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									Chapter 12 - Special Property Transactions



                 CHAPTER 12
       SPECIAL PROPERTY TRANSACTIONS

Discussion Questions

1. Can the exchange of personal use property qualify as a like-kind exchange? Why?

Answer:
     If a taxpayer trades a personal use asset for another asset, the exchange does
     not qualify as a like-kind exchange. The property must be held for
     productive use or investment in order to qualify.


2. What types of properties do not qualify for like-kind exchange treatment?

Answer:
     Exchanges of inventory, stocks, bonds, notes, other securities or evidence of
     indebtedness or interest, interests in a partnership, and certificates of trust
     or beneficial interests do not qualify for like-kind treatment.


3. Discuss the characteristics of what is considered a like-kind asset. Must the asset
received in a like-kind exchange be an exact duplicate of the asset given? Explain.

Answer:
     In order to qualify as “like-kind,” the property must be of the same nature or
     character. The grade or quality of the exchanged assets does not matter.
     The asset does not have to be an exact duplicate of the property exchanged.


4. What is boot? How does the receipt of boot affect a like-kind exchange?

Answer:
     Boot is defined as property given or received in a like-kind exchange that is
     not like-kind property. The receipt of boot property often triggers the
     recognition of gain (cash) .

5. What is the difference between a deferred gain and an excluded gain?

Answer:
     The gain is deferred because the unrecognized gain reduces the basis in new
     asset received, so the gain is deferred until new asset is sold or disposed of.
     The reduced basis also causes less depreciation allowed on the new asset.


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6. How is the basis calculated in a like-kind exchange? How does the receipt of boot
affect the basis of the asset received? How does the giving of boot affect the basis of the
asset received?

Answer:
     The basis of property received in a like-kind exchange is the adjusted basis of
     the property given up plus the adjusted basis of the boot given plus gain
     recognized minus FMV of boot received minus loss recognized.


7. Often, when assets are exchanged, liabilities are assumed in the exchange. How does
the assumption of liabilities in a like-kind exchange affect the gain or loss recognized?
How does it affect the basis of an asset received in a like-kind exchange?

Answer:
     When a taxpayer is released of a liability in an exchange, the release of a
     liability is considered boot received. The taxpayer who assumes the debt is
     treated as having paid cash and the taxpayer released of the debt is treated as
     having received cash. Since liabilities assumed are treated as boot, the
     presence of a liability can trigger gain to the lesser of boot received or gain
     realized.


8. What are the special provisions for like-kind exchanges between related-parties? Why
are these special provisions included in the IRC?

Answer:
     Exchanges between related parties are not considered like-kind exchanges if
     either party disposes of the property within two years of the exchange.
     Related parties could exchange gain property and have the party that was in
     the lower tax bracket pay tax at a lower tax rate.




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9. Must both parties in a potential like-kind exchange agree to the exchange? If not, how
can the transaction be structured to defer any gain?

Answer:
     If a like-kind exchange is properly executed, the exchange can be non-taxable
     even if a seller of a property is unwilling to exchange properties. A like-kind
     exchange does not need to be simultaneous to be tax-free. The most common
     way to create a deferred exchange occurs when the title to the property to be
     exchanged is placed in an escrow account with a custodian. The custodian
     then sells the property and the cash is placed in an escrow account. The
     taxpayer then has 45 days to identify like-kind property, and then the
     custodian purchases the new asset and distributes the title to the taxpayer.
     The taxpayer cannot have actual or constructive receipt of the proceeds from
     the sale of old property at any time.


10. What is an involuntary conversion?

Answer:
   An involuntary conversion occurs when property is destroyed, stolen,
   condemned, or disposed of under the threat of condemnation, and the taxpayer
   receives other property or payment (such as insurance).


11. When an involuntary conversion occurs and the taxpayer receives insurance
proceeds, what must the taxpayer do to guarantee that no gain is recognized?

Answer:
     If the taxpayer receives property of similar or related use for the converted
     property, no gain is recognized.


12. When faced with an involuntary conversion, does the taxpayer have an unlimited
amount of time to replace the converted property? Explain.

Answer:
     There is a time limit to purchase replacement property. The replacement
     period ends 2 years after the close of the first taxable year in which any part
     of the gain is realized. For condemned real property held for use in a trade
     or business or investment the replacement period is 3 years.




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13. How are the basis and holding period of the replacement property in an involuntary
conversion determined? Explain.

Answer:
     The adjusted basis of converted property minus any money received not used
     to replace the property plus the amount of gain recognized by the taxpayer
     on the conversion minus the amount of loss recognized by the taxpayer on
     the conversion equals the adjusted basis of replacement property. The
     holding period for the replacement property includes the holding period of
     the converted property.


14. What information must be reported to the IRS concerning an involuntary conversion?

Answer:
     There is no form to elect deferral of gain on an involuntary conversion. The
     taxpayer must attach a schedule or statement to the end of the tax return
     noting the election. If the replacement property is purchased in a subsequent
     tax year, another statement is attached to the subsequent return detailing the
     replacement property. There are two circumstances involving involuntary
     conversions where taxpayers must to file an amended tax return (From
     1040X): if the taxpayer does not buy replacement property within the
     replacement period or if the replacement property purchased by the
     taxpayer costs less than the amount realized for the converted property. The
     gain is reported on either Form 4797 for business property or on Schedule D
     for personal investment property.




