Tax Chapter 11

Flashcard maker : Lily Taylor
Chapter 11 – Property Dispositions
True / False Questions

1. Generally, the amount realized is everything of value received in a sale less selling expenses.

TRUE
2. The adjusted basis is the cost basis less cost recovery deductions (depreciation, amortization or depletion).
TRUE
3. The gain or loss realized is the amount realized less the adjusted basis.
TRUE
4. The gain or loss realized is always recognized for tax purposes.
FALSE – see nonrecognition transactions (like-kind exchanges and involuntary conversions).
5. All tax gains and losses are ultimately characterized as either ordinary or capital.
TRUE
6. Accounts receivable and inventory are examples of ordinary assets.
TRUE
7. Assets held for investment and personal use assets are examples of capital assets.
TRUE
8. §1231 assets include all assets used in a trade or business.
FALSE – must be held for more than a year.
9. A parcel of land is always a capital asset.
FALSE – depends on the purpose for which the taxpayer uses the land. A parcel of land held as inventory by a real estate developer would be an ordinary asset.
10. Taxpayers can recognize a taxable gain even though an asset’s real economic value has declined.
TRUE – due to cost recovery deductions.
11. Depreciation recapture changes both the amount and character of a gain.
FALSE – Depreciation recapture changes the character of the gain, not the amount.
12. For corporations, §291 recaptures 20 percent of the lesser of depreciation taken or the realized gain as ordinary income.
TRUE
13. Unrecaptured §1250 gain is taxed at a maximum rate of 25 percent.
TRUE
14. Unrecaptured §1250 gains apply only to individuals.
TRUE
15. §1239 recharacterizes 50 percent of the gain on sales to a related party as ordinary income.
FALSE – 100 percent of the gain is recharacterized as ordinary income.
16. A net §1231 gain becomes ordinary while a net §1231 loss becomes long-term capital gain.
FALSE – just the opposite is true.
17. The §1231 lookback rule recharacterizes §1231 gains if §1231 losses have created ordinary losses in the last 5 years.
TRUE
18. The §1231 lookback rule applies whether there is a net gain or loss.
FALSE – only applies when there is a net Sec. 1231 gain recognized in the current year.
19. Realized gains are recognized unless there is specific exception.
TRUE
20. Residential real property is not like-kind with non-residential real property.
FALSE – all real property is considered to be “like kind” with any other type of real property.
21. A simultaneous exchange must take place for a transaction to qualify as a like-kind exchange.
FALSE – the like-kind replacement property must be identified within 45 days and received within 180 days.
22. Boot is not like-kind property involved in a like-kind exchange.
TRUE
23. In a deferred like-kind exchange, the like-kind property to be received must be identified within 45 days and acquired within 180 days from the initial exchange.
TRUE
24. A taxpayer that receives boot in a like-kind exchange resulting in a gain recognizes as gain the lesser of the fair market value of the boot received or the gain realized.
TRUE
25. A loss realized for property destroyed in a hurricane is deferred under the involuntary conversion rules.
FALSE – taxpayers are allowed to defer gains on involuntary conversions.
26. An installment sale is any sale where at least a portion of the sales proceeds is recognized in a subsequent taxable year.
TRUE
27. Losses on sales between related parties are realized but not recognized.
TRUE
Multiple Choice Questions

28. Which of the following is not used in the calculation of the amount realized:
A. Cash.
B. Adjusted basis.
C. Fair market value of other property received.
D. Buyer’s assumption of liabilities.
E. All of these.

B. Adjusted basis.

The amount realized is everything of value received (cash, fair market value of other property, and the buyer’s assumption of liabilities) less selling costs.

29. Which of the following is not usually included in an asset’s tax basis?
A. Purchase price
B. Sales tax
C. Shipping costs
D. Installation costs
E. None of these
E. None of these
The purchase price, sales tax, shipping, and installation costs are all included in an assets tax basis.
30. Which of the following is how gain or loss realized is calculated?
A. Cash less selling costs.
B. Cost basis less cost recovery.
C. Cash less cost recovery.
D. Amount realized less adjusted basis.
E. None of these.
D. Amount realized less adjusted basis.

Gain or loss realized is simply the amount realized less adjusted basis.

31. Which of the following realized gains results in a recognized gain?
A. Farm machinery traded for farm machinery.
B. Sale to a related party.
C. Involuntary conversion.
D. Iowa cropland exchanged for a Minnesota warehouse.
B. Sale to a related party.

