Table of Contents
- Topics - This chapter discusses:
- Useful Items - You may want to see:
- Sales and Exchanges
- Abandonments
- Foreclosures and Repossessions
- Involuntary Conversions
- Nontaxable Exchanges
- Transfers to Spouse
- Rollover of Gain From Publicly Traded Securities
- Sales of Small Business Stock
- Rollover of Gain From Sale of Empowerment Zone Assets
- Exclusion of Gain From Sale of DC Zone Assets
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Sales and exchanges
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Abandonments
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Foreclosures and repossessions
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Involuntary conversions
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Nontaxable exchanges
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Transfers to spouse
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Rollovers and exclusions for certain capital gains
Publication
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523 Selling Your Home
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537 Installment Sales
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547 Casualties, Disasters, and Thefts
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550 Investment Income and Expenses
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551 Basis of Assets
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908 Bankruptcy Tax Guide
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954 Tax Incentives for Distressed Communities
Form (and Instructions)
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Schedule D (Form 1040) Capital Gains and Losses
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1040 U.S. Individual Income Tax Return
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1040X Amended U.S. Individual Income Tax Return
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1099-A Acquisition or Abandonment of Secured Property
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1099-C Cancellation of Debt
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4797 Sales of Business Property
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8824 Like-Kind Exchanges
See chapter 5 for information about getting publications and forms.
A sale is a transfer of property for money or a mortgage, note, or other promise to pay money. An exchange is a transfer of property for other property or services. The following discussions describe the kinds of transactions that are treated as sales or exchanges and explain how to figure gain or loss.
You usually realize gain or loss when property is sold or exchanged. A gain is the amount you realize from a sale or exchange of property that is more than its adjusted basis. A loss is the adjusted basis of the property that is more than the amount you realize.
Table 1-1. How To Figure Whether You Have a Gain or Loss
IF your... | THEN you have a... |
---|---|
Adjusted basis is more than the amount realized, | Loss. |
Amount realized is more than the adjusted basis, | Gain. |
Example.
You used a building in your business that cost you $70,000. You made certain permanent improvements at a cost of $20,000 and deducted depreciation totaling $10,000. You sold the building for $100,000 plus property having an FMV of $20,000. The buyer assumed your real estate taxes of $3,000 and a mortgage of $17,000 on the building. The selling expenses were $4,000. Your gain on the sale is figured as follows.
Amount realized: | ||
Cash | $100,000 | |
FMV of property received | 20,000 |
|
Real estate taxes assumed by buyer | 3,000 | |
Mortgage assumed by buyer |
17,000 | $140,000 |
Adjusted basis: | ||
Cost of building | $70,000 | |
Improvements | 20,000 | |
Total | $90,000 | |
Minus: Depreciation | 10,000 | |
Adjusted basis | $80,000 | |
Plus: Selling expenses | 4,000 | $84,000 |
Gain on sale | $56,000 |
Example 1.
Your father dies and leaves his farm to you for life with a remainder interest to your younger brother. You decide to sell your life interest in the farm. The entire amount you receive is a recognized gain. Your basis in the farm is disregarded.
Example 2.
The facts are the same as in Example 1, except that your brother joins you in selling the farm. The entire interest in the property is sold, so your basis in the farm is not disregarded. Your gain or loss is the difference between your share of the sales price and your adjusted basis in the farm.
If you sell or exchange property for less than fair market value with the intent of making a gift, the transaction is partly a sale or exchange and partly a gift. You have a gain if the amount realized is more than your adjusted basis in the property. However, you do not have a loss if the amount realized is less than the adjusted basis of the property.
Adjusted basis of entire property × |
Amount realized (fair market value of part sold) |
Fair market value of entire property |
Example.
You sold property with a fair market value of $10,000 to a charitable organization for $2,000 and are allowed a deduction for your contribution. Your adjusted basis in the property is $4,000. Your gain on the sale is $1,200, figured as follows.
Sales price | $2,000 |
Minus: Adjusted basis of part sold ($4,000 × ($2,000 ÷ $10,000)) | 800 |
Gain on the sale | $1,200 |
If you sell or exchange property you used partly for business or rental purposes and partly for personal purposes, you must figure the gain or loss on the sale or exchange as though you had sold two separate pieces of property. You must allocate the selling price, selling expenses, and the basis of the property between the business or rental part and the personal part. You must subtract depreciation you took or could have taken from the basis of the business or rental part.
Gain or loss on the business or rental part of the property may be a capital gain or loss or an ordinary gain or loss, as discussed in chapter 3 under Section 1231 Gains and Losses. Any gain on the personal part of the property is a capital gain. You cannot deduct a loss on the personal part.
Example.
You sold a condominium for $57,000. You had bought the property 9 years earlier in January for $30,000. You used two-thirds of it as your home and rented out the other third. You claimed depreciation of $3,272 for the rented part during the time you owned the property. You made no improvements to the property. Your selling expenses for the condominium were $3,600. You figure your gain or loss as follows.
Rental | Personal |
||
(1/3) | (2/3) | ||
1) | Selling price | $19,000 | $38,000 |
2) | Minus: Selling expenses | 1,200 | 2,400 |
3) | Amount realized (adjusted sales price) | 17,800 | 35,600 |
4) | Basis | 10,000 | 20,000 |
5) | Minus: Depreciation | 3,272 | |
6) | Adjusted basis | 6,728 | 20,000 |
7) | Gain (line 3 − line 6) | $11,072 | $15,600 |
You cannot deduct a loss on the sale of property you acquired for use as your home and used as your home until the time of sale.
You can deduct a loss on the sale of property you acquired for use as your home but changed to business or rental property and used as business or rental property at the time of sale. However, if the adjusted basis of the property at the time of the change was more than its fair market value, the loss you can deduct is limited.
Figure the loss you can deduct as follows.
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Use the lesser of the property's adjusted basis or fair market value at the time of the change.
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Add to (1) the cost of any improvements and other increases to basis since the change.
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Subtract from (2) depreciation and any other decreases to basis since the change.
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Subtract the amount you realized on the sale from the result in (3). If the amount you realized is more than the result in (3), treat this result as zero.
The result in (4) is the loss you can deduct.
Example.
You changed your main home to rental property 5 years ago. At the time of the change, the adjusted basis of your home was $75,000 and the fair market value was $70,000. This year, you sold the property for $55,000. You made no improvements to the property but you have depreciation expense of $12,620 over the 5 prior years. Although your loss on the sale is $7,380 [($75,000 − $12,620) − $55,000], the amount you can deduct as a loss is limited to $2,380, figured as follows.
Lesser of adjusted basis or fair market value at time of the change | $70,000 |
Plus: Cost of any improvements and any other additions to basis after the change | -0- |
70,000 | |
Minus: Depreciation and any other decreases to basis after the change | 12,620 |
57,380 | |
Minus: Amount you realized from the sale | 55,000 |
Deductible loss | $2,380 |
The abandonment of property is a disposition of property. You abandon property when you voluntarily and permanently give up possession and use of the property with the intention of ending your ownership but without passing it on to anyone else.
Loss from abandonment of business or investment property is deductible as an ordinary loss, even if the property is a capital asset. The loss is the property's adjusted basis when abandoned. This rule also applies to leasehold improvements the lessor made for the lessee that were abandoned. However, if the property is later foreclosed on or repossessed, gain or loss is figured as discussed later. The abandonment loss is deducted in the tax year in which the loss is sustained.
