13-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall

13-1©2009 Pearson Education, Inc. Publishing as Prentice Hall

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PROPERTY PROPERTY TRANSACTIONS: §1231 TRANSACTIONS: §1231 AND RECAPTUREAND RECAPTURE (1 of 2) (1 of 2)

History of §1231Overview of basic tax treatment

for §1231§1231 propertyInvoluntary conversionsProcedure for §1231 treatmentRecapture provisions of §1245

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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PROPERTY PROPERTY TRANSACTIONS: §1231 TRANSACTIONS: §1231 AND RECAPTUREAND RECAPTURE (2 of 2) (2 of 2)

Recapture provisions of §1250Additional recapture for corporationsRecapture provisions—other

applicationsTax planning considerationsCompliance and procedural

considerations


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History of §1231History of §1231(1 of 2)(1 of 2)

1930s, business assets were capital assets Owners retained assets that declined in value

so they could get ordinary deductions§1231-like rules to allow ordinary lossesPrior to 1987, 60% of LTCG excluded

Remaining 40% taxed at ordinary rates


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History of §1231History of §1231(2 of 2)(2 of 2)

TRA 1986 eliminated 60% exclusionReplaced with max 28% tax rate

JGTRRA 2003 reduced max rate to 15%5% if in 10% or 15% bracket


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Overview of Basic Tax Overview of Basic Tax Treatment for §1231Treatment for §1231

Net gainsNet lossesTax rate for net §1231 gain


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Net Gains

§1231 gains netted against §1231 losses

Net Gains treated as LTCGMay be ordinary due to look-back

rules


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Net Losses

Treated as ordinary loss5-year look-back rule

Any net §1231 gain ordinary to extent of any non-recaptured net §1231 losses from previous 5 years


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Tax Rate for Net §1231 Gain

Max rate 15%0% if in 10% or 15% tax bracket

Tax rate on unrecaptured §1250 property is 25%


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§1231 Property§1231 Property(1 of 2)(1 of 2)

§1231 property definedReal property or depreciable property

used in a trade or business for > 1 yearTimber, coal, livestock, and land with

unharvested cropsNon §1231 property

Musical composition, inventory, copyright, letters or memorandum


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§1231 Property§1231 Property(2 of 2)(2 of 2)

Real or depreciable property used in a trade or businessIf held for ≤ 1 year, not §1231

property and NOT a capital asset


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Involuntary ConversionsInvoluntary Conversions(1 of 2)(1 of 2)

CondemnationsGains and losses from condemned

§1231 property and non-personal condemned capital asset treated as §1231 gains and losses


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Involuntary ConversionsInvoluntary Conversions(2 of 2)(2 of 2)

Other involuntary conversionsNet gain from casualties and theft

treated as §1231 gainNet losses on §1231 property from

casualties and theft treated as ordinary income


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Procedure for §1231 Procedure for §1231 TreatmentTreatment (1 of 2) (1 of 2)

1. All non-personal casualty and theft gains and losses netted

If net loss, ordinary treatment If net gain, amount included in regular

§1231 netting2. Net all §1231 gains and losses

Include net gain from 1 Sale or exchange of §1231 property Condemnations of §1231 property


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Procedure for §1231 Procedure for §1231 TreatmentTreatment (2 of 2) (2 of 2)

3. Treatment of net gain or loss from 2

If netting results in net gain, gain treated as LTCG

Consider 5-yr look-back rule If netting results in net loss,

treated as ordinary loss


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Recapture Provisions of Recapture Provisions of §1245§1245

(1 of 2)(1 of 2)

Gain from disposition of §1245 property treated as ordinary to extent of depreciation taken

Purpose of §1245To recapture ordinary deductions as

ordinary income§1245 is a characterization provision


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(2 of 2)(2 of 2)

§1245 propertyDepreciable personal property

Not portion expensed under §179§197 intangibles subject to

amortizationPortion of real property expensed or

amortized under special provisionsNonresidential real estate depreciated

under ACRS rules


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Purpose of §1250Convert a portion of gain on sale of

certain depreciable real property into ordinary income when real property is sold or exchanged

Not applied to most real property placed into service after 1986

Unrecaptured §1250 gain taxed at 25%


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Additional Recapture for Additional Recapture for CorporationsCorporations

Additional recapture under §291Additional amount of §291 recapture

20% of difference between amount that would be recaptured if the property was §1245 property and the actual recapture amount under §1250

Actual recapture amount under §1250 usually $0


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Recapture Provisions—Recapture Provisions—Other ApplicationsOther Applications (1 of 5) (1 of 5)

Gifts of property subject to recaptureRecapture potential transfers to donee

Transfer of property subject to recapture at deathNo recaptureRecapture does not transfer to donee


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Charitable contributionsContribution of LTCG property

reduced by recapture amountLike-kind exchanges

Gain recognized ordinary to extent of depreciation recapture

Remaining recapture carries over to replacement property


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Involuntary conversionsGain recognized ordinary to extent of

depreciation recaptureInstallment sales

All gain subject to recapture recognized in year of sale

Excess gain reported under installment rules


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§179 expensing electionPortion recaptured if converted to

nonbusiness useConservation and land clearing

expendituresPortion may be recaptured as

ordinary income


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Intangible drilling costs and depletionPart of gain may be ordinary due to

recapture of IDCsGain on sale of depreciable property

between related partiesAll gain ordinary if property subject to

depreciation in hands of transferee


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Tax Planning Tax Planning ConsiderationsConsiderations

For non-corporate taxpayers, §1231 gains preferable to ordinary income

Corporate taxpayers after 1986, tax rates on ordinary income and §1231 gains the sameHowever, net §1231 gain can be used

to offset capital lossesAvoiding the recapture provisions


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Compliance and Compliance and Procedural Procedural

ConsiderationsConsiderations

Report §1231 gains and losses on Form 4797

Report gains recaptured on ordinary income on Form 4797

Report casualty or theft gain on Form 4684


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13-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall