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Basis of Assets Presentation

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  • Acquisition of Multiple Assets in a Lump-Sum Purchase . The total cost is allocated among the individual assets . a. The tax motives of the buyer and seller may conflict . Example : Teresa sells land and a building to Paul for a lump-sum amount. Teresa may prefer to allocate a greater amount to the land in order to eliminate or minimize depreciation recapture under § 1245 or § 1250, while Paul prefers to allocate a greater amount to the building in order to maximize future depreciation deductions. b. The lump-sum cost is allocated on the basis of the fair market value of the individual assets . The negotiating abilities of the buyer and the seller can impact the fair market value assigned to individual assets. c. Section 1060 provides a special allocation rule if a business is purchased and goodwill is involved. The purchase price is assigned to the assets, excluding goodwill, to the extent of their total fair market value. This assigned amount is allocated among the assets on the basis of the fair market value of the individual assets acquired. Goodwill is then assigned the residual amount of the purchase price. d. Some of the assets may be capital or § 1231 assets that receive special tax treatment upon subsequent sale or other disposition.
  • Allocation for Stock Rights and Stock Dividends . Allocation may be necessary on the receipt of nontaxable stock dividends and stock rights under §§ 305(a) and 307(a). a. Nontaxable stock dividends . The allocation depends on whether the dividend is a common stock dividend on common stock or a preferred stock dividend on common stock. The holding period for a nontaxable stock dividend , whether received in the form of common stock or preferred stock, includes the holding period of the original shares. (1) Common stock dividend on common stock . In this case, the cost of the original common shares is allocated to the total shares owned after the dividend. (2) Preferred stock dividend on common stock . In this case, the cost of the original common shares is allocated between the common and preferred shares on the basis of their relative fair market values on the date of distribution. b. Nontaxable stock rights . Whether part of the basis of the stock is allocated to the stock rights depends on the relative values of the stock and the rights or on whether the taxpayer elects to allocate. The holding period of nontaxable stock rights includes the holding period of the stock on which the rights were distributed. However, if the rights are exercised, the holding period of the newly acquired stock begins with the date the rights are exercised.
  • Fair market value of the stock rights is at least 15% of the fair market of the stock. Allocation is mandatory in this case. (2) Fair market value of the stock rights is less than 15% of the fair market value of the stock. Allocation is not required in this case. However, the taxpayer can elect to allocate .
  • GIFT BASIS 18. Reason for Carryover Basis . A taxpayer who receives property as a gift has no donee cost or consideration associated with the property. a. Under § 102, gifts are not treated as income to the donee. b. Therefore, a carryover basis must be assigned to the property. Otherwise, the amount of the gift would be taxed as a gain on the subsequent disposition of the property since the basis would be zero. (2) In addition, there would be no basis for depreciation (cost recovery) if the gift property is depreciable.
  • Calculation of Basis . Basis of gift property depends on whether the donee recognizes a gain or a loss on the subsequent disposition of the property. a. Gain basis : If the subsequent disposition results in a gain, the basis of the gift property is the same as the donor’s adjusted basis on the date of the gift if no gift tax is paid. If gift tax is paid, the basis calculation formula is dependent on whether the gift was made prior to 1977 or after 1976. (1) Gifts made prior to 1977 : The calculation formula is as follows: Donor’s basis + gift tax paid* * Gift tax paid is permitted to be added only to the extent the summation of the donor’s basis and gift tax paid does not exceed the fair market value of the property at the date of the gift. (2) Gifts made after 1976 : The calculation formula is as follows: Donor’s basis +  Unrealized appreciation  X Gift tax paid  Taxable gift*  * The taxable gift is the fair market value of the gift less the per donee annual exclusion of $12,000.
  • b. Loss basis : If the subsequent disposition results in a loss, the basis of the gift property is the lower of the donor’s adjusted basis or fair market value on the date of the gift. (1) Loss basis rule will produce a basis different from the gain basis rule only if the property has declined in value while the donor held it. (2) Reason for the loss basis rule is that the law views the decline in value as the donor’s loss, which should not be deductible by the donee.
