| Pub. 544, Sales and Other Dispositions of Assets |
2004 Tax Year |
Chapter 1 - Gain or Loss
This is archived information that pertains only to the 2004 Tax Year. If you
are looking for information for the current tax year, go to the Tax Prep Help Area.
Topics - This chapter discusses:
Useful Items - You may want to see:
Publication
-
523
Selling Your Home
-
537
Installment Sales
-
547
Casualties, Disasters, and Thefts
-
550
Investment Income and Expenses
-
551
Basis of Assets
-
908
Bankruptcy Tax Guide
-
954
Tax Incentives for Distressed Communities
Form (and Instructions)
-
Schedule D (Form 1040)
Capital Gains and Losses
-
1040
U.S. Individual Income Tax Return
-
1040X
Amended U.S. Individual Income Tax Return
-
1099-A
Acquisition or Abandonment of Secured Property
-
1099-C
Cancellation of Debt
-
4797
Sales of Business Property
-
8824
Like-Kind Exchanges
See chapter 5 for information about getting publications and forms.
The following discussions describe the kinds of transactions that are treated as sales or exchanges and explain how to figure
gain or loss. 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.
Sale or lease.
Some agreements that seem to be leases may really be conditional sales contracts. The intention of the parties to
the agreement can help you
distinguish between a sale and a lease.
There is no test or group of tests to prove what the parties intended when they made the agreement. You should consider
each agreement based on its
own facts and circumstances. For more information on leases, see chapter 4 in Publication 535, Business Expenses.
Cancellation of a lease.
Payments received by a tenant for the cancellation of a lease are treated as an amount realized from the sale of property.
Payments received by a
landlord (lessor) for the cancellation of a lease are essentially a substitute for rental payments and are taxed as ordinary
income in the year in
which they are received.
Copyright.
Payments you receive for granting the exclusive use of (or right to exploit) a copyright throughout its life in a
particular medium are treated as
received from the sale of property. It does not matter if the payments are a fixed amount or a percentage of receipts from
the sale, performance,
exhibition, or publication of the copyrighted work, or an amount based on the number of copies sold, performances given, or
exhibitions made. Nor does
it matter if the payments are made over the same period as that covering the grantee's use of the copyrighted work.
If the copyright was used in your trade or business and you held it longer than a year, the gain or loss may be a
section 1231 gain or loss. For
more information, see Section 1231 Gains and Losses in chapter 3.
Easement.
The amount received for granting an easement is subtracted from the basis of the property. If only a specific part
of the entire tract of property
is affected by the easement, only the basis of that part is reduced by the amount received. If it is impossible or impractical
to separate the basis
of the part of the property on which the easement is granted, the basis of the whole property is reduced by the amount received.
Any amount received that is more than the basis to be reduced is a taxable gain. The transaction is reported as a
sale of property.
If you transfer a perpetual easement for consideration and do not keep any beneficial interest in the part of the
property affected by the
easement, the transaction will be treated as a sale of property. However, if you make a qualified conservation contribution
of a restriction or
easement granted in perpetuity, it is treated as a charitable contribution and not a sale or exchange, even though you keep
a beneficial interest in
the property affected by the easement.
If you grant an easement on your property (for example, a right-of-way over it) under condemnation or threat of condemnation,
you are considered to
have made a forced sale, even though you keep the legal title. Although you figure gain or loss on the easement in the same
way as a sale of property,
the gain or loss is treated as a gain or loss from a condemnation. See Gain or Loss From Condemnations, later.
Property transferred to satisfy debt.
A transfer of property to satisfy a debt is an exchange.
Note's maturity date extended.
The extension of a note's maturity date is not treated as an exchange of an outstanding note for a new and different
note. Also, it is not
considered a closed and completed transaction that would result in a gain or loss. However, an extension will be treated as
a taxable exchange of the
outstanding note for a new and materially different note if the changes in the terms of the note are significant. Each case
must be determined by its
own facts.
Transfer on death.
The transfer of property to an executor or administrator on the death of an individual is not a sale or exchange.
Bankruptcy.
Generally, a transfer of property from a debtor to a bankruptcy estate is not treated as a sale or exchange. For more
information, see The
Bankruptcy Estate in Publication 908.
Gain or Loss From Sales and Exchanges
Gain or loss is usually realized 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. |
Basis.
You must know the basis of your property to determine whether you have a gain or loss from its sale or other disposition.
The basis of property you
buy is usually its cost. However, if you acquired the property by gift, inheritance, or in some way other than buying it,
you must use a basis other
than its cost. See Basis Other Than Cost in Publication 551.
Adjusted basis.
The adjusted basis of property is your original cost or other basis plus certain additions and minus certain deductions,
such as depreciation and
casualty losses. See Adjusted Basis in Publication 551. In determining gain or loss, the costs of transferring property to a new owner,
such as selling expenses, are added to the adjusted basis of the property.
Amount realized.
The amount you realize from a sale or exchange is the total of all money you receive plus the fair market value of
all property or services you
receive. The amount you realize also includes any of your liabilities that were assumed by the buyer and any liabilities to
which the property you
transferred is subject, such as real estate taxes or a mortgage.
If the liabilities relate to an exchange of multiple properties, see Treatment of liabilities under Multiple Property Exchanges,
later.
Fair market value.
Fair market value (FMV) is the price at which the property would change hands between a buyer and a seller when both
have reasonable knowledge of
all the necessary facts and neither has to buy or sell. If parties with adverse interests place a value on property in an
arm's-length transaction,
that is strong evidence of FMV. If there is a stated price for services, this price is treated as the FMV unless there is
evidence to the contrary.
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 recognized.
Your gain or loss realized from a sale or exchange of property is usually a recognized gain or loss for tax purposes.
Recognized gains must be
included in gross income. Recognized losses are deductible from gross income. However, your gain or loss realized from certain
exchanges of property
is not recognized for tax purposes. See Nontaxable Exchanges, later. Also, a loss from the sale or other disposition of property held for
personal use is not deductible, except in the case of a casualty or theft.
Interest in property.
The amount you realize from the disposition of a life interest in property, an interest in property for a set number
of years, or an income
interest in a trust is a recognized gain under certain circumstances. If you received the interest as a gift, inheritance,
or in a transfer from a
spouse or former spouse incident to a divorce, the amount realized is a recognized gain. Your basis in the property is disregarded.
This rule does not
apply if all interests in the property are disposed of at the same time.
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.
Canceling a sale of real property.
If you sell real property under a sales contract that allows the buyer to return the property for a full refund and
the buyer does so, you may not
have to recognize gain or loss on the sale. If the buyer returns the property in the year of sale, no gain or loss is recognized.
This cancellation of
the sale in the same year it occurred places both you and the buyer in the same positions you were in before the sale. If
the buyer returns the
property in a later tax year, however, you must recognize gain (or loss, if allowed) in the year of the sale. When the property
is returned in a later
year, you acquire a new basis in the property. That basis is equal to the amount you pay to the buyer.
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.
Bargain sales to charity.
A bargain sale of property to a charitable organization is partly a sale or exchange and partly a charitable contribution.
If a charitable
deduction for the contribution is allowable, you must allocate your adjusted basis in the property between the part sold and
the part contributed
based on the fair market value of each. The adjusted basis of the part sold is figured as follows.
Adjusted basis of
entire property X |
Amount realized
(fair market value of part sold) |
| |
Fair market value of entire
property |
Based on this allocation rule, you will have a gain even if the amount realized is not more than your adjusted basis
in the property. This
allocation rule does not apply if a charitable contribution deduction is not allowable.
See Publication 526, Charitable Contributions, for information on figuring your charitable contribution.
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.
Property Used Partly for Business or Rental
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.
Property Changed to Business or Rental Use
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.
-
Use the lesser of the property's adjusted basis or fair market value at the time of the change.
-
Add to (1) the cost of any improvements and other increases to basis since the change.
-
Subtract from (2) depreciation and any other decreases to basis since the change.
-
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.
Gain.
If you have a gain on the sale, you generally must recognize the full amount of the gain. You figure the gain by subtracting
your adjusted basis
from your amount realized, as described earlier.
You may be able to exclude all or part of the gain if you owned and lived in the property as your main home for at
least 2 years during the 5-year
period ending on the date of sale. For more information, see Publication 523.
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. Cancellation of debt.
If the abandoned property secures a debt for which you are personally liable and the debt is canceled, you will realize
ordinary income equal to
the canceled debt. This income is separate from any loss realized from abandonment of the property. Report income from cancellation
of a debt related
to a business or rental activity as business or rental income. Report income from cancellation of a nonbusiness debt as other
income on Form 1040,
line 21.
However, income from cancellation of debt is not taxed if any of the following conditions apply.
-
The cancellation is intended as a gift.
-
The debt is qualified farm debt (see chapter 3 of Publication 225, Farmer's Tax Guide).
-
The debt is qualified real property business debt (see chapter 5 of Publication 334, Tax Guide for Small Business).
-
You are insolvent or bankrupt (see Publication 908).
Forms 1099-A and 1099-C.
If your abandoned property secures a loan and the lender knows the property has been abandoned, the lender should
send you Form 1099-A showing
information you need to figure your loss from the abandonment. However, if your debt is canceled and the lender must file
Form 1099-C, the lender may
include the information about the abandonment on that form instead of on Form 1099-A. The lender must file Form 1099-C and
send you a copy if the
amount of debt canceled is $600 or more and the lender is a financial institution, credit union, federal government agency,
or any organization that
has a significant trade or business of lending money. For abandonments of property and debt cancellations occurring in 2004,
these forms should be
sent to you by January 31, 2005.
Foreclosures and Repossessions
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.
Buyer's (borrower's) gain or loss.
You figure and report gain or loss from a foreclosure or repossession in the same way as gain or loss from a sale
or exchange. The gain or loss is
the difference between your adjusted basis in the transferred property and the amount realized. See Gain or Loss From Sales and Exchanges,
earlier.
You can use Table 1-2 to figure your gain or loss from a foreclosure or repossession.
Amount realized on a nonrecourse debt.
If you are not personally liable for repaying the debt (nonrecourse debt) secured by the transferred property, the
amount you realize includes the
full debt canceled by the transfer. The full canceled debt is included even if the fair market value of the property is less
than the canceled debt.
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), 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.
Amount realized on a recourse debt.
If you are personally liable for the debt (recourse debt), the amount realized on the foreclosure or repossession
does not include the canceled
debt that is your income from cancellation of debt. However, if the fair market value of the transferred property is less
than the canceled debt, the
amount realized includes the canceled debt up to the fair market value of the property. You are treated as receiving ordinary
income from the canceled
debt for the part of the debt that is more than the fair market value. See Cancellation of debt, later.
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. That income is $10,000 ($180,000 - $170,000). This is the part of
the canceled debt not
included in the amount realized.
Seller's (lender's) gain or loss on repossession.
If you finance a buyer's purchase of property and later acquire an interest in it through foreclosure or repossession,
you may have a gain or loss
on the acquisition. For more information, see Repossession in Publication 537.
Table 1-2. Worksheet for Foreclosures and Repossessions (Keep for your records)
Part 1. Figure your income from cancellation of debt. (Note: If you are
not personally liable for the debt, you do not have income
from cancellation of debt. Skip Part 1 and go to Part 2.) |
|
| 1. Enter the amount of debt canceled by the transfer of property |
|
| 2. Enter the fair market value of the transferred property |
|
3.Income from cancellation of debt.* Subtract line 2 from line 1. If
less than zero, enter zero |
|
| Part 2. Figure your gain or loss from foreclosure or repossession. |
|
4. Enter the smaller of line 1 or line 2. Also include any proceeds you
received from the foreclosure sale. (If you are not personally liable
for the debt, enter the amount of debt canceled by the transfer of
property.) |
|
| 5. Enter the adjusted basis of the transferred property |
|
6. Gain or loss from foreclosure or repossession. Subtract line 5
from line 4 |
|
| * The income may not be taxable. See Cancellation of debt. |
Cancellation of debt.
If property that is repossessed or foreclosed on secures a debt for which you are personally liable (recourse debt),
you generally must report as
ordinary income the amount by which the canceled debt is more than the fair market value of the property. This income is separate
from any gain or
loss realized from the foreclosure or repossession. Report the income from cancellation of a debt related to a business or
rental activity as business
or rental income. Report the income from cancellation of a nonbusiness debt as other income on Form 1040, line 21.
You can use Table 1-2 to figure your income from cancellation of debt.
However, income from cancellation of debt is not taxed if any of the following conditions apply.
-
The cancellation is intended as a gift.
-
The debt is qualified farm debt (see chapter 3 of Publication 225, Farmer's Tax Guide).
-
The debt is qualified real property business debt (see chapter 5 of Publication 334, Tax Guide for Small Business).
-
You are insolvent or bankrupt (see Publication 908).
Forms 1099-A and 1099-C.
A lender who acquires an interest in your property in a foreclosure or repossession should send you Form 1099-A showing
the information you need to
figure your gain or loss. However, if the lender also cancels part of your debt and must file Form 1099-C, the lender may
include the information
about the foreclosure or repossession on that form instead of on Form 1099-A. The lender must file Form 1099-C and send you
a copy if the amount of
debt canceled is $600 or more and the lender is a financial institution, credit union, federal government agency, or any organization
that has a
significant trade or business of lending money. For foreclosures or repossessions occurring in 2004, these forms should be
sent to you by January 31,
2005.
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. 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 choose 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. Threat of condemnation.
A threat of condemnation exists if a representative of a government body or a public official authorized to acquire
property for public use informs
you that the government body or official has decided to acquire your property. You must have reasonable grounds to believe
that, if you do not sell
voluntarily, your property will be condemned.
The sale of your property to someone other than the condemning authority will also qualify as an involuntary conversion,
provided you have
reasonable grounds to believe that your property will be condemned. If the buyer of this property knows at the time of purchase
that it will be
condemned and sells it to the condemning authority, this sale also qualifies as an involuntary conversion.
Reports of condemnation.
A threat of condemnation exists if you learn of a decision to acquire your property for public use through a report
in a newspaper or other news
medium, and this report is confirmed by a representative of the government body or public official involved. You must have
reasonable grounds to
believe that they will take necessary steps to condemn your property if you do not sell voluntarily. If you relied on oral
statements made by a
government representative or public official, the Internal Revenue Service may ask you to get written confirmation of the
statements.
Example.
Your property lies along public utility lines. The utility company has the authority to condemn your property. The company
informs you that it
intends to acquire your property by negotiation or condemnation. A threat of condemnation exists when you receive the notice.
Related property voluntarily sold.
A voluntary sale of your property may be treated as a forced sale that qualifies as an involuntary conversion if the
property had a substantial
economic relationship to property of yours that was condemned. A substantial economic relationship exists if together the
properties were one economic
unit. You also must show that the condemned property could not reasonably or adequately be replaced. You can choose to postpone
reporting the gain by
buying replacement property. See Postponement of Gain, later.
Gain or Loss From Condemnations
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.
Main home condemned.
If you have a gain because your main home is condemned, you generally can exclude the gain from your income as if
you had sold or exchanged your
home. You may be able to exclude up to $250,000 of the gain (up to $500,000 if married filing jointly). For information on
this exclusion, see
Publication 523. If your gain is more than you can exclude but you buy replacement property, you may be able to postpone reporting
the rest of the
gain. See Postponement of Gain, later.
Table 1-3. Worksheet for Condemnations (Keep for your records)
Part 1. Gain from severance damages.
(If you did not receive severance damages, skip Part 1 and go to Part 2.) |
|
|
1. |
Enter 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 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. 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 |
|
|
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.) |
|
|
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* |
|
|
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 |
|
|
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- |
|
| *If the condemned property was your main home, subtract from this total the gain you excluded from your income and enter the
result. |
Condemnation award.
A condemnation award is the money you are paid or the value of other property you receive for your condemned property.
The award is also the amount
you are paid for the sale of your property under threat of condemnation.
Payment of your debts.
Amounts taken out of the award to pay your debts are considered paid to you. Amounts the government pays directly
to the holder of a mortgage or
lien against your property are part of your award, even if the debt attaches to the property and is not your personal liability.