Realized gains, but not losses, on sales to a related party are recognized.

32. Leesburg sold a machine for $2,200 on November 10th of the current year. The machine was purchased for $2,600. Leesburg had taken $1,200 of depreciation deductions on the machine through the date of the sale. What is Leesburg’s gain or loss realized on the machine?
A. $800 gain.
B. $1,000 gain.
C. $1,200 loss.
D. $1,400 loss.
E. None of these.
A. $800 gain.

The gain realized is the $2,200 amount realized less the $1,400 ($2,600 – $1,200) adjusted basis.

33. The sale of land held for investment results in the following type of gain or loss?
A. Capital.
B. Ordinary.
C. §1231.
D. §1245.
E. None of these.
A. Capital.

Assets held for investment generate capital gains or losses.

34. The sale of machinery at a loss that was used in a trade or business and held for more than one year results in the following type of loss?
A. Capital.
B. §291.
C. §1231.
D. §1245.
E. None of these.
C. §1231.

Assets used in a trade or business and held for more than one year are §1231 assets and do not require depreciation recapture.

35. The sale of computer equipment used in a trade or business for 9 months results in the following type of gain or loss?
A. Capital.
B. Ordinary.
C. §1231.
D. §1245.
E. None of these.
B. Ordinary.

Assets used in a trade or business and held for one year or less are ordinary assets.

36. The sale of machinery for more than the original cost basis (before depreciation), used in a trade or business, and held for more than one year results in the following types of gain or loss?
A. Capital and Ordinary.
B. Ordinary only.
C. Capital and §1231.
D. §1245 Ordinary and §1231.
E. None of these.
D. §1245 Ordinary and §1231.

Because the sales price exceeds the original basis, §1245 depreciation recapture and §1231 gain will be recognized.

37. Which of the following results in an ordinary gain or loss?
A. Sale of a machine at a gain.
B. Sale of stock held for investment.
C. Sale of a §1231 asset.
D. Sale of inventory.
E. None of these.
D. Sale of inventory.

Inventory is always an ordinary asset. Sale of a §1231 asset can generate either ordinary gain or capital loss.

38. What is the character of land used in an active trade or business for two years?
A. Capital.
B. Ordinary.
C. §1231.
D. Investment.
E. None of these.
C. §1231.

Land and depreciable assets used in a trade or business for more than one year are §1231 assets.

39. Which of the following is true regarding depreciation recapture?
A. Changes the character of a loss.
B. Changes the character of a gain.
C. Changes the amount of a gain.
D. Only applies to ordinary assets.
E. None of these.
B. Changes the character of a gain.

Depreciation recapture changes the character of the gain from §1231 to ordinary.

40. Which of the following gains does not result solely in an ordinary gain or loss?
A. Sale of equipment held for less than a year.
B. Sale of inventory.
C. Sale of equipment where the gain realized exceeds the accumulated depreciation.
D. Sale of equipment where the accumulated depreciation exceeds the gain realized.
E. None of these.
C. Sale of equipment where the gain realized exceeds the accumulated depreciation.

Depreciation recapture, resulting in ordinary income, is limited to accumulated depreciation.

41. Which of the following is not a §1245 asset if held for more than one year?
A. Machinery.
B. Automobile.
C. Building purchased in 1985 for which accelerated depreciation was elected.
D. Land.
E. None of these.
D. Land.

Land is not subject to cost recovery and is a 1231 asset, but not a §1245 asset.

42. Which of the following does not ultimately result in a capital gain or loss?
A. Sale of a personal use asset.
B. Sale of inventory.
C. Gain on equipment used in a trade or business held for more than one year, if it is the only asset sale during the year.
D. Sale of capital stock in another company.
E. None of these.
B. Sale of inventory.

Inventory is always an ordinary asset because it is held in the ordinary course of a trade or business.

43. Foreaker LLC sold a piece of land that it uses in its business for $52,000. Foreaker bought the land two years ago for $42,500. What is the amount and character of Foreaker’s gain?
A. $9,500 §1221.
B. $9,500 §1231.
C. $9,500 §1245.
D. $9,500 §1250.
E. None of these.
B. $9,500 §1231.

Land used in a trade or business is a §1231 asset.