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15. How is income reported from an installment sale? What are the components of the
payments received in an installment sale and how is the gross profit percentage
calculated?

Answer:
     The interest income is reported separately from the gain on the sale (Form
     1040, Schedule B). The return of basis and the gain portion of each payment
     are determined based on the gross profit percentage of the asset sold.
        The gross profit percentage is calculated as follows:

                 Selling Price                                     $xxx
                 Installment Sale Basis
                        Adj. Basis of the Property $xxx
                        Selling Expenses            xxx
                        Depreciation Recapture      xxx            (xxx)
                 Gross Profit                                       xxx

                 Contract Price                                   $xxx
                 Gross Profit Percentage (Gross Profit divided by
                           Contract Price)                        x%


16. Discuss the rules concerning the sale of a personal residence. Include in your
discussion, the specifics regarding the ownership test and the use test.

Answer:
     In order to qualify for the exclusion on sale of a personal residence the
     taxpayer must meet the ownership test and the use test. During the 5-year
     period ending on the date of the sale, the taxpayer must meet the ownership
     test (owned the home for at least 2 years) and the use test (lived in the home
     as your main home for at least 2 years).


17. Is a taxpayer allowed to take the §121 exclusion for a vacation home that was never
rented? Explain.

Answer:
     The IRC §121 exclusion only applies to the taxpayer’s principle residence. In
     order to qualify for the exclusion, the taxpayer must meet the ownership test
     and the use test.




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18. If a taxpayer moves within two years after moving into a new home and uses the
exclusion on his former home, is any gain taxable on the sale of the new home? Under
what conditions can some of the exclusion be used?

Answer:
     The exclusion applies to only one sale every two years. The taxpayer is
     ineligible for the exclusion if during the 2-year period ending on the date of
     sale of the present home, the taxpayer sold another home at a gain and
     excluded all or part of that gain. If the second sale is caused by a change in
     the place of employment or for health reasons, the taxpayer is still eligible for
     a partial exclusion. When the second sale is caused by health or employment
     reasons, (or other unforeseen circumstances), a portion of the gain can be
     excluded by taking a ratio of the number of days used divided by 730 days.


19. What happens in the following circumstances if a wife, prior to marriage, uses the
exclusion on the sale of a residence and subsequently (after marriage) sells a second
residence within two years?

        a. The new husband sells a residence;
        b. The new husband dies within two years and the wife sells the residence;

Answer:
     a. If a wife (prior to marriage) uses the exclusion on the sale of a residence
     and after marriage sells a second residence within two years, the wife is not
     eligible for the exclusion. The husband will be allowed to exclude one-half of
     the gain on sale of the residence.

        b. If the husband dies within two years and the wife sells the residence, the
        surviving spouse is deemed to have owned and lived in the property for any
        period when the decedent spouse owned and lived in the home.


20. What is a related-party loss and why are they disallowed?

Answer:
     A related-party loss is any loss that occurs from a sale or exchange between
     related parties. Related parties could exchange loss property in order for the
     loss to be deductible for one of the parties.




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21. Explain the constructive ownership rules and how they relate to related-party
transactions.

Answer:
     The constructive ownership rules mean that a taxpayer is deemed to also own
     the stock of anyone or any entity he or she also controls through ownership
     or family relationships. Losses between related parties are not allowed.
     Related parties are also determined with reference to the constructive
     ownership rules.


22. What is a wash sale and why are losses from wash sales disallowed?

Answer:
     A wash sale occurs when a taxpayer sells stock or securities at a loss and,
     within a 30 day period before or after the sale, the taxpayer acquires
     substantially identical stock or securities. Wash sales are disallowed because,
     in effect, the ownership of the company is not reduced.



Multiple Choice

23. For an exchange to qualify as a nontaxable exchange, what criteria must be present?
a. There must be an exchange.
b. The property transferred and received must be held for use in a trade or business or for
investment.
c. The property exchanged must be like-kind.
d. All of the must be present.

Answer: d


24. For the asset received in a like-kind exchange, how is the holding period of the new
asset determined?
a. According to the date the new asset is received.
b. According to the date the old asset is given away.
c. According to the holding period of the old asset.
d. None of the above.

Answer: c




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25. Which of the following exchanges qualify as “like-kind” property?
a. Partnership interest for partnership interest.
b. Inventory for equipment.
c. Investment land for an apartment building.
d. Business use delivery truck for business use van.

Answer: d


26. Eric exchanged equipment used in his land clearing business with Geoff for upgraded
equipment. Eric exchanged the equipment with a $75,000 FMV and $45,000 basis along
with $15,000 cash. Geoff’s basis in his equipment is $60,000 and the FMV is $90,000.
Which of the following statements is correct?

a. Geoff must recognize a gain of $15,000 on the exchange.
b. Geoff must recognize a gain of $5,000 on the exchange.
c. Neither Eric nor Geoff must recognize a gain.
d. Eric must recognize a gain of $15,000 on the exchange.


