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Chapter 9- Character of Gaino 2 types Ordinary Gain Capital Gain – gets special tax treatment- Adjusted Basis – equal to the initial basis, plus or minus the cumulative effects of the adjustmentso Adjusted Basis = Initial Basis + Increases in Basis – Decreases in Basiso 2 Categories of Increases in Basis1. Additional Investment in the Asset- Capital Invested – includes improvement to an asset that enlarge the asset or extend its useful lifeo Eg) adding a room onto a building or putting a on a new roof- Cost of Protecting Ownership- Special property tax assessments for local benefitso Eg) widening the street in front of a building2. Reinvestment of Income- Income taxed to owners of conduit entitieso 3 Categories of Decreases in Basis Annual Tax Deductions Resulting in a Reduction of Tax Liability- Depreciation, depletion, and amortizationo Must be reduced by the larger of the depreciation allowable, or the amount actually deducted on the taxpayer’s return- Losses from conduit entities Dispositions of All or Part of Interest in an Asset- Casualty loss- Sale or gift of part of an asset Capital Recovery Resulting from Excluded Income- Nontaxable dividends- Easementso Insurance premiums are current liabilities and do not affect basis- Conduit Entity Adjusted Basis – use for investment in an S corp or partnershipo 3 Increases in Basis Additional capital invested during the year Taxable and nontaxable income allocated to the owner for the current year Liability Adjustment- A partner’s share of any increase in liabilities related to the partnershipo 4 Decreases in Basis Cash received from the entity  Property received from the entity:- If a partnership, subtract the partnership’s basis for the property- If an S corporation, subtract the fair market value of the property Deductions, losses , and nondeductible expenses allocated to the owner for the current year Liability Adjustment- A partner’s share of any decrease in liabilities related to the partnership- Property Dispositions o Amount Realized – the amount received from the sale, less the expenses incurred to make the saleo Amount Recognized – the amount of gain or loss that will be included in the current year’s taxable income calculationo Long-term Capital Gains for Individuals Taxed at a maximum 20% rateo Net Capital Loss Deductions for Individuals Limited to $3,000 per year Can be carried until the full loss amount is recoveredo Real Property Tax Year – in the year real estate is acquired, property taxes must be allocated between the buyer and the seller.  The taxes should be allocated according to the number of days each owns the property during the period covered by the tax assessment- Bargain Purchase – buying an asset for less than fair market valueo Usually only occurs in related party transactionso The difference between the selling price and fair market value is recognized as income Amount of the bargain is added to basiso Basis = Cost + Income Reported on the Asset- Multiple Asset Purchase – when more than one asset is bought for a single priceo The cost must be allocated to the individual assets in proportion to their fair market value on the date purchased Must be done for depreciation and disposition on each individual asset- Purchase of a Businesso Purchase the assets of the business Results in a direct transfer of ownership of the assets The cost must be allocated to each individual asseto Purchase of corporate stock Ownership is in the entity, not directly of the assets themselves- Basis of Property Acquired by Gifto Gift – a transfer of property proceeding from a “detached and disinterested generosity … out of affection, respect, admiration, charity, or like impulses.”o Neither the donor nor the done recognizes any income or pays income tax on the transfer of gift propertyo Gift Basis  If Property was acquired before 1921: Basis = FMV If FMV(date of gift) > donor’s basis: Basis = donor’s carryover basis- If gift tax is paid, it is paid by the donor on net appreciation in value and ADDED to donee’s basis If FMV (date of gift) < donor’s basis: use split basis rule- Split Basis Rule – basis depends on sale price of the asset upon dispositiono Based on whether it is sold for a gain or loss- If sold for a gain, use donor’s basis- If sold for a loss, use FMV on the date of the gift- If sold for an amount between FMV and donor’s basis, use the selling price as basiso There is not gain or loss- Holding Period o One yearo Follows basis If using donor’s basis, the holding period includes the period of time the property was owned by both the donor and the donee If using FMV, holding period starts at the date of the gift- Property acquired from a decedent - Inheritedo Basis = FMV date of death Automatic step-up in basis to FMVo Primary valuation date – the date of deatho The holding period is always long term for property acquired from a decedento Alternate Valuation Date – six months after the date of the decedent’s death Basis = FMV 6 months after death is executor of estate elects the alternate valuation date Must meet 2 criteria to do this: need both- Value of the total estate is less than the primary valuation date- Total estate tax liability is less than the primary valuation date If property is distributed before the end of the 6 month period, the basis of that property is the distribution date. The basis of the rest of the estate is still the alternate valuation date.o Death Bed Provision – if you give away an asset and then have it willed back to you and the person dies within 6 months, you do not get the step-up in basis- Personal Use Property Converted to Business Useo If FMV > than its adjusted basis (date business use begins): general basis rules apply Use adjusted basiso If FMV < adjusted basis Use FMV (date of conversion)o Generally, always used the lesser of the 2o Basis for Gain/Initial Basis – use costo Basis for Depreciation and Losses – use FMV (date of conversion)- Basis in Securities o Initial basis is the cost paid to acquire the security plus commission feeso Sale of Stock Formula Amount Realized- Commission/Expenses- Adjusted BasisRealized Gain/Loss(Tax Laws)Recognized Gain/Losso Stock dividends Nontaxable- There is no income until the shares are sold- If the shares of all of the same classo Basis per share = Original cost/total

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YSU ACCT 4813 - Chapter 9

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