You cannot deduct any loss from abandonment of your home or other property held for personal use.
Example.
Ann abandoned her home that she bought for $200,000. At the time she abandoned the house, her mortgage balance was $185,000. She has a nondeductible loss of $200,000 (the adjusted basis). If the bank later forecloses on the loan or repossesses the house, she will have to figure her gain or loss as discussed later under Foreclosures and Repossessions.
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The cancellation is intended as a gift.
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The debt is qualified farm debt (see chapter 3 of Publication 225, Farmer's Tax Guide).
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The debt is qualified real property business debt (see chapter 5 of Publication 334, Tax Guide for Small Business).
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You are insolvent or bankrupt (see Publication 908).
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The debt is qualified principal residence indebtedness.
If you do not make payments you owe on a loan secured by property, the lender may foreclose on the loan or repossess the property. The foreclosure or repossession is treated as a sale or exchange from which you may realize gain or loss. This is true even if you voluntarily return the property to the lender. You also may realize ordinary income from cancellation of debt if the loan balance is more than the fair market value of the property.
Example 1.
Chris bought a new car for $15,000. He paid $2,000 down and borrowed the remaining $13,000 from the dealer's credit company. Chris is not personally liable for the loan (nonrecourse debt), but pledges the new car as security. The credit company repossessed the car because he stopped making loan payments. The balance due after taking into account the payments Chris made was $10,000. The fair market value of the car when repossessed was $9,000. The amount Chris realized on the repossession is $10,000. That is the debt canceled by the repossession, even though the car's fair market value is less than $10,000. Chris figures his gain or loss on the repossession by comparing the amount realized ($10,000) with his adjusted basis ($15,000). He has a $5,000 nondeductible loss.
Example 2.
Abena paid $200,000 for her home. She paid $15,000 down and borrowed the remaining $185,000 from a bank. Abena is not personally liable for the loan (nonrecourse debt), but pledges the house as security. The bank foreclosed on the loan because Abena stopped making payments. When the bank foreclosed on the loan, the balance due was $180,000, the fair market value of the house was $170,000, and Abena's adjusted basis was $175,000 due to a casualty loss she had deducted. The amount Abena realized on the foreclosure is $180,000, the debt canceled by the foreclosure. She figures her gain or loss by comparing the amount realized ($180,000) with her adjusted basis ($175,000). She has a $5,000 realized gain.
Example 1.
Assume the same facts as in the previous Example 1, except Chris is personally liable for the car loan (recourse debt). In this case, the amount he realizes is $9,000. This is the canceled debt ($10,000) up to the car's fair market value ($9,000). Chris figures his gain or loss on the repossession by comparing the amount realized ($9,000) with his adjusted basis ($15,000). He has a $6,000 nondeductible loss. He also is treated as receiving ordinary income from cancellation of debt. That income is $1,000 ($10,000 − $9,000). This is the part of the canceled debt not included in the amount realized.
Example 2.
Assume the same facts as in the previous Example 2, except Abena is personally liable for the loan (recourse debt). In this case, the amount she realizes is $170,000. This is the canceled debt ($180,000) up to the fair market value of the house ($170,000). Abena figures her gain or loss on the foreclosure by comparing the amount realized ($170,000) with her adjusted basis ($175,000). She has a $5,000 nondeductible loss. She also is treated as receiving ordinary income from cancellation of debt. (The debt is not exempt from tax as discussed under Cancellation of debt, below.) That income is $10,000 ($180,000 − $170,000). This is the part of the canceled debt not included in the amount realized.
Table 1-2. Worksheet for Foreclosures and Repossessions
Part 1. Use Part 1 to figure your ordinary income from the cancellation of debt upon foreclosure or repossession. Complete this part only if you were personally liable for the debt. Otherwise, go to Part 2. |
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1. Enter the amount of outstanding debt immediately before the transfer of property reduced by any amount for which you remain personally liable after the transfer of property |
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2. Enter the fair market value of the transferred property | |
3.Ordinary income from cancellation of debt.* Subtract line 2 from line 1. If less than zero, enter zero |
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Part 2. Figure your gain or loss from foreclosure or repossession. | |
4. If you completed Part 1, enter the smaller of line 1 or line 2. If you did not complete Part 1, enter the outstanding debt immediately before the transfer of property |
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5. Enter any proceeds you received from the foreclosure sale | |
6. Add lines 4 and 5 | |
7. Enter the adjusted basis of the transferred property | |
8. Gain or loss from foreclosure or repossession. Subtract line 7 from line 6 |
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The cancellation is intended as a gift.
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The debt is qualified farm debt (see chapter 3 of Publication 225).
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The debt is qualified real property business debt (see chapter 5 of Publication 334).
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You are insolvent or bankrupt (see Publication 908).
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The debt is qualified principal residence indebtedness.
An involuntary conversion occurs when your property is destroyed, stolen, condemned, or disposed of under the threat of condemnation and you receive other property or money in payment, such as insurance or a condemnation award. Involuntary conversions are also called involuntary exchanges.
Gain or loss from an involuntary conversion of your property is usually recognized for tax purposes unless the property is your main home. You report the gain or deduct the loss on your tax return for the year you realize it. You cannot deduct a loss from an involuntary conversion of property you held for personal use unless the loss resulted from a casualty or theft.
However, depending on the type of property you receive, you may not have to report a gain on an involuntary conversion. Generally, you do not report the gain if you receive property that is similar or related in service or use to the converted property. Your basis for the new property is the same as your basis for the converted property. This means that the gain is deferred until a taxable sale or exchange occurs.
If you receive money or property that is not similar or related in service or use to the involuntarily converted property and you buy qualifying replacement property within a certain period of time, you can elect to postpone reporting the gain.
This publication explains the treatment of a gain or loss from a condemnation or disposition under the threat of condemnation. If you have a gain or loss from the destruction or theft of property, see Publication 547.
A condemnation is the process by which private property is legally taken for public use without the owner's consent. The property may be taken by the federal government, a state government, a political subdivision, or a private organization that has the power to legally take it. The owner receives a condemnation award (money or property) in exchange for the property taken. A condemnation is like a forced sale, the owner being the seller and the condemning authority being the buyer.
Example.
A local government authorized to acquire land for public parks informed you that it wished to acquire your property. After the local government took action to condemn your property, you went to court to keep it. But, the court decided in favor of the local government, which took your property and paid you an amount fixed by the court. This is a condemnation of private property for public use.
If your property was condemned or disposed of under the threat of condemnation, figure your gain or loss by comparing the adjusted basis of your condemned property with your net condemnation award.
If your net condemnation award is more than the adjusted basis of the condemned property, you have a gain. You can postpone reporting gain from a condemnation if you buy replacement property. If only part of your property is condemned, you can treat the cost of restoring the remaining part to its former usefulness as the cost of replacement property. See Postponement of Gain, later.
If your net condemnation award is less than your adjusted basis, you have a loss. If your loss is from property you held for personal use, you cannot deduct it. You must report any deductible loss in the tax year it happened.
You can use Part 2 of Table 1-3 to figure your gain or loss from a condemnation award.