Answer: a


27. Ava exchanges a machine used in her business with Gail for another machine. The
basis of Ava’s old machine is $50,000, FMV is $66,000, and she gives Gail cash of
$14,000. Gail’s basis in her machine is $70,000 and FMV is $80,000. What is Ava’s
adjusted basis in the new machine she receives?
a. $50,000.
b. $64,000.
c. $66,000.
d. $80,000

Answer: b




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28. Janel exchanges a building she uses in her rental business for a building owned by
Russel that she will use in her rental business. The adjusted basis of Janel’s building is
$160,000 and the fair market value is $250,000. The adjusted basis of Russel’s building
is $80,000 and the fair market value is $250,000. Which of the following statements is
correct?
a. Janel’s recognized gain is $0 and her basis for the building received is $160,000.
b. Janel’s recognized gain is $90,000 and her basis for the building received is $160,000.
c. Janel’s recognized gain is $0 and her basis for the building received is $250,000.
d. Janel’s recognized gain is $90,000 and her basis for the building received is $250,000.

Answer: a


29. Jason exchanged office furniture (seven-year life) for other furniture (seven-year life).
The old furniture had an adjusted basis of $14,000 and the new furniture had a FMV of
$22,000. Jason also paid $5,000 cash in the exchange. What is the recognized gain or loss
and the basis of the furniture?

a. $0 and $14,000
b. $0 and $19,000
c. $ 8,000 and $19,000
d. ($8,000) and $14,000

Answer: b


30. Gretel exchanges a warehouse with an adjusted basis of $150,000 and fair market
value of $160,000 for a mini-storage building with a fair market value of $100,000 and
$60,000 cash. What are the recognized gain or loss and the basis of the warehouse
storage building?
a. $0 gain and $150,000 basis.
b. $10,000 gain and $160,000 basis.
c. $10,000 gain and $150,000 basis.
d. ($10,000) loss and $160,000 basis.

Answer: b




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31. What tax form is completed to report an involuntary conversion?
a. No form is required.
b. Form 4797.
c. Form 4562.
d. Form 1040, Schedule D.

Answer: a


32. In order to build a new road, the City of Oxford annexed 20 acres of Michael’s
farmland with a FMV of $30,000 and basis $18,000. In return, Michael received 50 acres
of similar land, which was appraised at $45,000. In this involuntary conversion, what
gain or loss should Michael recognize and what is his basis in the new land?

a. $0 gain and $18,000 basis
b. $0 gain and $27,000 basis
c. $12,000 gain and $30,000 basis
d. $27,000 gain and $45,000 basis

Answer: a


33. A warehouse with an adjusted basis of $125,000 was destroyed by a tornado on April
15, 2007. On June 15, 2007, the insurance company paid the owner $195,000. The
owner reinvested $170,000 in a warehouse. What is the basis of the new warehouse if
nonrecognition of gain from an involuntary conversion is elected?
a. $100,000.
b. $125,000.
c. $170,000.
d. $195,000.

Answer: b




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34. A warehouse with an adjusted basis of $250,000 was destroyed by a tornado on April
15, 2007. On June 15, 2007, the insurance company paid the owner $395,000. The
owner reinvested $470,000 in a new warehouse. What is the basis of the new warehouse
if nonrecognition of gain from an involuntary conversion is elected?
a. $105,000.
b. $250,000.
c. $325,000.
d. $395,000.

Answer: c


35. Kyla owns a convenience store with an adjusted basis of $215,000 that was
destroyed by a flood on August 15, 2007. Kyla received a check for $275,000 from her
insurance company on January 10, 2008, compensating her for the damage to her store.
What is the latest date that Kyla can buy replacement property to avoid recognition of
any realized gain?
a. August 15, 2009.
b. December 31, 2009.
c. January 10, 2010.
d. December 31, 2010.

Answer: d


36. On June 15, 2007, Allen sold land held for investment to Stan for $50,000 and an
installment note of $250,000 payable in five equal annual installments beginning on June
15, 2008 plus interest at 10%. Allen’s basis in the land is $150,000. What amount of
gain is recognized in 2007 under the installment method?
a.        $0.
b. $25,000.
c. $50,000.
d.$150,000.

Answer: b




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37. On July 1, 2007, Andrea sold land held for investment to Taylor. Andrea’s land had a
$300,000 basis and was subject to a $150,000 mortgage. Under the contractual
agreement, Taylor will pay Andrea $85,000 on the date of the sale, will assume the
mortgage, and give Andrea a note for $375,000 (plus interest at the federal rate) due the
following year. What is the contract price of sale?
a.     $460,000
b.     $525,000
c.     $610,000
d.     $760,000

Answer: a


38. Which of the following statements is correct with regard to installment sales?
a. The contract price is generally the amount of cash the seller will receive.
b. Sales by a taxpayer who is a dealer in the item sold are not eligible for installment sale
treatment.
c. The installment method cannot be used to report gain from the sale of stock or
securities that are traded on an established securities market.
d. All of the above are correct.

