Question 1

Koch traded machine 1 for machine 2 when the fair market value of both machines was $50,000. 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 the choices are correct.

Accepted Answer

The exchange does not qualify as a like-kind exchange because the property exchanged is not real property used in a trade or business or held for investment. Koch's basis in the new machine is the fair market value.

Question 2

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?  Assume all assets were held for more than one year.
A) $3,000 ordinary loss, $0 §1231 loss.
B) $7,000 ordinary gain, $10,000 §1231 loss.
C) $7,000 ordinary loss, $4,000 §1231 gain.
D) $1,000 ordinary gain, $4,000 §1231 loss.
E) None of the choices are correct.

Accepted Answer

All of the assets are §1231 assets: automobile $2,000 gain, machinery $5,000 gain, furniture $1,000 loss, and equipment $9,000 loss. The gains on the automobile and machinery are characterized as ordinary income to the extent the gains were created by depreciation deductions. This results in $7,000 ordinary gain and $10,000 §1231 loss. The §1231 look-back rule only applies when there is a net 1231 gain.

Question 3

Why does §1250 recapture generally no longer apply?
A) Congress repealed the code section.
B) Real property is depreciated using the straight-line method after 1986.
C) §1245 recapture trumps §1250 recapture.
D) Because unrecaptured §1250 gains now apply to all taxpayers instead.
E) None of the choices are correct.

Accepted Answer

§1250 only recaptures excess depreciation, the excess of accelerated over straight-line depreciation and depreciation taken on real property held one year or less.

Question 4

Brandon, an individual, began business four years ago and has never sold a §1231 asset. Brandon owned each of the assets for several years. In the current year, Brandon sold the following business assets: 
Assuming Brandon's marginal ordinary income tax rate is 32 percent, what effect do the gains and losses have on Brandon's tax liability?
A) $7,000 ordinary income, $1,000 §1231 loss and $1,920 tax liability.
B) $6,000 ordinary income and $1,920 tax liability.
C) $7,000 §1231 gain and $2,240 tax liability.
D) $7,000 §1231 gain and $1,050 tax liability.
E) None of the choices are correct.

Accepted Answer

The depreciation recapture of $7,000 is characterized as ordinary income under §1245. The remaining $3,000 gain on the machinery is §1231 gain. The $4,000 §1231 loss on the computers and building offsets the $3,000 §1231 gain on the machinery. The $1,000 net §1231 loss becomes ordinary and offsets the $7,000 ordinary gain. The remaining ordinary gain of $6,000 is taxed at 32 percent, which results in $1,920 of tax.

Question 5

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 machinery 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 ordinary gain and $10,000 §1231 gain.
C) $20,000 ordinary gain.
D) $20,000 capital gain.
E) None of the choices are correct.

Accepted Answer

§1239 recharacterizes the entire gain as ordinary income when depreciable property is sold to a related person.

Question 6

Which one of the following is not True regarding a like-kind exchange?
A) Loss on like-kind property is not recognized.
B) Gains on boot given are deferred.
C) Losses on boot given are not recognized.
D) Land can be like-kind with a building.
E) All of the choices are True.

Accepted Answer

Losses on boot, but not like-kind property, given are recognized currently.

Question 7

The general rule regarding the exchanged basis in the new property received 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 the choices are correct.

Accepted Answer

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

Question 8

Which of the following is True regarding the §1231 look-back 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 the choices are correct.

Accepted Answer

The look-back rule only recharacterizes a current year §1231 gain if there are §1231 losses from the prior 5 years.

Question 9

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) The exchanged property must be like-kind.
E) All of the choices are correct.

Accepted Answer

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

Question 10

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 the choices are correct.

Accepted Answer

§1239 only applies to gains on sales of depreciable property between related taxpayers.

Question 11

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 the choices are correct.

Accepted Answer

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

Question 12

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 the choices are correct.

Accepted Answer

The §1231 look-back rule recharacterizes $60,000 of the §1231 gain to ordinary income, the amount of the prior 5 year losses that received ordinary loss treatment.

Question 13

What is the primary purpose of a third-party intermediary in a deferred like-kind exchange?
A) To facilitate finding replacement property.
B) To help acquire the replacement property.
C) To prevent the seller from receiving cash (boot) that will taint the transaction.
D) To certify the taxpayer's Form 8824.
E) All of the choices are correct.

Accepted Answer

The receipt of cash in a transaction qualifies as boot and requires the recognition of gain.

Question 14

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 choices are involuntary conversions.

Accepted Answer

A foreclosure doesn't qualify as an involuntary conversion.

Question 15

Brandon, an individual, began business four years ago and has sold §1231 assets with $5,000 of losses within the last 5 years. Brandon owned each of the assets for several years. In the current year, Brandon sold the following business assets: 
Assuming Brandon's marginal ordinary income tax rate is 32 percent, what effect do the gains and losses have on Brandon's tax liability?
Use Dividends and Capital Gains Tax Rates for reference.
A) $25,000 ordinary income, $8,000 tax liability.
B) $25,000 §1231 gain and $3,750 tax liability.
C) $13,000 §1231 gain, $12,000 ordinary income, and $5,790 tax liability.
D) $12,000 §1231 gain, $13,000 ordinary income, and $5,960 tax liability.
E) None of the choices are correct.

Accepted Answer

Depreciation recapture of $7,000 becomes ordinary income. In addition, Brandon has a $23,000 §1231 gain and $5,000 §1231 loss, which nets to an $18,000 net §1231 gain. The §1231 look-back rule recharacterizes $5,000 of the §1231 gain to ordinary income. Thus, $12,000 (32 percent) of ordinary income and $13,000 (15 percent) of §1231 gain. The calculations result in $5,790 of tax.

Question 16

Which one of the following is not considered boot in a like-kind exchange?
A) Cash.
B) Other property.
C) Mortgage given.
D) Mortgage received.
E) All of the choices can be considered as boot.

Accepted Answer

Mortgage received is treated as transferring cash to the other party, and thus it is not boot to the recipient.

Question 17

Arlington LLC exchanged land used in its business for some new land. Arlington originally purchased the land for $28,000. The new land 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 the choices are correct.

Accepted Answer

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).

Question 18

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 the choices are True.

Accepted Answer

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

Question 19

How long after the initial exchange 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 the choices are correct.

Accepted Answer

The replacement property must be identified within 45 days.

Question 20

Mary exchanged an office building used in her business for some land. Mary originally purchased the building for $45,000 and it had an adjusted basis of $20,000 at the time of the exchange. The land had a fair market value of $40,000. Mary also gave $4,000 to the  in the transaction. What is Mary's adjusted basis in the land after the exchange?
A) $20,000.
B) $24,000.
C) $36,000.
D) $40,000.
E) None of the choices are correct.

Accepted Answer

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.

Quiz 3: Property Dispositions

Why does §1250 recapture generally no longer apply?

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 machinery 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?

Which one of the following is not True regarding a like-kind exchange?

The general rule regarding the exchanged basis in the new property received in a like-kind exchange is:

Which of the following is True regarding the §1231 look-back rule?

Which one of the following is not a requirement of a deferred like-kind exchange?

Which of the following is not True regarding §1239?

When does unrecaptured §1250 gains apply?

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?

What is the primary purpose of a third-party intermediary in a deferred like-kind exchange?

Which of the following is not an involuntary conversion?

Which one of the following is not considered boot in a like-kind exchange?

Each of the following is True except for:

How long after the initial exchange does a taxpayer have to identify replacement property in a like-kind exchange?