $12,000 + $50,000 = $62,000 (payments received) Step 3: Calculate gain recognized for current year. gross profit percentage×payments received=gain recognized 75%×$62,000=$46,500
Blake, a sole proprietor, is selling several business assets. He has been told by a friend that the items he is selling are not capital assets and are subject to the ordinary income tax rate. You are his financial planner and tell him that the gains on Section 1231 assets can be treated as capital gains for income tax purposes subject to certain rules. Which of the assets Blake sold are Section 1231 assets? A) The building and land sold when Blake's business moved to a new location B) A copyright on the theme song Blake's company uses in its advertising that Blake wrote C) Blake's inventory of electric guitars his business manufactures D) Accounts receivable
A) The building and land sold when Blake's business moved to a new location qualify under Section 1231 as depreciable personal or real property used in business or for the production of income. The building portion of the property was depreciable property. While they are not considered capital assets, under Section 1231 they are taxed using capital gain rates, subject to the Section 1245 and 1250 rules for depreciation recapture rules. Losses are always ordinary and not subject to the $3,000 ($1,500 for MFS) ordinary loss limitation. Accounts receivable, inventory, and copyrights and other creative works held by the creator are all ordinary assets that would result in ordinary income tax (not capital gain) if sold at a gain.
Jerry owns a dry-cleaning business. During the current year, Jerry purchased and placed into service $730,000 of equipment. He had taxable income of $745,000. Jerry is in the highest marginal income tax bracket this year, and expects to be in that bracket for two more years. After that, he plans to semi-retire, but keep the business open for another five years. He expects to drop into the lowest marginal bracket when he semi-retires. What advice would you give Jerry regarding the use of Section 179, bonus depreciation, and cost recovery deductions? A) Use the bonus depreciation provision. B) Forgo Section 179 and bonus depreciation and use the Modified Accelerated Cost Recovery System (MACRS) table. C) Forgo Section 179 and bonus depreciation and elect the straight-line method. D) Elect the maximum Section 179 and elect the straight-line method.
A) The fact pattern indicates that Jerry is in the highest marginal bracket for three years, and then will be in the lowest marginal bracket after that. It makes sense to maximize the depreciation deduction this year when Jerry is in the highest marginal bracket. By using the bonus depreciation provision, the entire $730,000 may be deducted in the year of acquisition.
During 2023, Judy, a sole proprietor, purchased new equipment (seven-year property) for her manufacturing business at a cost of $600,000. Judy is in a 12% marginal income tax bracket this year, and expects to be in that bracket for two more years. She is extremely confident that she will be in the highest marginal bracket after that. What advice would you give Judy regarding the use of bonus depreciation and cost recovery deductions? A) Forgo bonus depreciation and elect the straight-line method. B) Use the maximum bonus depreciation and use the Modified Accelerated Cost Recovery System (MACRS) table. C) Use the maximum bonus depreciation and elect the straight-line method. D) Forgo bonus depreciation and use the Modified Accelerated Cost Recovery System (MACRS) table.
A) The fact pattern indicates that Judy is in the lowest marginal bracket for three years, and will be in the highest marginal bracket after that. It makes no sense to maximize the depreciation deduction in years when Judy is in the lowest marginal brackets. By forgoing bonus depreciation and using straight-line, more deductions are pushed into the last five years of the depreciation schedule, when Judy will be in the highest marginal bracket. Remember that because of the half-year convention, seven-year property is depreciated over eight years. Under TCJA, 100% bonus depreciation is allowed for all personalty. In other words, 100% of the cost is deducted in the first year.
In February, Bryan purchased a new high-speed copier for use in his printing business. The cost of the copier was $8,250, sales taxes were $550, and installation charges totaled $1,200. Assume that Bryan opts out of the bonus depreciation provision. What is the first-year cost recovery deduction using the straight-line method? A) $1,000 B) $880 C) $2,000 D) $945
A) The installation charges of $1,200 and the sales taxes of $550 must be capitalized—that is, added to the cost of the copier to give a total basis of $10,000. A copier is five-year property. (Copiers, cars, computers, and computer peripherals are five-year properties; furniture and other equipment are seven-year properties.) The straight-line rate for five-year property is 20% (100% divided by five), but the half-year convention limits the deduction to half of a full year's depreciation in the year of acquisition. Thus, $10,000 times 10% equals $1,000. If Bryan had not opted out of bonus depreciation, the entire $10,000 would be depreciated in the first year.