Answer: d


39. A taxpayer who sells her personal residence in 2007 may exclude some or all of the
gain on the sale if the residence was owned and lived in for:
a. At least four years before the sale date.
b. Any of the last two years out of a five year period before the sale.
c. Any of the last fours years out of an eight year period before the sale.
d. At least one year prior to the sale date.

Answer: b




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40. Marcus purchased Vinnie and Marie’s personal residence for $225,000 cash and the
assumption of their $100,000 mortgage. Vinnie and Marie bought the house 6 years ago
for $275,000 and have used it as a primary residence. What amount of gain should Vinnie
and Marie recognize on the sale of their personal residence?

a. $0
b. $50,000
c. $100,000
d. $225,000

Answer: a


41. Daniel, who is single, purchased a house on May 15, 1986 for $115,000. During
the years he owned the house, he installed a swimming pool at a cost of $24,000 and
replaced the driveway at a cost of $12,000. On April 28, 2007, Daniel sold the house for
$470,000. He paid a realtor commission of $28,000 and legal fees of $1,000 connected
with the sale of the house. What is Daniel’s recognized gain on the sale of the house?
a.        $0.
b. $ 40,000.
c. $290,000.
d. $319,000.

Answer: b


42. All of the following relationships are considered related parties except for:
a. A corporation and a taxpayer whose spouse of the taxpayer owns 80% of the
corporation’s stock.
b. A trust and a taxpayer who is the grantor of the trust.
c. A corporation and a taxpayer who owns 20% of the corporation’s stock.
d. A partnership and a taxpayer who is a two-thirds partner.

Answer: c




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43. On June 1, 2007, Nigel sells land (basis $55,000) to his son Ted for $40,000, the
land’s fair market value on the date of the sale. On September 21, 2007, Ted sells the
land to an unrelated party. Which of the following statements is correct?
a. If Ted sells the land for $35,000 he has a $20,000 recognized loss on the sale.
b. If Ted sells the land for $65,000 he has a $25,000 recognized gain on the sale.
c. If Ted sells the land for $45,000 he has a $5,000 recognized gain on the sale.
d. If Ted sells the land for $57,000 he has a $2,000 recognized gain on the sale.

Answer: d


44. Bryce owns 200 shares of Basic Company stock that he purchased for $8,000 three
years ago. On December 28, 2007, Bryce sold 100 shares of the stock for $2,500. On
January 3, 2008, Bryce repurchased 50 shares for $1,100. How much of the loss can
Bryce deduct in 2007?
a.     $0.
b. $ 750.
c. $4,400.
c. $5,500.

Answer: b




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Problems

45. Carlton holds undeveloped land for investment. His adjusted basis in the land is
$200,000 and the FMV is $325,000. On November 1, 2007, he exchanges this land for
land owned by his son, who is 31 years old. The appraised value of his son’s land is
$320,000 with a basis of $310,000.
       a. Calculate Carlton’s realized and recognized gain or loss from the exchange
       with his son and on Carlton’s subsequent sale of the land to a real estate agent on
       July 19, 2007, for $375,000.
       b. Calculate Carlton’s realized and recognized gain or loss from the exchange
       with his son if Carlton does not sell the land received from his son, but his son
       sells the land received from Carlton on July 19, 2008. Calculate Carlton’s basis
       for the land on November 1, 2007 and July 19, 2008.
       c. What could Carlton do to avoid any recognition of gain associated with the
       first exchange prior to his sale of the land?

Answer:
     a.
                                                     Carlton                      Son
        Amount Received                                        $320,000                   $325,000
        Basis                                                   200,000                    310,000
        Realized Gain                                          $120,000                    $15,000

             Since the land was sold within 2 years, the deferred gain would be
             recognized in the year of the subsequent sale. Thus, not only must
             Carlton recognize the gain on the sale, but also the gain on the original
             property exchange ($120,000). The son must also recognize the $15,000
             previously deferred gain.

        b. If either party disposes of the property within two years, both previously
        deferred gains are recognized.

                  Carlton’s Basis     $200,000
                  (on Nov. 1, 2007 when the like-kind exchange was still good)

                  Since the gain is recognized now, his basis would go up to $320,000
                  (what he gave up or the basis of the old of $200,000 plus the gain of
                  $120,000).

        c. Wait two years before any sale is made by either himself or his son.




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46. Elaine exchanges a van that is used exclusively for business purposes for another van
that also is to be used exclusively for business. The adjusted basis for the old van is
$18,000, and its FMV is $14,500.
        a. Calculate Elaine’s recognized gain or loss on the exchange.
        b. Calculate Elaine’s basis for the van he receives.

Answer:
     a. Since Elaine receives no “boot,” no gain or loss is recognized in the
     transaction. Gain, but no loss, can be recognized.

        b. Basis of the new van is $18,000 (same as the basis of the old van).