  • No Gain or Loss on Subsequent Disposition . The donee will recognize neither gain nor loss on the sale or other disposition of the gift property if the amount realized is not greater than the basis for gain or less than the basis for loss.
  • Special Limitation on “Death-Bed” Gifts . Section 1014 contains a provision intended to eliminate a tax avoidance scheme associated with “death-bed” gifts. a. If (1) the decedent received appreciated property as a gift during the one-year period ending on the date of the decedent’s death, and (2) the property is acquired from the decedent by the donor of the property (or the donor’s spouse), the property will have a carryover basis rather than a stepped-up basis. b. Example : Doris, who was terminally ill received a gift of land from her son, Steve, on September 1, 2007, when the fair market value of the land was $10,000. Steve had purchased the land in 1991 for $6,000. Thus, Doris’s basis for the land is equal to Steve’s basis, or $6,000. Doris died on December 15, 2007, and bequeathed the land which was then worth $11,000 to Steve. Under the general rule for inherited property, Steve would receive a stepped-up basis of $11,000. However, because the one-year exception applies, his basis is $6,000 (i.e., the same as the decedent’s basis). If Doris had made a capital improvement to the property of $2,000 after its receipt by gift and prior to her death, Steve’s basis would be $8,000 ($6,000 + $2,000).
  • Wash Sales . Section 1091 provides for loss disallowance associated with a “wash sale.” a. A wash sale occurs if a taxpayer sells or exchanges stocks or securities at a realized loss and, within thirty days before or after the date of such sale or exchange, acquires “substantially identical” stocks or securities. b. The basis of the replacement stocks or securities is the cost of such replacement stocks or securities increased by the amount of the disallowed loss . The holding period of the replacement securities begins on the date of acquisition of the old securities. c. A taxpayer may acquire fewer shares than the number sold in a wash sale. The loss from the sale is prorated between recognized and unrecognized loss on the basis of the ratio of the number of shares acquired to the number of shares sold.

Transcript

  • 1.
    • Property Transactions:
    • Determination of Gain or Loss
    • and Basis Considerations
  • 2. Determination of Gain or Loss (slide 1 of 7)
    • Realized gain or loss
      • Difference between amount realized from sale or other disposition of the asset and its adjusted basis
      • Sale or other disposition
        • Includes trade-ins, casualties, condemnations, thefts, bond retirements
  • 3. Determination of Gain or Loss (slide 2 of 7)
    • Amount realized from disposition
      • Total consideration received, including cash, FMV of property received, mortgages/loans transferred to buyer
        • Fair market value (FMV): Value of asset determined by arms-length transaction, i.e., amount set by transaction between willing buyer and seller with neither obligated to enter into transaction
      • Reduced by any selling expenses
  • 4. Determination of Gain or Loss (slide 3 of 7)
    • Adjusted basis
      • Original cost (or other adjusted basis) plus capital additions less capital recoveries
  • 5. Determination of Gain or Loss (slide 4 of 7)
    • Capital additions
      • Cost of improvements and betterments to the property that are capital in nature and not currently deductible
  • 6. Determination of Gain or Loss (slide 5 of 7)
    • Capital recoveries
      • Amount of basis recovered through:
        • Depreciation or cost recovery allowances
        • Casualty and theft losses (and insurance proceeds)
        • Certain corporate distributions
        • Amortizable bond premium
  • 7. Determination of Gain or Loss (slide 6 of 7)
    • Recognized gain or loss
      • Amount of realized gain (loss) that is included in (deducted from) gross income
  • 8. Determination of Gain or Loss (slide 7 of 7)
    • Realized gains and losses are not always recognized
      • Realized gains may be deferred or excluded
      • Realized losses may be deferred or disallowed
  • 9. Capital Recovery Doctrine (slide 1 of 2)
    • Taxpayers is entitled to recover cost or other original basis of property acquired and is not taxed on that amount
    • To extent receive only investment back upon disposition of an asset, taxpayer has no gain
  • 10. Capital Recovery Doctrine (slide 2 of 2)