Table 1-3. Worksheet for Condemnations
Part 1. Gain from severance damages. If you did not receive severance damages, skip Part 1 and go to Part 2. |
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1. | Enter gross severance damages received | |
2. | Enter your expenses in getting severance damages | |
3. | Subtract line 2 from line 1. If less than zero, enter -0- | |
4. | Enter any special assessment on remaining property taken out of your award | |
5. | Net severance damages. Subtract line 4 from line 3. If less than zero, enter -0- | |
6. | Enter the adjusted basis of the remaining property | |
7. | Gain from severance damages. Subtract line 6 from line 5. If less than zero, enter -0- | |
8. | Refigured adjusted basis of the remaining property. Subtract line 5 from line 6. If less than zero, enter -0- | |
Part 2. Gain or loss from condemnation award. | ||
9. | Enter the gross condemnation award received | |
10. | Enter your expenses in getting the condemnation award | |
11. | If you completed Part 1, and line 4 is more than line 3, subtract line 3 from line 4. If you did not complete Part 1, but a special assessment was taken out of your award, enter that amount. Otherwise, enter -0- | |
12. | Add lines 10 and 11 | |
13. | Net condemnation award. Subtract line 12 from line 9 | |
14. | Enter the adjusted basis of the condemned property | |
15. | Gain from condemnation award. If line 14 is more than line 13, enter -0-. Otherwise, subtract line 14 from line 13 and skip line 16 |
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16. | Loss from condemnation award. Subtract line 13 from line 14 | |
(Note: You cannot deduct the amount on line 16 if the condemned property was held for personal use.) | ||
Part 3. Postponed gain from condemnation. (Complete only if line 7 or line 15 is more than zero and you bought qualifying replacement property or made expenditures to restore the usefulness of your remaining property.) |
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17. | If you completed Part 1, and line 7 is more than zero, enter the amount from line 5. Otherwise, enter -0- | |
18. | If line 15 is more than zero, enter the amount from line 13. Otherwise, enter -0- | |
19. | Add lines 17 and 18. If the condemned property was your main home, subtract from this total the gain you excluded from your income and enter the result | |
20. | Enter the total cost of replacement property and any expenses to restore the usefulness of your remaining property | |
21. | Subtract line 20 from line 19. If less than zero, enter -0- | |
22. | If you completed Part 1, add lines 7 and 15. Otherwise, enter the amount from line 15. If the condemned property was your main home, subtract from this total the gain you excluded from your income and enter the result | |
23. | Recognized gain. Enter the smaller of line 21 or line 22. | |
24. | Postponed gain. Subtract line 23 from line 22. If less than zero, enter -0- |
Example.
You sold part of your property to the state under threat of condemnation. The contract you and the condemning authority signed showed only the total purchase price. It did not specify a fixed sum for severance damages. However, at settlement, the condemning authority gave you closing papers showing clearly the part of the purchase price that was for severance damages. You may treat this part as severance damages.
Example.
You receive a condemnation award and severance damages. One-fourth of the total was designated as severance damages in your agreement with the condemning authority. You had legal expenses for the entire condemnation proceeding. You cannot determine how much of your legal expenses is for each part of the condemnation proceeds. You must allocate one-fourth of your legal expenses to the severance damages and the other three-fourths to the condemnation award.
Example.
To widen the street in front of your home, the city condemned a 25-foot deep strip of your land. You were awarded $5,000 for this and spent $300 to get the award. Before paying the award, the city levied a special assessment of $700 for the street improvement against your remaining property. The city then paid you only $4,300. Your net award is $4,000 ($5,000 total award minus $300 expenses in obtaining the award and $700 for the special assessment retained).
If the $700 special assessment was not retained out of the award and you were paid $5,000, your net award would be $4,700 ($5,000 − $300). The net award would not change, even if you later paid the assessment from the amount you received.
Example.
You were awarded $4,000 for the condemnation of your property and $1,000 for severance damages. You spent $300 to obtain the severance damages. A special assessment of $800 was retained out of the award. The $1,000 severance damages are reduced to zero by first subtracting the $300 expenses and then $700 of the special assessment. Your $4,000 condemnation award is reduced by the $100 balance of the special assessment, leaving a $3,900 net condemnation award.
Example.
You sold your building for $24,000 under threat of condemnation to a public utility company that had the authority to condemn. You rented half the building and lived in the other half. You paid $25,000 for the building and spent an additional $1,000 for a new roof. You claimed allowable depreciation of $4,600 on the rental half. You spent $200 in legal expenses to obtain the condemnation award. Figure your gain or loss as follows.
Resi- dential Part |
Busi- ness Part |
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1) | Condemnation award received | $12,000 | $12,000 |
2) | Minus: Legal expenses, $200 | 100 | 100 |
3) | Net condemnation award | $11,900 | $11,900 |
4) | Adjusted basis: | ||
½ of original cost, $25,000 | $12,500 | $12,500 | |
Plus: ½ of cost of roof, $1,000 | 500 | 500 | |
Total | $13,000 | $13,000 | |
5) | Minus: Depreciation | 4,600 | |
6) | Adjusted basis, business part | $8,400 | |
7) | (Loss) on residential property | ($1,100) | |
8) | Gain on business property | $3,500 | |
The loss on the residential part of the property is not deductible. |
Do not report the gain on condemned property if you receive only property that is similar or related in service or use to the condemned property. Your basis for the new property is the same as your basis for the old.
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C corporations.
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Partnerships in which more than 50% of the capital or profits interest is owned by
C corporations. -
All others (including individuals, partnerships (other than those in (2)), and S corporations) if the total realized gain for the tax year on all involuntarily converted properties on which there are realized gains is more than $100,000.
Example.
Your home was condemned and you invested the proceeds from the condemnation in a grocery store. Your replacement property is not similar or related in service or use to the condemned property. To be similar or related in service or use, your replacement property must also be used by you as your home.
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Whether the properties are of similar service to you.
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The nature of the business risks connected with the properties.
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What the properties demand of you in the way of management, service, and relations to your tenants.
Example.
You owned land and a building you rented to a manufacturing company. The building was condemned. During the replacement period, you had a new building built on other land you already owned. You rented out the new building for use as a wholesale grocery warehouse. The replacement property is also rental property, so the two properties are considered similar or related in service or use if there is a similarity in all the following areas.
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Your management activities.
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The amount and kind of services you provide to your tenants.
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The nature of your business risks connected with the properties.
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Property that is similar or related in service or use to the condemned property.
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Depreciable property not reduced in (1).
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All other property.
Example.
City authorities condemned your home that you had used as a personal residence for two years prior to the condemnation. The city paid you a condemnation award of $400,000. Your adjusted basis in the property was $80,000. You realize a gain of $320,000 ($400,000 − $80,000). You purchased a new home for $100,000. You can exclude $250,000 of the realized gain from your gross income. The amount realized is then treated as being $150,000 ($400,000 − $250,000) and the gain realized is $70,000 ($150,000 amount realized − $80,000 adjusted basis). You must recognize $50,000 of the gain ($150,000 amount realized − $100,000 cost of new home). The remaining $20,000 of realized gain is postponed. Your basis in the new home is $80,000 ($100,000 cost − $20,000 gain postponed).
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The date on which you disposed of the condemned property.
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The date on which the threat of condemnation began.
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Property in any Midwestern disaster area compulsorily or involuntarily converted on or after the applicable disaster date as a result of severe storms, tornadoes, or flooding, but only if substantially all of the use of the replacement property is in a Midwestern disaster area.
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Property in the Kansas disaster area compulsorily or involuntarily converted after May 3, 2007, but only if substantially all of the use of the replacement property is in the Kansas disaster area.