47. What is the basis of the new property in each of the following situations? Is any gain
recognized in the following transactions?
       a. Rental house with an adjusted basis of $100,000 exchanged for personal use
       river cottage with an FMV of $130,000.
       b. General Motors common stock with an adjusted basis of $19,000 exchanged
       for Quaker Oats common stock with a FMV of $14,000.
       c. Land and building with an adjusted basis of $25,000 used as a furniture repair
       shop exchanged for land and a building with a FMV of $52,000 used as a car
       dealership.
       d. An office building with an adjusted basis of $22,000 exchanged for a heavy-
       duty truck with a FMV of $28,000. Both properties are held for 100% business
       purposes.
       e. A residential rental property held for investment with an adjusted basis of
       $230,000 exchanged for a warehouse to be held for investment with a FMV of
       $180,000.

Answer:
     a. If the river house is not rented, the transaction does not qualify as a like-
     kind exchange. Thus, the basis in the new property is $130,000 and a $30,000
     gain is recognized.

        b. Stock exchanges do not qualify for like-kind treatment. The loss
        recognized is $5,000, and the basis of the new stock is $14,000.

        c. Qualifies as a like-kind exchange.
               Gain recognized        $0
               Basis                  $25,000




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        d. These are not like-kind assets, so this does not qualify for like-kind
        treatment.
              Gain = $28,000 – 22,000 = $6,000
              Basis in truck = $28,000 (cost of asset or basis + gain)

        e. Qualifies for like-kind treatment
           Gain        $0
           Basis       $230,000 (same as old)



48. Viktor exchanges stock (adjusted basis $18,000, FMV $25,000) and real estate
(adjusted basis $18,000, FMV $44,000) held for investment for other real estate to be
held for investment. The real estate acquired in the exchange has a FMV of $67,000.
        a. What is Viktor’s realized and recognized gain or loss?
        b. What is the basis of the acquired real estate?

Answer:
     a. The stock would be considered “boot.”

                                   $67,000
             Basis of old          (18,000)
             Stock                  25,000
             Realized gain         $24,000

                                                       $25,000
                                                        (18,000)
             Recognized gain on the stock              $ 7,000

             No gain is recognized on the real estate exchange. Giving of “boot” does
             not cause the recognition of gain.

        b.       Basis of old $18,000         or Price of new                 $67,000
                 Basis of boot* 25,000           Deferred gain on real estate (24,000)
                               $43,000                                        $43,000

         *The basis of the stock increases from $18,000 to $25,000 because of the gain
         recognized on the disposition of the stock.




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49. LaRhonda owns an office building that has an adjusted basis of $45,000. The
building is subject to a mortgage of $20,000. She transfers the building to Miguel in
exchange for $15,000 cash and a warehouse with a FMV of $50,000. Miguel assumes
the mortgage on the building.
       a. What is LaRhonda’s realized and recognized gain or loss?
       b. What is her basis in the newly acquired warehouse?

Answer:
     a.          Proceeds $50,000 + 15,000 Cash + 20,000 mortgage =        $85,000
                 Basis                                                     (45,000)
                 Realized Gain                                             $40,000

                 Gain is recognized to the extent of boot received.
                 Cash $15,000 + Release of liabilities $20,000 = $35,000

        b.       Old Basis    $45,000
                 Boot          15,000
                 Liabilities   20,000
                 Basis of new $80,000
                 or
                              $85,000
                 Deferred gain (5,000)
                              $80,000


50. Kim owns equipment that is exclusively used in her business. The equipment has an
adjusted basis of $8,500 (FMV $5,000). Kim transfers the equipment and $2,000 cash to
David for a computer (also used for business purposes) that has a FMV of $7,000.
       a. What is Kim’s recognized gain or loss on the exchange?
       b. What is Kim’s adjusted basis in the computer?

Answer:
     Equipment – treated as a sale because they are not like-kind assets

             a. Sale Price – FMV of computer                $ 7,000
                Basis: $8,000 + 2,000 Cash                   10,500
                Loss in the sale                            ($3,500)

             b. Basis is the “cost” of the computer.
                $5,000 FMV of equipment + $2,000 cash = $7,000




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51. Joshua owns undeveloped land that has an adjusted basis of $45,000. He exchanges
it for other undeveloped land with a FMV of $70,000.
         a. What are his realized and recognized gains or losses on the exchange?
         b. What is his basis in the acquired land?

Answer:
     a.          $70,000
                  45,000
                 $25,000 realized gain; 0 recognized on a like-kind exchange

        b. Basis = $70,000 FMV received - $25,000 deferred gain = $45,000
              Or old basis        $45,000
              Boot given                 0
              Gain recognized           (0)
              Boot Received             (0)
              Loss Recognized           (0)
                                  $45,000


52. Patti’s garage (used to store business property) is destroyed by a fire. She decides
not to replace it and uses the insurance proceeds to invest in her business. The garage
had an adjusted basis of $50,000.
        a. If the insurance proceeds total $20,000, what is Patti’s recognized gain or loss?
        b. If the insurance proceeds total $60,000, what is Patti’s recognized gain or loss?