John owns a classic automobile that had a cost basis of $32,000. John paid $38,000 to have the automobile fully restored. John sells the automobile through an installment sale for $100,000. John is to receive a $25,000 down payment in the current year, and $15,000 per year for five years, beginning this year. What amount of gain must John recognize during the current year? A) $12,000 B) $7,500 C) $12,800 D) $4,500
A) The profit on the sale was $30,000 divided by the $100,000 contract price, which equals a 30% gross profit percentage. This is multiplied by the $40,000 of payments received during the year to calculate the amount of gain recognized, $12,000. The $38,000 of restoration costs are capitalized, added to basis, to give us the $70,000 basis.
A client sold an apartment building last year for $100,000, paying a sales commission of $5,000 plus $2,500 in closing costs. The building originally cost $80,000 20 years ago. Total straight-line depreciation of $40,000 had been taken. The building had a mortgage of $60,000 that was assumed by the buyer. The client is in the 24% marginal income tax bracket. What is the seller's adjusted cost basis? A) $40,000 B) $37,500 C) $52,500 D) $32,500
A) The seller's adjusted basis is the $80,000 purchase price, decreased by the $40,000 of straight-line depreciation. The mortgage has no bearing on the basis of the property.
Eleven months ago, Lynnette received 1,000 shares of stock from her uncle, Joseph. Joseph purchased the stock eight years ago for $12 per share. The fair market value on the date of the gift to Lynnette was $9 per share, and she sold the stock today for $5 per share. What is the amount and character of Lynnette's loss from the sale of the stock? A) $4,000 short-term capital loss B) $7,000 long-term capital loss C) $3,000 long-term capital loss D) $3,000 short-term capital loss
A) There are two components to this question. What is the basis, and is there tacking of the holding period? When the fair market value on the date of the gift is less than the donor's basis in the asset, the donee's basis in the asset for purposes of determining a loss is the asset's FMV on the date of the gift. In this situation, the $9 per-share value on the date of the gift would be Lynnette's basis. The next issue is the "tacking" of the holding period. In a situation where the donee uses the FMV as the basis, there is no tacking of the holding period. In this situation, Lynnette used the FMV; thus, she uses her own holding period of 11 months. If the donee uses the donor's basis, then the holding period is tacked. In other words, the donor's holding period is added to ("tacked") the donee's holding period.
During the current tax year, Jim purchased a warehouse for exclusive use in his manufacturing business. The cost of the property was $620,000, of which $100,000 was attributable to the land. Which of the following statements identify the proper treatment of the expenditure? A portion of the cost attributable to the building may be deducted under Section 179. The $100,000 attributable to the land must be capitalized and may not be depreciated. The $520,000 attributable to the building must be capitalized and depreciated. The entire $620,000 must be capitalized and depreciated. A) IV only B) II and III C) I and II D) II only
B) Land is not a depreciable asset—only "wasting" assets are subject to depreciation. The building must be capitalized and depreciated over a period of 39 years. Section 179 generally does not apply to realty; it applies to tangible personalty used in the active conduct of a trade or business.
Max is selling a truck that he uses in his business. He has taken $5,000 of depreciation on the truck and wants to use the installment sale method to sell the truck to Jerry for a down payment and an installment note over 36 months. He paid $40,000 for the truck and is selling it for $38,000. What are the tax consequences of this transaction? Max must recapture $3,000 of the Section 1245 depreciation taken as ordinary income in the year of the sale. Max has $5,000 of depreciation recapture taxed at the 25% tax rate. A) Neither I nor II B) I only C) Both I and II D) II only
B) Statement I is correct. Gain recaptured under Section 1245 (depreciable personal property used in a trade or business) is taxed as ordinary income and is not eligible for installment sale treatment. Therefore, these amounts are fully recognized (taxable) as ordinary income in the year of sale. Unrecaptured Section 1250 depreciation occurs only on depreciable real property (real estate) used in a trade or business.
Which of the following statements regarding Section 1033 involuntary conversions is CORRECT? For an owner-user, the replacement property must pass the functional use test. The taxpayer use test provides less flexibility than the functional use test. A) II only B) I only C) Both I and II D) Neither I nor II
B) Statement II is incorrect. The taxpayer use test provides more flexibility than the functional use test.
During the current tax year, Rod purchased a building for exclusive use in his manufacturing business. The cost of the property was $422,000, of which $122,000 was attributable to the land. Which of the following statements identifies the proper treatment of the expenditure? A) The $300,000 attributable to the building may be currently deductible. B) The $122,000 must be capitalized and may not be depreciated. C) The cost attributable to the building may be deducted under Section 179. D) The $122,000 must be capitalized and may be depreciated.