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Property in the Hurricane Katrina disaster area compulsorily or involuntarily converted after August 24, 2005, as a result of Hurricane Katrina, but only if substantially all of the use of the replacement property is in the Hurricane Katrina disaster area.
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New York Liberty Zone property compulsorily or involuntarily converted as a result of the September 11, 2001, terrorist attacks, but only if substantially all of the use of the replacement property is in New York City.
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All events have occurred that fix the right to the condemnation award and the amount can be determined with reasonable accuracy.
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All or part of the award is actually or constructively received.
Example.
On April 3, 2007, city authorities notified you that your property would be condemned. On June 5, 2007, you acquired property to replace the property to be condemned. You still had the new property when the city took possession of your old property on September 4, 2008. You have made a replacement within the replacement period.
Extension Request for Replacement Period of Involuntarily Converted Property
Area Director
Attention: Area Technical Services, Compliance Function
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You do not buy replacement property within the replacement period. On your amended return, you must report the gain and pay any additional tax due.
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The replacement property you buy costs less than the amount realized for the condemned property (minus the gain you excluded from income if the property was your main home). On your amended return, you must report the part of the gain you cannot postpone reporting and pay any additional tax due.
Example.
Your property was condemned and you had a gain of $5,000. You reported the gain on your return for the year in which you realized it, and paid the tax due. You buy replacement property within the replacement period. You used all but $1,000 of the amount realized from the condemnation to buy the replacement property. You now change your mind and want to postpone reporting the $4,000 of gain equal to the amount you spent for the replacement property. You should file a claim for refund on Form 1040X. Explain on Form 1040X that you previously reported the entire gain from the condemnation, but you now want to report only the part of the gain equal to the condemnation proceeds not spent for replacement property ($1,000).
Generally, you report gain or loss from a condemnation on your return for the year you realize the gain or loss.
Certain exchanges of property are not taxable. This means any gain from the exchange is not recognized, and any loss cannot be deducted. Your gain or loss will not be recognized until you sell or otherwise dispose of the property you receive.
The exchange of property for the same kind of property is the most common type of nontaxable exchange. To be a like-kind exchange, the property traded and the property received must be both of the following.
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Qualifying property.
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Like-kind property.
These two requirements are discussed later.
Additional requirements apply to exchanges in which the property received is not received immediately upon the transfer of the property given up. See Deferred Exchange, later.
If the like-kind exchange involves the receipt of money or unlike property or the assumption of your liabilities, you may have to recognize gain. See Partially Nontaxable Exchanges, later.
Example.
Bill Smith trades an old cab for a new one. The new cab costs $30,000. He is allowed $8,000 for the old cab and pays $22,000 cash. He has no recognized gain or loss on the transaction regardless of the adjusted basis of his old cab. If Bill sold the old cab to a third party for $8,000 and bought a new one, he would have a recognized gain or loss on the sale of his old cab equal to the difference between the amount realized and the adjusted basis of the old cab.
Example.
You used your car in your business for 2 years. Its adjusted basis is $3,500 and its trade-in value is $4,500. You are interested in a new car that costs $20,000. Ordinarily, you would trade your old car for the new one and pay the dealer $15,500. Your basis for depreciation of the new car would then be $19,000 ($15,500 plus $3,500 adjusted basis of the old car).
You want your new car to have a larger basis for depreciation, so you arrange to sell your old car to the dealer for $4,500. You then buy the new one for $20,000 from the same dealer. However, you are treated as having exchanged your old car for the new one because the sale and purchase are reciprocal and mutually dependent. Your basis for depreciation for the new car is $19,000, the same as if you traded the old car.
In a like-kind exchange, both the property you give up and the property you receive must be held by you for investment or for productive use in your trade or business. Machinery, buildings, land, trucks, and rental houses are examples of property that may qualify.
The rules for like-kind exchanges do not apply to exchanges of the following property.
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Property you use for personal purposes, such as your home and your family car.
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Stock in trade or other property held primarily for sale, such as inventories, raw materials, and real estate held by dealers.
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Stocks, bonds, notes, or other securities or evidences of indebtedness, such as accounts receivable.
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Partnership interests.
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Certificates of trust or beneficial interest.
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Choses in action.
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Certain tax-exempt use property subject to a lease. For more information, see section 470(e) of the Internal Revenue Code.
However, you may have a nontaxable exchange under other rules. See Other Nontaxable Exchanges, later.
An exchange of the assets of a business for the assets of a similar business cannot be treated as an exchange of one property for another property. Whether you engaged in a like-kind exchange depends on an analysis of each asset involved in the exchange. However, see Multiple Property Exchanges, later.
There must be an exchange of like-kind property. Like-kind properties are properties of the same nature or character, even if they differ in grade or quality. The exchange of real estate for real estate and the exchange of personal property for similar personal property are exchanges of like-kind property. For example, the trade of land improved with an apartment house for land improved with a store building, or a panel truck for a pickup truck, is a like-kind exchange.
An exchange of personal property for real property does not qualify as a like-kind exchange. For example, an exchange of a piece of machinery for a store building does not qualify. Also, the exchange of livestock of different sexes does not qualify.
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Office furniture, fixtures, and equipment (asset class 00.11).
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Information systems, such as computers and peripheral equipment (asset class 00.12).
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Data handling equipment except computers (asset class 00.13).
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Airplanes (airframes and engines), except planes used in commercial or contract carrying of passengers or freight, and all helicopters (airframes and engines) (asset class 00.21).
-
Automobiles and taxis (asset class 00.22).
-
Buses (asset class 00.23).
-
Light general purpose trucks (asset class 00.241).
-
Heavy general purpose trucks (asset class 00.242).
-
Railroad cars and locomotives except those owned by railroad transportation companies (asset class 00.25).
-
Tractor units for use over the road (asset class 00.26).
-
Trailers and trailer-mounted containers (asset class 00.27).
-
Vessels, barges, tugs, and similar water-transportation equipment, except those used in marine construction (asset class 00.28).
-
Industrial steam and electric generation or distribution systems (asset class 00.4).
A deferred exchange is an exchange in which you transfer property you use in business or hold for investment and later receive like-kind property you will use in business or hold for investment. (The property you receive is replacement property.) The transaction must be an exchange (that is, property for property) rather than a transfer of property for money used to buy replacement property. In addition, the replacement property will not be treated as like-kind property unless the identification and the receipt requirements (discussed later) are met.
If, before you receive the replacement property, you actually or constructively receive money or unlike property in full consideration for the property you transfer, the transaction will be treated as a sale rather than a deferred exchange. In that case, you must recognize gain or loss on the transaction, even if you later receive the replacement property. (It would be treated as if you bought it.)
If, before you receive the replacement property, you actually or constructively receive money or unlike property in less than full consideration for the property you transfer, the transaction will be treated as a partially taxable exchange. See, Partially Nontaxable Exchanges, later.
-
Whether you actually or constructively receive money or unlike property is determined without regard to your method of accounting.
-
Actual or constructive receipt of money or unlike property by your agent is actual or constructive receipt by you.
-
Whether you actually or constructively receive money or unlike property is determined without regard to certain arrangements you make to ensure the other party carries out its obligations to transfer the replacement property to you. See Safe Harbors Against Actual and Constructive Receipt in Deferred Exchanges, later.
-
Three properties regardless of their fair market value; or
-
Any number of properties whose total fair market value at the end of the identification period is not more than double the total fair market value, on the date of transfer, of all properties you give up.