Answer:
     a.          Proceeds          $20,000
                 Basis              50,000
                 Gain              ($30,000) can be deducted as a business casualty loss

            b. Proceeds            $60,000
               Basis                50,000
               Gain                $10,000 recognized as the gain on business property




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53. Indicate whether the property acquired qualifies as replacement property for each of
the following involuntary conversions.
        a. The Harts’ personal residence is destroyed by a hurricane. They decide not to
        acquire a replacement residence but to invest the insurance proceeds in a house
        that they rent to tenants.
        b. Faiqa’s personal residence is condemned. She uses the proceeds to invest in
        another personal residence.
        c. Tonya owns a storage warehouse used for business purposes. A flood destroys
        the building and she decides to use the insurance proceeds to rebuild the
        warehouse in another state.
        d. Ramona owns an apartment building that is destroyed by a flood. She uses the
        insurance proceeds to build an apartment building nearby, which is out of the
        flood zone.

Answer:
     a. No, the replacement property must be of “similar or related in service or
     use.” For real property, the test is like-kind, but since one is a residence and
     one is rental, the involuntary rules would not apply. However, since the
     destroyed property is a personal residence any gain could be excluded under
     §121.

        b. yes

        c. yes – location (state) would not matter

        d. yes




                                             12-20
Chapter 12 - Special Property Transactions


54. Jessica’s office building is destroyed by fire on November 15, 2007. The adjusted
basis of the building is $410,000. She receives insurance proceeds of $550,000 on
December 12, 2008.
        a. Calculate her realized and recognized gain or loss for the replacement property
        if she acquires an office building in December 2007 for $550,000.
        b. Calculate her realized and recognized gain or loss for the replacement property
        if she acquires an office building in December 2007 for $495,000.
        c. What is her basis for the replacement property in (a) and (b)?
        d. Calculate Jessica’s realized and recognized gain or loss if she does not invest in
        replacement property.

Answer:

        a.       Insurance                   $550,000
                 Adjusted Basis               410,000
                 Realized Gain               $140,000

                 $0 gain recognized because of the replacement was for $550,000 or
        more.

        b. Gain is recognized to the lesser of the realized gain or the amount of the
        proceeds in excess of the replacement cost ($55,000).
                       $55,000 recognized gain

        c. For (a), basis remains the same as the old asset: $550,000 – 140,000 gain
        deferred = $410,000. For (b), $495,000 – 85,000 gain deferred = $410,000

        d.       $140,000 realized
                 $140,000 recognized




                                                 12-21
Chapter 12 - Special Property Transactions


55. Reid’s personal residence is condemned on September 12, 2007 as part of a plan to
add two lanes to the existing highway. His adjusted basis is $300,000. He receives
condemnation proceeds of $340,000 on September 30, 2007. He purchases another
personal residence for $325,000 on October 15, 2007. What is Reid’s realized and
recognized gain or loss?

Answer:
                 $340,000
                  300,000
                 $ 40,000 realized gain

        Replacement for $325,000 would normally result in a $15,000 gain
        recognized (proceeds in excess of replacement cost). However, since this was
        a personal residence, the $15,000 gain is not recognized due to the exclusion
        of gain for personal residences (IRC §121).


56. Pedro sells investment land on September 1, 2007. Information pertaining to the sale
follows:

        Adjusted basis                             $25,000
        Selling price                               90,000
        Selling expenses                             1,500
        Down payment                                12,000
        4 installment payments                      15,000
        Mortgage assumed by the buyer               18,000

Each installment payment (including interest) is due on September 1 of 2008, 2009, 2010,
and 2011. Assume a 10% interest rate. Determine the tax consequences in 2007, 2008,
2009, 2010, and 2011.

Answer:
                 Sales Price                                      $90,000
                 Basis                       25,000
                 Selling Expenses             1,500                26,500
                 Realized Gain                                     63,500
                 Gross Profit %                                   88.19%
                 Gross Profit/Contract Price ($72,000)

                 September 1, 2007           $12,000 * 88.19% =   $10,584 gain recognized
                 September 1, 2008           $15,000 * 88.19% =   $13,229
                 September 1, 2009           $15,000 * 88.19% =   $13,229
                 September 1, 2010           $15,000 * 88.19% =   $13,229
                 September 1, 2011           $15,000 * 88.19% =   $13,229
                                                                  $63,500




                                                 12-22
Chapter 12 - Special Property Transactions




57. Virginia is an accountant for a global CPA firm. She is being temporarily transferred
from the Raleigh, North Carolina office to Tokyo. She will leave Raleigh on October 7,
2007, and will be out of the country for four years. She sells her personal residence on
September 30, 2007 for $250,000 (her adjusted basis is $190,000). Upon her return to
the United States in 2011, she purchases a new residence in Los Angeles for $220,000,
where she will continue working for the same firm.
       a. What is Virginia’s realized and recognized gain or loss?
       b. What is Virginia’s basis in the new residence?

Answer:
     a. Realized gain   $250,000 – 190,000 = $60,000
           Recognized gain     $0     §121 exclusion

        b. Cost $220,000


58. On February 1, 2007, a 39-year-old widow buys a new residence for $150,000.
Three months later she sells her old residence for $310,000 (adjusted basis of $120,000).
Selling expenses totaled $21,000. She has lived in the house for 15 years.
        a. What is the widow’s realized and recognized gain or loss?
        b. What is her basis in the new residence?