B) The land may not be depreciated, as only "wasting" assets are subject to depreciation. The Section 179 expense election generally applies to personalty only, and is not available for most real estate. The cost of the building may not be currently deducted; it must be capitalized and depreciated because it has a useful life of over one year.
During the current tax year, Jamie sold several securities that resulted in the following types of gains and losses: a long-term capital loss of $6,700; a short-term capital loss of $7,000; a long-term capital gain of $1,900; and a short-term capital gain of $9,200. What is the net capital gain or loss on Jamie's security sales? A) Net short-term gain of $7,300; net long-term loss of $300 B) Net long-term loss of $2,600 C) Net long-term loss of $4,800; net short-term gain of $2,200 D) Net short term loss of $3,800
B) The long-term items are netted, leaving a long-term capital loss of $4,800. The short-term items are netted, leaving a short-term capital gain of $2,200. These are netted, leaving a net long-term capital loss of $2,600.
On December 20, 2006, Jody moved into a condominium that she owns and had rented to tenants since July 1, 1999. Her cost basis in the condo was $238,440. Jody took depreciation deductions totaling $54,000 for the period that she rented the property. After moving in, she used the residence as her principal residence. Jody sells the property on August 1, 2023, for $538,000. Jody is in the highest marginal income tax bracket for the current year. What is the amount and character of the recognized gain resulting from the sale? A) $54,000 of ordinary income; $49,560 of "regular" long-term capital gain B) $353,560 "regular" long-term capital gain C) $54,000 of unrecaptured Section 1250 income; $49,560 of "regular" long-term capital gain D) $54,000 of unrecaptured Section 1250 income; $299,560 of "regular" long-term capital gain
C) Jody's gain realized (the actual economic gain) from the sale is $353,560 ($538,000 of sales proceeds reduced by the adjusted basis of $184,400). Of this $353,560 of gain, the first $54,000 is recognized as unrecaptured Section 1250 gain, taxed at 25%. Unrecaptured Section 1250 gain is the gain created by the straight-line depreciation. This leaves $299,560 of gain to account for. Jody used the condo as her principal residence for two full years—thus, she is eligible to exclude $250,000 under Section 121. This leaves $49,560 of long-term capital gain to be recognized at a 20% rate (because she is in the highest marginal income tax bracket, her taxable income exceeds the $492,300 breakpoint for the 20% LTCG rate). The recognized gain is the gain on which Jody will pay taxes. Note that the nonqualified use provision does not come into play here as there was no nonqualified use after 2008.
Ethel had the following from securities transactions during the current year: Long-term capital gain: $6,400 Long-term capital loss: $2,200 Short-term capital gain: $2,300 Short-term capital loss: $5,500 Which of the following describes the net capital gain or loss reportable by Ethel for the current tax year? A) $1,000 net long-term capital loss B) $4,200 net long-term capital gain; $3,200 net short-term capital loss C) $1,000 net long-term capital gain D) $900 net long-term capital gain; $100 net short-term capital loss
C) Long-term transactions are netted together, as are short-term transactions. The net long-term capital gain is $4,200 ($6,400 - $2,200). The net short-term capital loss is $3,200 ($2,300 - $5,500). The net short-term capital loss is netted with the net long-term capital gain ($4,200 - $3,200) to result in a net long-term capital gain of $1,000.
All of the following statements regarding the installment method of reporting gain from a disposition of property are correct except A) the installment method permits the seller to spread out the taxable gain over more than one year. B) the payments received under an installment sale may each include capital gains, return of capital, and interest. C) the installment sale method may be used for securities sold in the secondary market. D) an installment sale is a sale of property in which the seller receives at least one payment after the year of sale.
C) The installment sale method cannot be used for inventory or securities traded in the secondary market.
Your client is contemplating the exchange of two parcels of investment land for two similar parcels. Given the following details of the proposed transactions, compute the amount of recognized gain and loss, if any, on both parcels if your client does the exchanges. Parcel A: There were 10 acres of land acquired 15 years ago with a current basis of $50,000. In exchange, your client will receive 8 acres of land (FMV $80,000) and $20,000 of cash. Parcel B: There were 20 acres of land acquired 2 years ago with a current basis of $100,000. In exchange, your client will receive 12 acres of land (FMV $75,000) and $10,000 of cash. A) Parcel A recognized gain: $50,000; Parcel B recognized loss: $10,000 B) Parcel A recognized gain: $20,000; Parcel B recognized loss: $10,000 C) Parcel A recognized gain: $20,000; Parcel B recognized loss: $0 D) Parcel A recognized gain: $20,000; Parcel B recognized loss: $15,000
C) The realized gain in Parcel A is $50,000 and the recognized gain (the lesser of the gain realized or the boot received) is $20,000. The realized loss in Parcel B is $15,000. However, there is no loss recognized (deducted) in a like-kind exchange.
