Milton Inc. recognized a $1,300 net Section 1231 loss in 2015. If Milton recognizes a $5,000 net Section 1231 gain in 2016, it must characterize $1,300 as ordinary income.

Question

Quizplus · Accepted Answer

According to the Section 1231 rules, any net losses from Section 1231 activities are characterized as ordinary losses, while any net gains are characterized as long-term capital gains. However, in situations where there are net losses from previous years that have not yet been fully offset, those losses must be used to offset any current year net gains. In this case, since Milton recognized a net Section 1231 loss of $1,300 in 2015, it must first use that loss to offset $1,300 of the $5,000 net gain recognized in 2016. Therefore, only $3,700 of the 2016 gain will be characterized as a long-term capital gain, while the remaining $1,300 will be characterized as ordinary income.