Answer:
        a. Realized gain ($310,000 - $21,000) - $120,000 = $169,000. However, none
of the gain is recognized because of the §121 exclusion.

        b. The basis of the new residence is $150,000.




                                             12-23
Chapter 12 - Special Property Transactions


59. Dominique is a manager for a regional bank. He is being relocated several states
away to act as a temporary manager while the new branch is interviewing for a
permanent manager. He will leave on May 1, 2007, and will be at the new location for
less than one year. He sells his personal residence on April 15, 2007 for $123,000
(adjusted basis $95,000). Upon completion of the assignment, he purchases a new
residence for $200,000.
        a. What is Dominique’s realized and recognized gain or loss?
        b. What is Dominique’s basis in the new residence?
        c. Assume Dominique is transferred out-of-state and sells his new residence for
        $230,000 two months later (Dominique is single).

Answer:

        a.       $123,000
                   95,000
                 $ 28,000 realized gain; excluded under §121; $0 recognized

         b.      Basis is the cost of the new home: $200,000

        Allowable exclusion: (60/730) * $250,000 = $20,548 allowed exclusion
           $230,000 – 200,000 =     $30,000 gain on sale
                                     20,548 excluded
                                    $ 9,452 taxable gain




                                             12-24
Chapter 12 - Special Property Transactions


60. Crystal owns 150 shares of Carson, Inc., stock that has an adjusted basis of $100,000.
On December 18, 2007, she sells the 150 shares for FMV ($88,000). On January 7, 2008,
she purchases 200 shares of Carson stock for $127,500.
       a. What is Crystal’s realized and recognized gain or loss on the sale of the 150
       shares sold on December 18, 2007?
       b. What is Crystal’s adjusted basis for the 200 shares purchased on January 7,
       2008?
       c. How would your answers in (a) and (b) change is she purchased only 100
       shares for $98,000 in January?

Answer:

        a.      $88,000
                100,000
                $12,000 realized loss – The loss is not recognized because of the wash
        sale rules.

         b.      Cost                          $127,500
                 Disallowed loss                 12,000
                 New Basis in 200 shares       $139,500

        c. Since Crystal only repurchased 2/3 of the shares (100 shares versus 150
        sold), then 1/3 of the loss on the December sale is allowed.
            $12,000 * 1/3 = $4,000 allowed; $8,000 disallowed and added to basis.




                                             12-25
Chapter 12 - Special Property Transactions


61. On January 1, 2007, Myron sells stock that has a $50,000 FMV on the date of the
sale (basis $75,000) to his son Vernon. On October 21, 2007, Vernon sells the stock to
an unrelated party. In each of the following, determine the tax consequences of these
transactions to Myron and Vernon.
        a.      Vernon sells the stock for $40,000.
        b.      Vernon sells the stock for $80,000.
        c.      Vernon sells the stock for $65,000.

Answer:
     a. Myron’s $25,000 loss would be disallowed under the related party rules.
     Vernon would recognize a $10,000 loss. Myron’s $25,000 loss would not be
     used and lost forever.

        b. Myron’s $25,000 loss would be disallowed under the related party rules.
        Vernon would recognize a $5,000 gain. The gain is actually $30,000 on the
        sale but it can be reduced by the $25,000 disallowed loss on the sale by
        Myron.

        c. Myron’s $25,000 loss would be disallowed under the related party rules.
        Vernon would not recognize any gain on the sale. The $15,000 gain is
        reduced by Myron’s disallowed loss. Myron’s additional loss of $10,000
        would be lost forever.




                                             12-26
Chapter 12 - Special Property Transactions


62. Harold owns 130 shares of stock in Becker Corporation. His adjusted basis for the
stock is $210,000. On December 15, 2007 he sells the stock for $180,000. He purchases
200 shares of Becker Corporation stock on January 12, 2008, for $195,000.
        a. What is Harold’s realized and recognized gain or loss on the sale?
        b. What is Harold’s adjusted basis for the 200 shares purchased on January 12,
        2008?
        c. How would your answers in (a) and (b) change if he purchased only 100 shares
        for $95,000 in January?

Answer:
     a.          $180,000
                  210,000
                 ($30,000) realized loss; $0 recognized because of the wash sale rules

         b.      Basis of new shares $195,000
                 Disallowed loss       30,000
                 Basis of new stock $225,000

         c.      Since he only purchases 100 shares, a portion of the loss is recognized:
              (100/130) = 76.92% * $30,000 = $23,076 disallowed; $6,924 allowed
              Basis: $195,000 + 23,076 = $218,076




                                             12-27
Chapter 12 - Special Property Transactions


63. Lewis owns 200 shares of stock in Modlin Corporation. His adjusted basis for the
stock is $180,000. On December 15, 2007, he sells the stock for $170,000. He purchases
200 shares of Modlin Corporation stock on January 8, 2008, for $170,000.
        a. What is Lewis’ realized and recognized gain or loss on the sale?
        b. What is Lewis’ adjusted basis for the 200 shares purchased on January 8,
        2008?
        c. How would your answers in (a) and (b) change if he purchased only 100 shares
        for $105,000 in January?
        d. What tax treatment is Lewis trying to achieve?