44. Butte sold a machine to a machine dealer for $50,000. Butte bought the machine for $55,000 several years ago and has claimed $12,500 of depreciation expense on the machine. What is the amount and character of Butte’s gain or loss?
A. $7,500 §1231 loss.
B. $5,000 §1231 loss.
C. $7,500 §1245 gain.
D. $7,500 capital gain.
E. None of these.
C. $7,500 §1245 gain.

§1245 recaptures the lesser of depreciation taken ($12,500) or gain ($7,500) as ordinary income. Any remaining gain would be §1231 gain.

45. Which of the following sections recaptures or recharacterizes only corporate taxpayer’s gains?
A. §291.
B. §1239.
C. §1245.
D. Unrecaptured §1250 gains.
E. None of these.
A. §291.

For corporate taxpayers only, §291 recaptures 20% of the lesser of gain realized or accumulated depreciation on real property.

46. Which of the following transactions results solely in §1245 gain?
A. Sale of machinery held for less than one year.
B. Sale of machinery held for more than one year and where the gain realized exceeds the accumulated depreciation.
C. Sale of machinery held for more than one year and where the accumulated depreciation exceeds the gain realized.
D. Sale of land held for more than one year and where the amount realized exceeds the adjusted basis.
E. None of these.
C. Sale of machinery held for more than one year and where the accumulated depreciation exceeds the gain realized.

§1245 gain is the lesser of gain realized or accumulated depreciation.

47. Bozeman sold equipment that it uses in its business for $80,000. Bozeman bought the equipment two years ago for $75,000 and has claimed $20,000 of depreciation expense. What is the amount and character of Bozeman’s gain or loss?
A. $25,000 §1231 gain.
B. $20,000 §1245 ordinary gain, and $5,000 §1231 gain.
C. $5,000 §1245 ordinary gain, and $20,000 §1231 gain.
D. $25,000 capital gain.
E. None of these.
B. $20,000 §1245 ordinary gain, and $5,000 §1231 gain.

§1245 recaptures the lesser of depreciation taken ($20,000) or gain ($25,000) as ordinary income. The remaining $5,000 gain would be §1231 gain.

48. Sumner sold equipment that it uses in its business for $30,000. Sumner bought the equipment a few years ago for $80,000 and has claimed $40,000 of depreciation expense. Assuming that this is Sumner’s only disposition during the year, what is the amount and character of Sumner’s gain or loss?
A. $10,000 §1231 ordinary loss.
B. $10,000 §1245 ordinary loss.
C. $50,000 ordinary loss.
D. $10,000 capital loss.
E. None of these.
A. $10,000 §1231 ordinary loss.

There is no depreciation recapture when a §1231 asset is sold at a loss.

49. Bateman Corporation sold an office building that it used in its business for $800,000. Bateman bought the building ten years ago for $600,000 and has claimed $200,000 of depreciation expense. What is the amount and character of Bateman’s gain or loss?
A. $40,000 §1250 ordinary gain and $360,000 §1231 gain.
B. $200,000 §1250 ordinary gain and $200,000 §1231 gain.
C. $400,000 ordinary gain.
D. $400,000 capital gain.
E. None of these.
A. $40,000 §1250 ordinary gain and $360,000 §1231 gain.

For corporations, §291 recapture is 20 percent of the lesser of depreciation taken or the realized gain as ordinary income. The remaining gain is §1231.

50. When does unrecaptured §1250 gains apply?
A. When the taxpayer makes the election.
B. It applies only when non-corporate taxpayers sell depreciable real property at a gain.
C. It applies when §1245 recapture trumps §1250 recapture.
D. It applies only when real property purchased before 1986 is sold at a gain.
E. None of these.
B. It applies only when non-corporate taxpayers sell depreciable real property at a gain.

Unrecaptured §1250 gain only applies to the lesser of realized gain or accumulated depreciation on sales of real property by non-corporate taxpayers.

51. Brad sold a rental house that he owned for $250,000. Brad bought the rental house five years ago for $225,000 and has claimed $50,000 of depreciation expense. What is the amount and character of Brad’s gain or loss?
A. $25,000 ordinary and $50,000 unrecaptured §1250 gain.
B. $25,000 §1231 gain and $50,000 unrecaptured §1250 gain.
C. $75,000 ordinary gain.
D. $75,000 capital gain.
E. None of these.
B. $25,000 §1231 gain and $50,000 unrecaptured §1250 gain.

Unrecaptured §1250 recaptures the lesser of depreciation taken ($50,000) or gain ($75,000). This amount is then taxed at no more than 25%. The remaining $25,000 gain would be §1231 gain.

52. Alpha sold machinery, which it used in its business, to Beta, a related entity, for $40,000. Beta used the machinery in its business. Alpha bought the equipment a few years ago for $50,000 and has claimed $30,000 of depreciation expense. What is the amount and character of Alpha’s gain?
A. $20,000 ordinary income under §1239.
B. $10,000 §1245 ordinary gain and $10,000 §1231 gain.
C. $20,000 §1245 ordinary gain.
D. $20,000 capital gain.
E. None of these.
A. $20,000 ordinary income under §1239.
§1239 recharacterizes the entire gain as ordinary income when depreciable property is sold to a related party.
53. Ashburn reported a $105,000 net §1231 gain in year 6. Assuming Ashburn reported $60,000 of nonrecaptured §1231 losses during years 1-5, what amount of Ashburn’s net §1231 gain for year 6, if any, is treated as ordinary income?
A. $0.
B. $45,000.
C. $60,000.
D. $105,000.
E. None of these.
C. $60,000.
The 1231 lookback rule recharacterizes $60,000 of the §1231 gain to ordinary income, the amount of the prior 5 year losses that received ordinary loss treatment.
54. Winchester LLC sold the following business assets during the current year: (1) automobile, $30,000 cost basis, $12,000 depreciation, proceeds $20,000; (2) machinery, $25,000 cost basis, $20,000 depreciation, proceeds $10,000; (3) furniture, $15,000 cost basis, $10,000 depreciation, proceeds $4,000; (4) computer equipment, $25,000 cost basis, $6,000 depreciation, proceeds $10,000; (5) Winchester had unrecaptured §1231 losses of $3,000 in the prior 5 years. What is the amount and character of Winchester’s gains and losses before the 1231 netting process?
A. $3,000 §1245 ordinary loss, $0 §1231 loss.
B. $7,000 §1245 ordinary gain, $10,000 §1231 loss.
C. $7,000 §1245 ordinary loss, $4,000 §1231 gain.
D. $1,000 §1245 ordinary gain, $4,000 §1231 loss.
E. None of these.
B. $7,000 §1245 ordinary gain, $10,000 §1231 loss.

All of the assets are §1231 assets: automobile $2,000 gain, machinery $5,000 gain, furniture $1,000 loss, and equipment $9,000 loss. This results in $7,000 ordinary gain and $10,000 1231 loss. The 1231 lookback rule only applies when there is a net 1231 gain.

55. Which of the following is true regarding the §1231 lookback rule?
A. It only applies when a §1231 loss occurs.
B. It only applies when a §1231 gain occurs.
C. It only applies when a §1231 gain occurs and there is a nonrecaptured §1231 loss in the prior five years.
D. It only applies when a §1231 gain occurs and there is a nonrecaptured §1231 gain in the prior five years.
E. None of these.
C. It only applies when a §1231 gain occurs and there is a nonrecaptured §1231 loss in the prior five years.

The lookback rule only recharacterizes a current year 1231 gain if there are 1231 losses from the prior 5 years.

56. Which of the following is not true regarding §1239?
A. It only applies to related taxpayers.
B. It only applies to gains on sales of depreciable property.
C. It only applies to gains on sales of non-residential real property.
D. It does not apply to losses.
E. None of these.
C. It only applies to gains on sales of non-residential real property.
§1239 only applies to gains on sales of depreciable property between related taxpayers.
57. Koch traded machine 1 for machine 2. Koch originally purchased machine 1 for $75,000 and machine 1’s adjusted basis was $40,000 at the time of the exchange. Machine 2’s seller purchased it for $65,000 and machine 2’s adjusted basis was $55,000 at the time of the exchange. What is Koch’s adjusted basis in machine 2 after the exchange?
A. $40,000.
B. $50,000.
C. $55,000.
D. $75,000.
E. None of these.
A. $40,000.

The exchange qualifies as a like-kind exchange. Since no boot was transferred, Koch’s basis in the new machine is the basis in its old machine.