-
Any replacement property you received before the end of the identification period, and
-
Any replacement property identified before the end of the identification period and received before the end of the exchange period, but only if the fair market value of the property is at least 95% of the total fair market value of all identified replacement properties. Fair market value is determined on the earlier of the date you received the property or the last day of the exchange period. See Receipt requirement, later.
-
It is typically transferred with the larger item.
-
The total fair market value of all the incidental property is not more than 15% of the total fair market value of the larger item of property.
-
The 180th day after the date on which you transfer the property given up in the exchange.
-
The due date, including extensions, for your tax return for the tax year in which the transfer of the property given up occurs.
For more information relating to the current taxation of qualified escrow accounts, qualified trusts, and other escrow accounts, trusts, and funds used during deferred exchanges of like-kind property, see sections 1.468B-6 and 1.7872-16 of the regulations.
-
Your agent at the time of the transaction.
-
A person who is related to you under the rules discussed in chapter 2 under Nondeductible loss, substituting “10%” for “50%.”
-
A person who is related to a person who is your agent at the time of the transaction under the rules discussed in chapter 2 under Nondeductible loss, substituting “10%” for “50%.”
-
Services with respect to exchanges of property intended to qualify for nonrecognition of gain or loss as like-kind exchanges.
-
Routine financial, title insurance, escrow, or trust services by a financial institution, title insurance company, or escrow company.
The following arrangements will not result in actual or constructive receipt of money or unlike property in a deferred exchange.
-
Security or guarantee arrangements.
-
Qualified escrow accounts or qualified trusts.
-
Qualified intermediaries.
-
Interest or growth factors.
-
A mortgage, deed of trust, or other security interest in property (other than in cash or a cash equivalent)
-
A standby letter of credit that satisfies all the following requirements:
-
Not negotiable, whether by the terms of the letter of credit or under applicable local law,
-
Not transferable (except together with the evidence of indebtedness which it secures), whether by the terms of the letter of credit or under applicable local law,
-
Issued by a bank or other financial institution,
-
Serves as a guarantee of the evidence of indebtedness which is secured by the letter of credit, and
-
May not be drawn on in the absence of a default in the transferee's obligation to transfer the replacement property to you.
-
-
A guarantee by a third person.
-
The escrow holder is neither you nor a disqualified person. See Disqualified persons, earlier.
-
The escrow agreement expressly limits your rights to receive, pledge, borrow, or otherwise obtain the benefits of the cash or cash equivalent held in the escrow account. For more information on how to satisfy this condition, see Additional restrictions on safe harbors, later.
-
The trustee is neither you nor a disqualified person. See Disqualified persons, earlier. For purposes of whether the trustee of a trust is a disqualified person, the relationship between you and the trustee created by the qualified trust will not be considered a relationship between you and a related person.
-
The trust agreement expressly limits your rights to receive, pledge, borrow, or otherwise obtain the benefits of the cash or cash equivalent held by the trustee. For more information on how to satisfy this condition, see Additional restrictions on safe harbors, later.
-
Acquires the property you give up,
-
Transfers the property you give up,
-
Acquires the replacement property, and
-
Transfers the replacement property to you.
-
An intermediary is treated as acquiring and transferring property if the intermediary acquires and transfers legal title to that property.
-
An intermediary is treated as acquiring and transferring the property you give up if the intermediary (either on its own behalf or as the agent of any party to the transaction) enters into an agreement with a person other than you for the transfer of that property to that person, and, pursuant to that agreement, that property is transferred to that person (i.e., by direct deed from you).
-
An intermediary is treated as acquiring and transferring replacement property if the intermediary (either on its own behalf or as the agent of any party to the transaction) enters into an agreement with the owner of the replacement property for the transfer of that property and, pursuant to that agreement, the replacement property is transferred to you (i.e., by direct deed to you).
-
If you have not identified replacement property by the end of the identification period, you can have rights to receive, pledge, borrow, or otherwise obtain the benefits of the cash or cash equivalent after the end of the identification period.
-
If you have identified replacement property, you can have rights to receive, pledge, borrow, or otherwise obtain the benefits of the cash or cash equivalent when or after you receive all the replacement property you are entitled to receive under the exchange agreement.
-
If you have identified replacement property, you can have rights to receive, pledge, borrow, or otherwise obtain the benefits of the cash or cash equivalent on the occurrence of a contingency that is related to the exchange, provided for in writing, and beyond your control or the control of any disqualified person other than the person obligated to transfer the replacement property.
The like-kind exchange rules generally do not apply to an exchange in which you acquire replacement property (new property) before you transfer relinquished property (property you give up). However, if you use a qualified exchange accommodation arrangement (QEAA), the transfer may qualify as a like-kind exchange.
Under a QEAA, either the replacement property or the relinquished property is transferred to an exchange accommodation titleholder (EAT), discussed later, who is treated as the beneficial owner of the property. However, for transfers of qualified indications of ownership (defined later), the replacement property held in a QEAA may not be treated as property received in an exchange if you previously owned it within 180 days of its transfer to the EAT. If the property is held in a QEAA, the IRS will accept the qualification of property as either replacement property or relinquished property and the treatment of an EAT as the beneficial owner of the property for federal income tax purposes.
-
You have a written agreement.
-
The time limits for identifying and transferring the property are met.
-
The qualified indications of ownership of property are transferred to an EAT.
-
The EAT is holding the property for your benefit in order to facilitate an exchange under the like-kind exchange rules and Revenue Procedure 2000-37, as modified by Revenue Procedure 2004-51.
-
You and the EAT agree to report the acquisition, holding, and disposition of the property on your federal income tax returns in a manner consistent with the agreement.
-
The EAT will be treated as the beneficial owner of the property for all federal income tax purposes.
-
No later than 45 days after the transfer of qualified indications of ownership of the replacement property to the EAT, you must identify the relinquished property in a manner consistent with the principles for deferred exchanges. See Identification requirement earlier under Deferred Exchange.
-
One of the following transfers must take place no later than 180 days after the transfer of qualified indications of ownership of the property to the EAT.
-
The replacement property is transferred to you (either directly or indirectly through a qualified intermediary, defined earlier under Qualified intermediary).
-
The relinquished property is transferred to a person other than you or a disqualified person. A disqualified person is either of the following.
-
Your agent at the time of the transaction. This includes a person who has been your employee, attorney, accountant, investment banker or broker, or real estate agent or broker within the 2-year period before the transfer of the relinquished property.
-
A person who is related to you or your agent under the rules discussed in chapter 2 under Nondeductible Loss, substituting “10%” for “50%.”
-
-
-
The combined time period the relinquished property and replacement property are held in the QEAA cannot be longer than 180 days.
-
Hold qualified indications of ownership (defined next) at all times from the date of acquisition of the property until the property is transferred (as described in (2), above).
-
Be someone other than you or a disqualified person (as defined in 2(b), above).
-
Be subject to federal income tax. If the EAT is treated as a partnership or S corporation, more than 90% of its interests or stock must be owned by partners or shareholders who are subject to federal income tax.
-
Legal title to the property.
-
Other indications of ownership of the property that are treated as beneficial ownership of the property under principles of commercial law (for example, a contract for deed).
-
Interests in an entity that is disregarded as an entity separate from its owner for federal income tax purposes (for example, a single member limited liability company) and that holds either legal title to the property or other indications of ownership.