    • Example:
      • Taxpayer buys asset for $5,000
      • If asset is sold for $5,000, taxpayer has simply recovered the basis and no gain (loss) is realized
  • 11. Basis Considerations (slide 1 of 6)
    • Original basis of an asset is generally its cost
    • Bargain purchase assets have a basis equal to their FMV
      • Bargain amount may be income to purchaser (e.g., employee = compensation; shareholder = dividend)
  • 12. Basis Considerations (slide 2 of 6)
    • Identification problems
      • Security sales where specific identification not possible, use FIFO to compute basis
  • 13. Basis Considerations (slide 3 of 6)
    • Allocation problems: lump-sum purchase
      • Must allocate basis to each asset obtained
      • Allocation usually based on relative FMV of assets
  • 14. Basis Considerations (slide 4 of 6)
    • Allocation problems: Going concern purchase
      • Assign purchase price to assets (excluding goodwill) to extent of their total FMV
      • Then allocate among assets based on FMV
      • Residual amount is goodwill
        • Goodwill is an amortizable § 197 asset
      • Allocation applies to both purchaser and seller
  • 15. Basis Considerations (slide 5 of 6)
    • Allocation problems: Nontaxable stock dividends
      • Basis of original shares is allocated over the original and new shares
        • Based on number of shares (common on common), or
        • Based on relative FMV (preferred on common)
  • 16. Basis Considerations (slide 6 of 6)
    • Allocation problems: Nontaxable stock rights
      • Basis in rights is zero unless taxpayer is required or elects to allocate basis from stock
        • Required to allocate if FMV of rights is at least 15% of the FMV of the stock
        • Allocation is based on relative FMV of rights and stock
  • 17. Gift Basis (slide 1 of 10)
    • Gift property may have a dual basis, i.e., basis for gain and loss may differ
    • Basis is dependent on relationship between FMV at date of gift and donor’s adjusted basis
  • 18. Gift Basis (slide 2 of 10)
    • Gift basis for cost recovery
      • The donee's basis for cost recovery is the donor’s basis (donee's gain basis)
  • 19. Gift Basis (slide 3 of 10)
    • Gift basis for subsequent gain
      • When a gifted asset is disposed of by the donee, the basis for calculating any gain is the donor’s adjusted basis (carryover basis)
      • This basis is called the “gain basis”
        • Gain basis may be increased if donor incurred gift tax on gift
      • Holding period for donee includes that of donor
  • 20. Gift Basis (slide 4 of 10)
    • Gift basis for subsequent loss
      • When a gifted asset is disposed of by a donee, the basis for calculating any loss is the lesser of FMV at the date of gift or the donor’s adjusted basis
      • This basis is called the “loss basis”
  • 21. Gift Basis (slide 5 of 10)
    • Gift basis for subsequent loss
      • If FMV < donor’s basis on the date of the gift, a dual basis will exist for the asset
        • Gain basis = donor’s basis
        • Loss basis = FMV on date of gift
      • If dual basis and sold for loss, holding period for donee starts on date of gift
  • 22. Gift Basis (slide 6 of 10)
    • Gift basis when no gain or loss
      • If a dual basis exists and the amount realized from the disposition of a gifted asset falls between the gain basis and the loss basis
        • Basis of gifted asset is equal to the amount realized, and
        • No gain or loss is realized
      • Holding period for donee is not needed since there is no gain or loss
  • 23. Gift Basis (slide 7 of 10)
    • Example of gift basis determination
      • Alex received a gift from Beth on June 15 this year
      • FMV of asset on June 15 was $8,000
      • Beth bought the asset on May 5, 1985 for $10,000
  • 24. Gift Basis (slide 8 of 10)
    • Example of gift basis determination (cont’d)
      • If Alex sells the asset for $11,000, there is a $1,000 gain ($11,000-$10,000)
      • If Alex sells the asset for $7,000, there is a $1,000 loss ($7,000-$8,000)
      • If Alex sells the asset for $9,000, there is no gain or loss ($9,000-$9,000)
  • 25. Gift Basis (slide 9 of 10)
    • Adjustment for gift taxes
      • The proportion of gift tax paid (on gifts after 1976) by the donor on appreciation of asset can be added to basis of donee
      • The donee's basis is equal to: Donor’s basis + [(unrealized appreciation/FMV at date of gift) x gift tax]
  • 26. Gift Basis (slide 10 of 10)
    • Example of gift tax:
      • Cathy received a gift from Darren on June 15 of this year
      • FMV on June 15 was $20,000
      • Darren had a basis in the asset of $15,000
      • Darren paid gift tax of $800
      • Cathy’s basis in the gifted property is $15,200 [$15,000 + ($5,000/$20,000 x $800)]
  • 27. Property Acquired from a Decedent (slide 1 of 7)
    • Inherited property is always treated as long-term property
    • Generally, beneficiary’s basis in inherited assets will be the FMV of the asset at decedent’s date of death
      • Exception: If the executor/administrator of estate elects alternate valuation date, basis is FMV on such date
  • 28. Property Acquired from a Decedent (slide 2 of 7)
    • Inherited property valuation date
      • Date assets valued for estate tax is either:
        • Date of decedent’s death, which is called the primary valuation date (PVD), or
        • 6 months after date of decedent’s death, which is called the alternate valuation date (AVD)
          • Can only be elected if value of gross estate and estate tax liability are lower than if PVD was used
  • 29. Property Acquired from a Decedent (slide 3 of 7)
    • Inherited property valuation date
      • When PVD is used, beneficiary’s basis will be the FMV at date of decedent’s death
      • When AVD is used, beneficiary’s basis will be the FMV at the earliest of:
        • Date asset is distributed from estate, or
        • 6 months after date of decedent’s death
  • 30. Property Acquired from a Decedent (slide 4 of 7)
    • Example of inherited property valuation:
      • At Rex’s date of death, April 30 of this year, his assets had an adjusted basis of $200,000, and a FMV of $700,000
        • PVD selected and assets distributed June 30; beneficiary’s basis is $700,000
  • 31. Property Acquired from a Decedent (slide 5 of 7)
    • Example of inherited property valuation (cont’d)
      • October 30 this year (six months after date of Rex’s death), the assets had a FMV of $650,000
        • AVD selected and assets distributed November 10; beneficiary’s basis is $650,000
        • AVD selected and assets distributed June 30 when FMV of assets is $670,000; beneficiary’s basis is $670,000
  • 32. Property Acquired from a Decedent (slide 6 of 7)
    • Deathbed gifts
      • Property inherited by taxpayer (or spouse) which was both appreciated and gifted by same taxpayer to decedent within 1 year of decedent's death
      • Beneficiary’s basis in property is carryover of decedent’s basis (not date of death FMV)
          • Generally the same basis taxpayer had on date of gift
  • 33. Property Acquired from a Decedent (slide 7 of 7)
    • Survivor’s share of property
      • Both decedent’s share and surviving spouse’s share of community property receives basis of FMV on date of death
        • Surviving spouse’s share deemed to be acquired from a decedent
  • 34. Disallowed Losses (slide 1 of 5)
    • Related parties (§ 267)
      • Losses on sale of assets between related parties are disallowed
      • For income-producing or business property, any loss disallowed can be used to reduce gain recognition on subsequent disposition of asset to unrelated party
        • Only available to original transferee
        • Not available for sales of personal use assets
  • 35. Disallowed Losses (slide 2 of 5)
    • Related parties include:
      • Family members,
      • Corporation and a shareholder who owns greater than 50% (directly or indirectly) of the corporation, and
      • Partnership and a partner who owns greater than 50% (directly or indirectly) of the partnership
  • 36. Disallowed Losses (slide 3 of 5)
    • Wash sales
      • Losses from wash sales are disallowed
      • Wash sale occurs when taxpayer disposes of securities at loss and acquires substantially identical securities within 30 days before or after the date of the loss sale
  • 37. Disallowed Losses (slide 4 of 5)
    • Wash sales
      • Disallowed loss is added to the basis of the substantially identical securities that caused the disallowance
      • Does not apply to gains realized on disposition of securities
  • 38. Disallowed Losses (slide 5 of 5)
    • Personal use assets
      • Loss on the disposition of personal use assets is disallowed
      • Personal use asset loss cannot be converted into a business (or production of income) use deductible loss
        • Original loss basis for an asset converted is the lower of personal use basis or FMV at date of conversion
        • Cost recovery basis similarly limited