Which of the following dispositions of Section 1245 recapture property would result in the immediate recapture of some or all of previous depreciation deductions? A) A transfer at death B) A distribution by a partnership to its partners C) A gift of the property D) A sale for cash and an interest-bearing note
D) A sale of Section 1245 property at a gain will result in Section 1245 recapture. None of the other choices are considered taxable dispositions that would trigger recapture of depreciation (cost recovery) deductions.
Phillip's personal automobile was almost destroyed in an accident. The insurance company paid $6,000 on the claim. The auto's fair market value before the accident was $16,000, and the value after the accident was $1,000. His basis in the automobile was $12,000. Phillip's AGI is $42,500. What is the amount of Phillip's deductible casualty loss? A) $1,650 B) $1,750 C) $6,000 D) $0
D) Casualty losses are only deductible for damages sustained within a federally declared disaster area. Thus, there is no deduction for this loss. If the loss had been incurred in a federally declared disaster area (as a result of the disaster), the deductible casualty loss computation would begin with the lesser of the decrease in fair market value ($15,000 decrease in FMV) or the adjusted basis in the property. In this situation, the adjusted basis of $12,000 must be reduced by a $100 floor, the insurance of $6,000, and further reduced by 10% of the adjusted gross income. Thus, $12,000 reduced by $100, $6,000 insurance, and further reduced by $4,250, equals $1,650.
In the current tax year, Fay has short-term capital loss carryovers of $5,000 and long-term capital loss carryovers of $40,000, both carried over from the previous year. Her net short-term gain for this year is $6,000, and her net long-term gain for this year is $5,000. How much of her gain for this year will be taxable? A) $6,000 B) $5,000 C) $1,000 D) $0
D) Fay can apply her short-term capital loss carryover to all current short-term capital gains, which results in a net short-term capital gain for this year of $1,000 ($6,000 gain − $5,000 carryover). She is then left with a net long-term capital loss of $35,000 ($5,000 gain − $40,000 carryover). To calculate net capital gains for the year, aggregate the long-term and short-term gains or losses, which in this case equals $35,000 long-term loss − $1,000 short-term gain, or a $34,000 net capital loss. She has no net gain and, as such, pays no taxes on any of the capital transactions she made this year.
During 2023, your client, Bob, purchased several items of equipment with a total cost of $265,000 for use in his sole proprietorship. Bob has taxable (earned) income from his Schedule C business of $112,000 (without regard to the Section 179 expense). He also has wages from a part-time job of $10,000. What is the maximum amount of Section 179 expense that Bob may deduct in the current year? A) $265,000 B) $112,000 C) $1,160,000 D) $122,000
D) The Section 179 expense election is limited to the taxable (earned) income of the taxpayer. For purposes of Section 179, salary or wages received as an employee, even from a completely unrelated source, are also considered to be from the active conduct of the trade or business. Thus, the total taxable (earned) income in this situation is $122,000. The maximum Section 179 expense election is $1.16 million (for 2023), but for Bob, it is limited to his earned or taxable income of $122,000.
Frank, a single taxpayer, owned a warehouse that he rented as commercial property. He acquired the property several years ago for $196,000. He used the straight-line method of cost recovery, which totaled $35,000. Frank sold the property in February of the current year for $230,000. Frank is single, and has taxable income (not including the real estate gain) of $475,000. What is the amount and nature of the gain on the sale? A) $7,000 ordinary income B) $69,000 ordinary income C) $34,000 Section 1231 gain; $35,000 ordinary income D) $35,000 unrecaptured Section 1250 gain; $34,000 long-term capital gain
D) The entire gain of $69,000 is treated as Section 1231 gain, because there is no excess depreciation on the use of the straight-line method. So, $35,000 of the gain is subject to a maximum rate of 25%, as unrecaptured Section 1250 income, and the remaining $34,000 of gain is subject to the maximum regular long-term rate of 20%. The 20% long-term capital gain rate applies, as his taxable income is over the $492,300 breakpoint for the 20% rate. Note that Section 1250 recapture (ordinary income treatment) applies only to excess depreciation—in other words, the excess of an accelerated method over what would have been deducted if straight-line had been used. All realty placed in service after 1986 is depreciated using straight-line, and there is NO recapture (ordinary income) where straight-line depreciation was used.
