Tax consequences of property transactions

Basis (cost, adjusted, gifted, inherited step-up), holding periods, short- and long-term capital gains rates, netting rules, Section 1231, 1245 and 1250 recapture, like-kind exchanges, installment sales, the principal residence exclusion and wash sales.

Internal Revenue Code Section 1031Internal Revenue Code Section 121Internal Revenue Code Section 1014

Practice question for this objective

Free sampleTax Planninghard

Owen, aged 66, has adjusted gross income of 400,000 dollars and owns undeveloped land held for twelve years with a fair market value of 500,000 dollars and an adjusted basis of 100,000 dollars. He wants the largest possible charitable deduction in the current year and is choosing between giving the land to a private non-operating foundation that he controls and giving it to a donor advised fund sponsored by a public charity. Ignore the 0.5 percent of adjusted gross income floor on itemised charitable contributions. Assume the ceiling for long-term capital gain property is 30 percent of adjusted gross income for a gift to a public charity and 20 percent for a gift to a private non-operating foundation, and that land is not qualified appreciated stock. Which comparison of the two routes is correct?

AThe foundation route allows 100,000 dollars this year and the donor advised fund route allows 120,000 dollars this year
BBoth routes allow 120,000 dollars this year, because a single 30 percent ceiling covers all long-term capital gain property
CThe foundation route allows 80,000 dollars this year and the donor advised fund route allows 500,000 dollars this year
DThe foundation route allows 80,000 dollars this year and the donor advised fund route allows 120,000 dollars this year Correct

Long-term capital gain property given to a private non-operating foundation is generally deductible at basis and capped at 20 percent of adjusted gross income. Each route needs the same two steps, valuation then ceiling, but the answers differ at both steps. For the private non-operating foundation, a gift of appreciated long-term capital gain property is reduced by the appreciation unless it is qualified appreciated stock, and land is not, so the gift is valued at the 100,000 dollar basis. The ceiling is then 20 percent of 400,000 dollars, which is 80,000 dollars, so 20,000 dollars of the basis carries forward. For the donor advised fund, the sponsoring organisation is a public charity, so the land keeps its 500,000 dollar fair market value and the 400,000 dollars of appreciation is never taxed to Owen. The ceiling is 30 percent of 400,000 dollars, which is 120,000 dollars, and the remaining 380,000 dollars carries forward for up to five years. The fund route therefore produces 40,000 dollars more deduction this year and a far larger carryforward, at the cost of Owen giving up the control he would keep with his own foundation.

Why A is wrong: This correctly reduces the foundation gift to the 100,000 dollar basis but then forgets to apply the lower percentage ceiling that also governs gifts to a private non-operating foundation, overstating the first figure by 20,000 dollars.

Why B is wrong: The ceiling depends on the type of recipient as well as the type of property, so a gift to a private non-operating foundation is not governed by the ceiling that applies to a public charity, and the valuation rules also differ between the two routes.

Why C is wrong: The foundation figure is right, but the second figure applies fair market value with no percentage ceiling at all; a sponsoring public charity does not lift the ceiling, so the current deduction is capped and the balance carries forward.

Why D is correct: The foundation gift is cut to the 100,000 dollar basis and then capped at 20 percent of 400,000 dollars, giving 80,000 dollars, while the fund gift keeps fair market value and is capped at 30 percent of 400,000 dollars, giving 120,000 dollars.

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Exam traps in Tax Planning

Answers that look right on this material and are not. Each one is a distractor from a different question in the CFP bank for this domain.

60,000 dollars, being the full fair market value of the shares on the date of the transfer
Why it is wrong: Fair market value is available only where the property would have produced long-term capital gain on a sale; an eight month holding period fails that test, so the 40,000 dollars of appreciation is stripped out of the deduction.
The entire 210,000 dollar gain is long term capital gain taxed at the usual capital gains rates, since she claimed straight line depreciation throughout
Why it is wrong: Straight line depreciation does avoid ordinary income recapture on real property, which makes this reasoning half right. The depreciation still creates unrecaptured Section 1250 gain, which is taxed at a maximum rate above the usual long term rates.
He deducts 3,000 dollars this year and carries 29,000 dollars forward with no expiry date
Why it is wrong: This applies the annual limit correctly but never nets the 6,000 dollars of realised gains against the losses, so the carryforward is overstated by exactly the amount of the gains.

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