58. Mary traded furniture used in her business to a furniture dealer for some new furniture. Mary originally purchased the furniture for $45,000 and it had an adjusted basis of $20,000 at the time of the exchange. The new furniture had a fair market value of $40,000. Mary also gave $4,000 to the dealer in the transaction. What is Mary’s adjusted basis in the new furniture after the exchange?
A. $20,000.
B. $24,000.
C. $36,000.
D. $40,000.
E. None of these.
B. $24,000.

The exchange qualifies as a like-kind exchange. Since boot was given in the transaction, the fair market value of the boot given ($4,000) is added to the adjusted basis ($20,000) of the property given up.

59. Which one of the following is not a requirement of a deferred like-kind exchange?
A. The like-kind property to be received must be identified within 45 days.
B. The exchange must be completed within the taxable year.
C. The like-kind property must be received within 180 days.
D. A third party intermediary is often used to facilitate the exchange.
E. All of these.
B. The exchange must be completed within the taxable year.

The exchange must be completed by the due date of the taxpayer’s return including extensions.

60. How long does a taxpayer have to identify replacement property in a like-kind exchange?
A. The like-kind property to be received must be identified within 45 days.
B. The like-kind property to be received must be identified by the earlier of 45 days or the last day of the taxpayer’s taxable year.
C. The like-kind property to be received must be identified within 180 days.
D. There is no deadline for the identification of replacement property.
E. All of these.
A. The like-kind property to be received must be identified within 45 days.

The replacement property must be identified within 45 days.

61. The general rule regarding the exchanged basis in a like-kind exchange is:
A. The basis is equal to the fair market value of the new property.
B. The basis is equal to the fair market value of the old property.
C. The basis is equal to the adjusted basis of the old property.
D. The basis is equal to the cost basis of the old property.
E. All of these.
C. The basis is equal to the adjusted basis of the old property.

The general rule is that the property receives a carryover basis from the old property.

62. Arlington LLC traded machinery used in its business to a machinery dealer for some new machinery. Arlington originally purchased the machinery for $60,000 and it had an adjusted basis of $28,000 at the time of the exchange. The new machinery had a fair market value of $35,000. Arlington also received $2,000 of office equipment in the transaction. What is Arlington’s gain or loss recognized on the exchange?
A. $0.
B. $2,000.
C. $7,000.
D. $9,000.
E. None of these.
B. $2,000.

The gain recognized is the lesser of the fair market value of the boot ($2,000 of office equipment) or realized gain of $9,000 ($35,000 fair market value plus $2,000 boot less $28,000 adjusted basis).

63. Each of the following is true except for:
A. A direct involuntary conversion occurs when property taken under imminent domain is replaced with other property.
B. Qualified replacement property rules are more restrictive than the like-kind property rules.
C. An indirect involuntary conversion occurs when property is destroyed and insurance proceeds are used to purchase qualified replacement property.
D. Losses realized in involuntary conversions are deferred.
E. All of these are true.
D. Losses realized in involuntary conversions are deferred.

Losses realized in an involuntary conversion are realized; while losses realized in a like-kind exchange are deferred.

64. Which of the following is not an involuntary conversion?
A. Destruction caused by a hurricane.
B. Imminent domain.
C. A foreclosure.
D. Fire damage.
E. All of these are involuntary conversions.
C. A foreclosure.

A foreclosure doesn’t qualify as an involuntary conversion.

65. Which of the following is true regarding disallowed losses between related taxpayers?
A. The tax laws essentially treat related parties as the same taxpayer.
B. The holding period of the related party begins over.
C. The related party always receives a carryover basis.
D. The seller’s realized loss is deferred until the buyer sells the assets.
E. None of these.
A. The tax laws essentially treat related parties as the same taxpayer.

See the explanation in the textbook.

66. Sadie sold 10 shares of stock to her brother, George, for $500 six months ago. Sadie had purchased the stock for $600 two years earlier. If George sells the stock for $700, what is the amount and character of his recognized gain or loss in the current year?
A. $0.
B. $100 short-term capital gain.
C. $100 long-term capital gain.
D. $200 short-term capital gain.
E. None of these.
C. $100 long-term capital gain.

Sadie’s loss of $100 is deferred and her brother receives a dual basis in the stock. If he sells the stock at a gain, he receives a $600 carryover basis from Sadie. If he sells the stock at a loss he receives a $500 cost basis in the stock. Sadie’s basis and holding period are transferred to George, so he receives a $100 ($700 proceed less $600 basis) long-term gain on the sale.

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