If, in addition to like-kind property, you receive money or unlike property in an exchange of like-kind property on which you realize a gain, you may have a partially nontaxable exchange. If you realize a gain on the exchange, you must recognize the gain you realize (see Amount recognized, earlier) but only to the extent of the money and the fair market value of the unlike property you receive. If you realize a loss on the exchange, no loss is recognized. However, see Unlike property given up, below.
The recognized (taxable) gain on the disposition of the like-kind property you give up is the smaller of two amounts. The first is the amount of gain realized. See Gain or Loss From Sales and Exchanges, earlier. The second is the limit of recognized gain. To figure the limit on recognized gain, add the money you received and the fair market value of any unlike property you received. Reduce this amount (but not below zero) by any exchange expenses (closing costs) you paid. Compare that amount to your gain realized. Your recognized (taxable) gain is the smaller of the two.
Example.
You exchange real estate held for investment with an adjusted basis of $8,000 for other real estate you now hold for investment. The fair market value (FMV) of the real estate you received was $10,000. You also received $1,000 in cash. You paid $500 in exchange expenses.
FMV of like-kind property received | $10,000 |
Cash | 1,000 |
Total received | $11,000 |
Minus: Exchange expenses paid | (500) |
Amount realized | $10,500 |
Minus: Adjusted basis of property you transferred | (8,000) |
Realized gain | $2,500 |
Although the total gain realized on the transaction is $2,500, the recognized (taxable) gain is only $500, figured as follows.
Example.
The facts are the same as in the previous example, except the property you gave up was subject to a $3,000 mortgage for which you were personally liable. The other party in the trade agreed to pay off the mortgage. Figure the gain realized as follows.
FMV of like-kind property received | $10,000 |
Cash | 1,000 |
Mortgage assumed by other party | 3,000 |
Total received | $14,000 |
Minus: Exchange expenses | (500) |
Amount realized | $13,500 |
Minus: Adjusted basis of property you transferred | (8,000) |
Realized gain | $5,500 |
The realized gain is recognized (taxable) gain only up to $3,500, figured as follows.
Money received (cash) | $1,000 |
Money received (liability assumed by other party) | 3,000 |
Total money and unlike property received | $4,000 |
Minus: Exchange expenses paid | (500) |
Recognized gain | $3,500 |
Example.
The facts are the same as in the previous example, except the property you received had a fair market value (FMV) of $14,000 and was subject to a $4,000 mortgage that you assumed. Figure the gain realized as follows.
FMV of like-kind property received | $14,000 |
Cash | 1,000 |
Mortgage assumed by other party | 3,000 |
Total received | $18,000 |
Minus: Exchange expenses | (500) |
Amount realized | $17,500 |
Minus: Adjusted basis of property you transferred | (8,000) |
Minus: Mortgage you assumed | (4000) |
Realized gain | $5,500 |
The realized gain is recognized (taxable) gain only up to $500, figured as follows.
Money received (cash) | $1,000 |
Money received (net liabilities assumed by other party): | |
Mortgage assumed by other party | $3,000 |
Minus: Mortgage you assumed | (4,000) |
Total (not below zero) | $0 |
Total money and unlike property received | $1,000 |
Minus: Exchange expenses paid | (500) |
Recognized gain | $500 |
Example.
You exchange stock and real estate you held for investment for real estate you also intend to hold for investment. The stock you transfer has a fair market value of $1,000 and an adjusted basis of $4,000. The real estate you exchange has a fair market value of $19,000 and an adjusted basis of $15,000. The real estate you receive has a fair market value of $20,000. You do not recognize gain on the exchange of the real estate because it qualifies as a nontaxable exchange. However, you must recognize (report on your return) a $3,000 loss on the stock because it is unlike property.
-
Add both the following amounts.
-
Any additional costs you incur.
-
Any gain you recognize on the exchange.
-
-
Subtract both the following amounts.
-
Any money you receive.
-
Any loss you recognize on the exchange.
-
Under the like-kind exchange rules, you generally must make a property-by-property comparison to figure your recognized gain and the basis of the property you receive in the exchange. However, for exchanges of multiple properties, you do not make a property-by-property comparison if you do either of the following.
-
Transfer and receive properties in two or more exchange groups.
-
Transfer or receive more than one property within a single exchange group.
In these situations, you figure your recognized gain and the basis of the property you receive by comparing the properties within each exchange group.
-
Money.
-
Stock in trade or other property held primarily for sale.
-
Stocks, bonds, notes, or other securities or evidences of debt or interest.
-
Interests in a partnership.
-
Certificates of trust or beneficial interests.
-
Choses in action.
Example.
Ben exchanges computer A (asset class 00.12), automobile A (asset class 00.22), and truck A (asset class 00.241) for computer R (asset class 00.12), automobile R (asset class 00.22), truck R (asset class 00.241), and $400. All properties transferred were used in Ben's business. Similarly, all properties received will be used in his business.
The first exchange group consists of computers A and R, the second exchange group consists of automobiles A and R, and the third exchange group consists of trucks A and R.
Example.
The facts are the same as in the preceding example. In addition, the fair market value of and liabilities secured by each property are as follows.
Fair Market Value |
Liability |
|
---|---|---|
Ben Transfers: | ||
Computer A | $1,500 | $ -0- |
Automobile A | 2,500 | 500 |
Truck A | 2,000 | -0- |
Ben Receives: | ||
Computer R | $1,600 | $ -0- |
Automobile R | 3,100 | 750 |
Truck R | 1,400 | 250 |
Cash | 400 |
All liabilities assumed by Ben ($1,000) are offset by all liabilities of which he is relieved ($500), resulting in a difference of $500. The difference is allocated among Ben's exchange groups in proportion to the fair market value of the properties received in the exchange groups as follows.
-
$131 ($500 × $1,600 ÷ $6,100) is allocated to the first exchange group (computers A and R). The fair market value of computer R is reduced to $1,469 ($1,600 − $131).
-
$254 ($500 × $3,100 ÷ $6,100) is allocated to the second exchange group (automobiles A and R). The fair market value of automobile R is reduced to $2,846 ($3,100 − $254).
-
$115 ($500 × $1,400 ÷ $6,100) is allocated to the third exchange group (trucks A and R). The fair market value of truck R is reduced to $1,285 ($1,400 − $115).
In each exchange group, Ben uses the reduced fair market value of the properties received to figure the exchange group's surplus or deficiency and to determine whether a residual group has been created.
-
Stock in trade or other property held primarily for sale.
-
Stocks, bonds, notes, or other securities or evidences of debt or interest.
-
Interests in a partnership.
-
Certificates of trust or beneficial interests.
-
Choses in action.
-
Cash and general deposit accounts (including checking and savings accounts but excluding certificates of deposit). Also, include here excess liabilities of which you are relieved over the amount of liabilities you assume.
-
Certificates of deposit, U.S. Government securities, foreign currency, and actively traded personal property, including stock and securities.
-
Accounts receivable, other debt instruments, and assets that you mark to market at least annually for federal income tax purposes. However, see section 1.338-6(b)(2)(iii) of the regulations for exceptions that apply to debt instruments issued by persons related to a target corporation, contingent debt instruments, and debt instruments convertible into stock or other property.
-
Property of a kind that would properly be included in inventory if on hand at the end of the tax year or property held by the taxpayer primarily for sale to customers in the ordinary course of business.
-
Assets other than those listed in (1), (2), (3), (4), (6), and (7).
-
All section 197 intangibles except goodwill and going concern value.
-
Goodwill and going concern value.
Example.