Answer:
      a.
                 December 15, 2007: Sale          $170,000
                                    Basis          180,000
                                    Realized Loss ($10,000)

             This is a wash sale. The $10,000 loss would be disallowed. The $10,000
             disallowed loss is added to the basis of the second purchase on 1/08/08.

        b. $170,000 + 10,000 disallowed loss = $180,000.

        c. Since ½ of the shares were repurchased, the same proportion of the loss is
        allowed. $5,000 of the $10,000 disallowed loss is allowed. Basis in new stock
        = $105,000 + 5,000 disallowed loss

        d. Lewis is trying to generate a tax loss without changing the ownership in
        Modlin Corp.




                                             12-28
Chapter 12 - Special Property Transactions



Tax Return Problems

Use your tax software to complete the following problems. If you are manually
preparing the tax returns, the problem indicates the forms or schedules you will need.


Tax Return Problem #1

During 2007, Wendy O’Neil (SSN 444-44-4444), who is single, worked full-time as the
director at a local charity. She resides at 1501 Front Street, Highland, AZ 12345. For
the year, she had the following reported on her W-2

        W-2 wages                            $46,200
        Federal withholding                  $ 5,930
        Soc. sec. wages                      $46,200
        Soc. sec. withholding                $ 2,864
        Medicare withholding                 $ 670
        State withholding                    $ 2,310

Other information follows:
       1099-INT       New Bank                                  $     300

        1099-DIV          Freeze, Inc        Ordinary dividends $     400
                                             Qualified dividends $    400

Wendy had the following itemized deductions:
             State income tax withholding (above)               $    2,310
             State income tax paid with the 2006 return         $      100
             Real estate tax                                    $    2,600
             Mortgage interest                                  $    8,060

Wendy inherited a beach rental house in North Carolina (Rental Only) on October 4,
2006 from her father. The FMV at the father’s death was $850,000. He had purchased
the house twenty years earlier for $100,000.

                 Summer rental income                           $45,000
                 Repairs                    $2,500
                 Real estate taxes          $6,500
                 Utilities                  $2,400
                 Depreciation        (Calculate)




                                                 12-29
Chapter 12 - Special Property Transactions


On November 12, 2007, Wendy properly conducted a like-kind exchange for rental real
estate located at 128 Lake Blvd., Hot Town, Arizona. She received rental property with a
FMV of $950,000 and $20,000 cash in exchange for the NC beach house. The Arizona
property did not produce any income until 2008.

Prepare Form 1040 for Wendy for 2007. You will need Form 1040, Schedule A,
Schedule B, Schedule D, Schedule E, Form 4562, and Form 8824


------------- insert
Form 1040 - 2 pages
Schedule A&B – 2 pages
Schedule D – 2 pages
Schedule E - 1 page
Form 4562 – 1 page
Form 8824 – 1 page




Tax Return Problem #2

Dave (SSN 555-55-5555) and Alica (SSN 343-43-3434) Stanley are married and retired
at age 50. The couples’ income consists of rental property, stock investments, and
royalties from an invention. They sold their large house that they had purchased six years
ago for $580,000 on October 18, 2007 for $1.2 million. They now live in a condo at 101
Magnolia Lane, Suite 15, High Park, Florida.

The rental property is an apartment complex (building cost $1.5 million and purchased
January 5, 2007) with 30 units that rent for $27,000 per month and are at 90% occupancy.

                 Rental Income                                     $291,600
                 Salaries            $         115,000
                 Payroll taxes                   8,798
                 Real estate taxes              18,750
                 Interest                       45,000
                 Repairs & maintenance          29,000
                 Depreciation                  calculate




                                             12-30
Chapter 12 - Special Property Transactions


The following is also for the year:
              1099-INT         Old Bank                                 $ 22,000

                 1099-DIV          Dell, Inc        Ordinary dividends $ 15,250
                                                    Qualified dividends $ 15,250

                 1099-DIV          IBM, Inc         Ordinary dividends $    8,650
                                                    Qualified dividends $   8,650

                 1099-DIV          Pepsi, Inc       Ordinary dividends $ 18,785
                                                    Qualified dividends $ 18,785

                 1099-MISC Box 2 Royalties                              $152,300

                          Purchased            Sold       Sales Price   Basis   Gain/Loss
Dell (held 9 mo.)         12/01/06           09/01/07     $15,000       $ 9,000   $6,000
Pepsi (held 4 mo.)        09/01/07           12/29/07     $17,000       $25,000 ($8,000)
IBM (held 30 mo)          06/05/05           12/05/07     $38,000       $20,000 $18,000

On January 3, 2008, Dave repurchased the exact number of shares he sold on 12/29/07.

The Stanley’s paid $23,000 each quarter (4 payments) in federal estimated income taxes.

Prepare Form 1040 for the Stanleys. You will need Form 1040, Schedule B, Schedule D,
Schedule E, and Form 4562.


---------- insert
Form 1040 - 2 pages
Schedule B – 1 page
Schedule D – 2 pages
Schedule E - 1 page
Form 4562 – 1 page




                                                 12-31

								
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