An unincorporated business sold two warehouses during the current year. The straight-line depreciation method was used for the first building and the accelerated method (ACRS)was used for the second building. Information about those buildings is presented below. How much gain from these sales should be reported as section 1231 gain and ordinary income due to depreciation recapture by the owner of the business?

Question

An unincorporated business sold two warehouses during the current year. The straight-line depreciation method was used for the first building and the accelerated method (ACRS)was used for the second building. Information about those buildings is presented below.  How much gain from these sales should be reported as section 1231 gain and ordinary income due to depreciation recapture by the owner of the business?

Quizplus · Accepted Answer

To calculate the section 1231 gain and ordinary income due to depreciation recapture, we need to calculate the adjusted basis and the amount realized for each building.

For Building 1:
Adjusted basis = Cost - Depreciation = $200,000 - $80,000 = $120,000
Amount realized = $150,000
Therefore, the gain on the sale of Building 1 is $30,000 ($150,000 - $120,000).

For Building 2:
Adjusted basis = Cost - Depreciation = $250,000 - $175,000 = $75,000
Amount realized = $200,000
Therefore, the gain on the sale of Building 2 is $125,000 ($200,000 - $75,000).

Since the straight-line depreciation method was used for Building 1, the entire $80,000 of depreciation taken is subject to depreciation recapture at a maximum rate of 25%. Therefore, $20,000 ($80,000 x 0.25) is ordinary income due to depreciation recapture.

Since the ACRS depreciation method was used for Building 2, the depreciation recapture rate varies depending on the type of property. Since the warehouse is a 25-year property, the depreciation recapture rate is 20%. Therefore, $35,000 ($175,000 x 0.20) is ordinary income due to depreciation recapture.

The remaining gain for both buildings is section 1231 gain. Therefore, the total section 1231 gain is $95,000 ($30,000 + $125,000) and the total ordinary income due to depreciation recapture is $55,000 ($20,000 + $35,000). Choice B is the correct answer.

An Unincorporated Business Sold Two Warehouses During the Current Year