Fran exchanges computer A (asset class 00.12) and automobile A (asset class 00.22) for printer B (asset class 00.12), automobile B (asset class 00.22), corporate stock, and $500. Fran used computer A and automobile A in her business and will use printer B and automobile B in her business.
This transaction results in two exchange groups: (1) computer A and printer B, and (2) automobile A and automobile B.
The fair market values of the properties are as follows.
Fair Market Value |
|
---|---|
Fran Transfers: | |
Computer A | $1,000 |
Automobile A | 4,000 |
Fran Receives: | |
Automobile B | $2,950 |
Printer B | 800 |
Corporate Stock | 750 |
Cash | 500 |
The total fair market value of the properties transferred in the exchange groups ($5,000) is $1,250 more than the total fair market value of the properties received in the exchange groups ($3,750), so there is a residual group in that amount. It consists of the $500 cash and the $750 worth of corporate stock.
Example.
Karen exchanges computer A (asset class 00.12) and automobile A (asset class 00.22), both of which she used in her business, for printer B (asset class 00.12) and automobile B (asset class 00.22), both of which she will use in her business. Karen's adjusted basis and the fair market value of the exchanged properties are as follows.
Adjusted Basis |
Fair Market Value |
|
---|---|---|
Karen Transfers: | ||
Automobile A | $1,500 | $4,000 |
Computer A | 375 | 1,000 |
Karen Receives: | ||
Printer B | $2,050 | |
Automobile B | 2,950 |
The first exchange group consists of computer A and printer B. It has an exchange group surplus of $1,050 because the fair market value of printer B ($2,050) is more than the fair market value of computer A ($1,000) by that amount.
The second exchange group consists of automobile A and automobile B. It has an exchange group deficiency of $1,050 because the fair market value of automobile A ($4,000) is more than the fair market value of automobile B ($2,950) by that amount.
Example.
Based on the facts in the previous example, Karen recognizes gain on the exchange as follows.
For the first exchange group, the gain realized is the fair market value of computer A ($1,000) minus its adjusted basis ($375), or $625. The gain recognized is the lesser of the gain realized, $625, or the exchange group deficiency, $-0-.
For the second exchange group, the gain realized is the fair market value of automobile A ($4,000) minus its adjusted basis ($1,500), or $2,500. The gain recognized is the lesser of the gain realized, $2,500, or the exchange group deficiency, $1,050.
The total gain recognized by Karen in the exchange is the sum of the gains recognized with respect to both exchange groups ($-0- + $1,050), or $1,050.
-
The total adjusted basis of the transferred properties within that exchange group.
-
Your recognized gain on the exchange group.
-
The excess liabilities you assume that are allocated to the group.
-
The exchange group surplus (or minus the exchange group deficiency).
Example.
Based on the facts in the two previous examples, the bases of the properties received by Karen in the exchange, printer B and automobile B, are determined in the following manner.
The basis of the property received in the first exchange group is $1,425. This is the sum of the following amounts.
-
Adjusted basis of the property transferred within that exchange group ($375).
-
Gain recognized for that exchange group ($-0-).
-
Excess liabilities assumed allocated to that exchange group ($-0-).
-
Exchange group surplus ($1,050).
Printer B is the only property received within the first exchange group, so the entire basis of $1,425 is allocated to printer B.
The basis of the property received in the second exchange group is $1,500. This is figured as follows.
First, add the following amounts.
-
Adjusted basis of the property transferred within that exchange group ($1,500).
-
Gain recognized for that exchange group ($1,050).
-
Excess liabilities assumed allocated to that exchange group ($-0-).
Then subtract the exchange group deficiency ($1,050).
Automobile B is the only property received within the second exchange group, so the entire basis ($1,500) is allocated to automobile B.
Special rules apply to like-kind exchanges between related persons. These rules affect both direct and indirect exchanges. Under these rules, if either person disposes of the property within 2 years after the exchange, the exchange is disqualified from nonrecognition treatment. The gain or loss on the original exchange must be recognized as of the date of the later disposition.
Example.
You used a panel truck in your house painting business. Your sister used a pickup truck in her landscaping business. In December 2007, you exchanged your panel truck plus $200 for your sister's pickup truck. At that time, the fair market value (FMV) of your panel truck was $7,000 and its adjusted basis was $6,000. The fair market value of your sister's pickup truck was $7,200 and its adjusted basis was $1,000. You realized a gain of $1,000 (the $7,200 fair market value of the pickup truck minus the $200 you paid minus the $6,000 adjusted basis of the panel truck). Your sister realized a gain of $6,200 (the $7,000 fair market value of your panel truck plus the $200 you paid minus the $1,000 adjusted basis of the pickup truck).
However, because this was a like-kind exchange, you recognized no gain. Your basis in the pickup truck was $6,200 (the $6,000 adjusted basis of the panel truck plus the $200 you paid). Your sister recognized gain only to the extent of the money she received, $200. Her basis in the panel truck was $1,000 (the $1,000 adjusted basis of the pickup truck minus the $200 received, plus the $200 gain recognized).
In 2008, you sold the pickup truck to a third party for $7,000. You sold it within 2 years after the exchange, so the exchange is disqualified from nonrecognition treatment. On your 2008 tax return, you must report your $1,000 gain on the 2007 exchange. You also report a loss on the sale of $200 (the adjusted basis of the pickup truck, $7,200 (its $6,200 basis plus the $1,000 gain recognized), minus the $7,000 realized from the sale).
In addition, your sister must report on her 2008 tax return the $6,000 balance of her gain on the 2007 exchange. Her adjusted basis in the panel truck is increased to $7,000 (its $1,000 basis plus the $6,000 gain recognized).
-
The holding of a put on the property.
-
The holding by another person of a right to acquire the property.
-
A short sale or other transaction.
-
Dispositions due to the death of either related person.
-
Involuntary conversions.
-
Dispositions if it is established to the satisfaction of the IRS that neither the exchange nor the disposition had as a main purpose the avoidance of federal income tax.
The following discussions describe other exchanges that may not be taxable.
Exchanges of partnership interests do not qualify as nontaxable exchanges of like-kind property. This applies regardless of whether they are general or limited partnership interests or are interests in the same partnership or different partnerships. However, under certain circumstances the exchange may be treated as a tax-free contribution of property to a partnership. See Publication 541, Partnerships.
An interest in a partnership that has a valid election to be excluded from being treated as a partnership for federal tax purposes is treated as an interest in each of the partnership assets and not as a partnership interest. See Publication 541.
Certain issues of U.S. Treasury obligations may be exchanged for certain other issues designated by the Secretary of the Treasury
with no gain or loss recognized on the exchange. See U.S. Treasury Bills, Notes, and Bonds under Interest Income in Publication 550 for more information on the tax treatment of income from these investments.
No gain or loss is recognized if you make any of the following exchanges.
-
A life insurance contract for another or for an endowment or annuity contract.
-
An endowment contract for an annuity contract or for another endowment contract providing for regular payments beginning at a date not later than the beginning date under the old contract.
-
One annuity contract for another if the insured or annuitant remains the same.
-
A portion of an annuity contract for a new annuity contract if the insured or annuitant remains the same.
If you realize a gain on the exchange of an endowment contract or annuity contract for a life insurance contract or an exchange of an annuity contract for an endowment contract, you must recognize the gain.
For information on transfers and rollovers of employer-provided annuities, see Publication 575, Pension and Annuity Income, or Publication 571, Tax-Sheltered Annuity Plans (403(b) Plans).
-
When you receive the distribution, the insurance company that issued the policy or contract is subject to a rehabilitation, conservatorship, insolvency, or similar state proceeding.
-
You withdraw all amounts to which you are entitled or, if less, the maximum permitted under the state proceeding.
-
You reinvest the distribution within 60 days after receipt in a single policy or contract issued by another insurance company or in a single custodial account.
-
You assign all rights to future distributions to the new issuer for investment in the new policy or contract if the distribution was restricted by the state proceeding.
-
You would have qualified under the nonrecognition or nontaxable transfer rules if you had exchanged the affected policy or contract for the new one.
-
Give to the issuer of the new policy or contract a statement that includes all the following information.
-
The gross amount of cash distributed.
-
The amount reinvested.
-
Your investment in the affected policy or contract on the date of the initial cash distribution.
-
-
Attach the following items to your timely filed tax return for the year of the initial distribution.
-
A statement titled “Election under Rev. Proc. 92-44” that includes the name of the issuer and the policy number (or similar identifying number) of the new policy or contract.
-
A copy of the statement given to the issuer of the new policy or contract.
-
If you transfer property to a corporation in exchange for stock in that corporation (other than nonqualified preferred stock, described later), and immediately afterward you are in control of the corporation, the exchange is usually not taxable. This rule applies to transfers by one person and to transfers by a group. It does not apply in the following situations.
-
The corporation is an investment company.
-
You transfer the property in a bankruptcy or similar proceeding in exchange for stock used to pay creditors.
-
The stock is received in exchange for the corporation's debt (other than a security) or for interest on the corporation's debt (including a security) that accrued while you held the debt.
Example 1.
You and Bill Jones buy property for $100,000. You both organize a corporation when the property has a fair market value of $300,000. You transfer the property to the corporation for all its authorized capital stock, which has a par value of $300,000. No gain is recognized by you, Bill, or the corporation.
Example 2.
You and Bill transfer the property with a basis of $100,000 to a corporation in exchange for stock with a fair market value of $300,000. This represents only 75% of each class of stock of the corporation. The other 25% was already issued to someone else. You and Bill recognize a taxable gain of $200,000 on the transaction.
Example.
You transfer property worth $35,000 and render services valued at $3,000 to a corporation in exchange for stock valued at $38,000. Right after the exchange, you own 85% of the outstanding stock. No gain is recognized on the exchange of property. However, you recognize ordinary income of $3,000 as payment for services you rendered to the corporation.
-
The holder has the right to require the issuer or a related person to redeem or buy the stock.
-
The issuer or a related person is required to redeem or buy the stock.
-
The issuer or a related person has the right to redeem or buy the stock and, on the issue date, it is more likely than not that the right will be exercised.
-
The dividend rate on the stock varies with reference to interest rates, commodity prices, or similar indices.
-
If the liabilities the corporation assumes are more than your adjusted basis in the property you transfer, gain is recognized up to the difference. However, for this purpose, exclude liabilities assumed that give rise to a deduction when paid, such as a trade account payable or interest.
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If there is no good business reason for the corporation to assume your liabilities, or if your main purpose in the exchange is to avoid federal income tax, the assumption is treated as if you received money in the amount of the liabilities.
Example.
You transfer property to a corporation for stock. Immediately after the transfer, you control the corporation. You also receive $10,000 in the exchange. Your adjusted basis in the transferred property is $20,000. The stock you receive has a fair market value (FMV) of $16,000. The corporation also assumes a $5,000 mortgage on the property for which you are personally liable. Gain is realized as follows.
FMV of stock received | $16,000 |
Cash received | 10,000 |
Liability assumed by corporation | 5,000 |
Total received | $31,000 |
Minus: Adjusted basis of property transferred | 20,000 |
Realized gain | $11,000 |
No gain or loss is recognized on a transfer of property from an individual to (or in trust for the benefit of) a spouse, or a former spouse if incident to divorce. This rule does not apply to the following.
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The recipient of the transfer is a nonresident alien.
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A transfer in trust to the extent the liabilities assumed and the liabilities on the property are more than the property's adjusted basis.
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A transfer of certain stock redemptions, as discussed in section 1.1041-2 of the regulations.
Any transfer of property to a spouse or former spouse on which gain or loss is not recognized is treated by the recipient as a gift and is not considered a sale or exchange. The recipient's basis in the property will be the same as the adjusted basis of the property to the giver immediately before the transfer. This carryover basis rule applies whether the adjusted basis of the transferred property is less than, equal to, or greater than either its fair market value at the time of transfer or any consideration paid by the recipient. This rule applies for determining loss as well as gain. Any gain recognized on a transfer in trust increases the basis.
For more information on transfers to a spouse, see Property Settlements in Publication 504, Divorced or Separated Individuals.
You can elect to roll over a capital gain from the sale of publicly traded securities (securities traded on an established securities market) into a specialized small business investment company (SSBIC). If you make this election, the gain from the sale is recognized only to the extent the amount realized is more than the cost of the SSBIC common stock or partnership interest bought during the 60-day period beginning on the date of the sale (and did not previously take into account on an earlier sale of publicly traded securities). You must reduce your basis in the SSBIC stock or partnership interest by the gain not recognized.
The gain that can be rolled over during any tax year is limited. For individuals, the limit is the lesser of the following amounts.
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$50,000 ($25,000 for married individuals filing separately).
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$500,000 ($250,000 for married individuals filing separately) minus the gain rolled over in all earlier tax years.
For more information, see chapter 4 of Publication 550.
For C corporations, the limit is the lesser of the following amounts.
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$250,000.
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$1 million minus the gain rolled over in all earlier tax years.
If you sell qualified small business stock, you may be able to roll over your gain tax free or exclude part of the gain from your income. Qualified small business stock is stock originally issued by a qualified small business after August 10, 1993, that meets all 7 tests listed in chapter 4 of Publication 550.
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Ten times your basis in all qualified stock of the issuer you sold or exchanged during the year.
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$10 million ($5 million for married individuals filing separately) minus the gain from the stock of the same issuer you used to figure your exclusion in earlier years.
You may qualify for a tax-free rollover of certain gains from the sale of qualified empowerment zone assets. This means that if you buy certain replacement property and make the election described in this section, you postpone part or all of the recognition of your gain.
You can make this election if you meet all the following tests.
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You hold a qualified empowerment zone asset for more than 1 year and sell it at a gain.
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Your gain from the sale is a capital gain.
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During the 60-day period beginning on the date of the sale, you buy a replacement qualified empowerment zone asset in the same zone as the asset sold.
Any part of the gain that is ordinary income cannot be postponed and must be recognized.
If you sold or exchanged a District of Columbia Enterprise Zone (DC Zone) asset that you held for more than 5 years, you may be able to exclude the “qualified capital gain.” The qualified gain is, generally, any gain recognized in a trade or business that you would otherwise include on Form 4797, Part I. This exclusion also applies to an interest in, or property of, certain businesses operating in the District of Columbia.
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DC Zone business stock.
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DC Zone partnership interest.
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DC Zone business property.
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Gain treated as ordinary income under section 1245.
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Gain treated as unrecaptured section 1250 gain. The section 1250 gain must be figured as if it applied to all depreciation rather than the additional depreciation.
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Gain attributable to real property, or an intangible asset, which is not an integral part of a DC Zone business.
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Gain from a related-party transaction. See Sales and Exchanges Between Related Persons in chapter 2.
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