Example.
The state condemned your property for public use. The award was set at $200,000. The state paid you only $148,000 because
it paid $50,000 to your
mortgage holder and $2,000 accrued real estate taxes. You are considered to have received the entire $200,000 as a condemnation
award.
Interest on award.
If the condemning authority pays you interest for its delay in paying your award, it is not part of the condemnation
award. You must report the
interest separately as ordinary income.
Payments to relocate.
Payments you receive to relocate and replace housing because you have been displaced from your home, business, or
farm as a result of federal or
federally assisted programs are not part of the condemnation award. Do not include them in your income. Replacement housing
payments used to buy new
property are included in the property's basis as part of your cost.
Net condemnation award.
A net condemnation award is the total award you received, or are considered to have received, for the condemned property
minus your expenses of
obtaining the award. If only a part of your property was condemned, you also must reduce the award by any special assessment
levied against the part
of the property you retain. This is discussed later under Special assessment taken out of award.
Severance damages.
Severance damages are not part of the award paid for the property condemned. They are paid to you if part of your
property is condemned and the
value of the part you keep is decreased because of the condemnation.
For example, you may receive severance damages if your property is subject to flooding because you sell flowage easement
rights (the condemned
property) under threat of condemnation. Severance damages also may be given to you if, because part of your property is condemned
for a highway, you
must replace fences, dig new wells or ditches, or plant trees to restore your remaining property to the same usefulness it
had before the
condemnation.
The contracting parties should agree on the specific amount of severance damages in writing. If this is not done,
all proceeds from the condemning
authority are considered awarded for your condemned property.
You cannot make a completely new allocation of the total award after the transaction is completed. However, you can
show how much of the award both
parties intended for severance damages. The severance damages part of the award is determined from all the facts and circumstances.
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.
Treatment of severance damages.
Your net severance damages are treated as the amount realized from an involuntary conversion of the remaining part
of your property. Use them to
reduce the basis of the remaining property. If the amount of severance damages is based on damage to a specific part of the
property you kept, reduce
the basis of only that part by the net severance damages.
If your net severance damages are more than the basis of your retained property, you have a gain. You may be able
to postpone reporting the gain.
See Postponement of Gain, later.
You can use Part 1 of Table 1-3 to figure any gain from severance damages and to refigure the adjusted basis of the remaining
part of
your property.
Net severance damages.
To figure your net severance damages, you first must reduce your severance damages by your expenses in obtaining the
damages. You then reduce them
by any special assessment (described later) levied against the remaining part of the property and taken out of the award by
the condemning authority.
The balance is your net severance damages.
Expenses of obtaining a condemnation award and severance damages.
Subtract the expenses of obtaining a condemnation award, such as legal, engineering, and appraisal fees, from the
total award. Also, subtract the
expenses of obtaining severance damages, that may include similar expenses, from the severance damages paid to you. If you
cannot determine which part
of your expenses is for each part of the condemnation proceeds, you must make a proportionate allocation.
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.
Special assessment taken out of award.
When only part of your property is condemned, a special assessment levied against the remaining property may be taken
out of your condemnation
award. An assessment may be levied if the remaining part of your property benefited by the improvement resulting from the
condemnation. Examples of
improvements that may cause a special assessment are widening a street and installing a sewer.
To figure your net condemnation award, you generally reduce the award by the assessment taken out of the 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 taken out).
If the $700 special assessment were not taken 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.
Severance damages received.
If severance damages are included in the condemnation proceeds, the special assessment taken out is first used to
reduce the severance damages. Any
balance of the special assessment is used to reduce the condemnation award.
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 taken 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.
Part business or rental.
If you used part of your condemned property as your home and part as business or rental property, treat each part
as a separate property. Figure
your gain or loss separately because gain or loss on each part may be treated differently.
Some examples of this type of property are a building in which you live and operate a grocery, and a building in which
you live on the first floor
and rent out the second floor.
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.
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.
Money or unlike property received.
You ordinarily must report the gain if you receive money or unlike property. You can choose to postpone reporting
the gain if you buy property that
is similar or related in service or use to the condemned property within the replacement period, discussed later. You also
can choose to postpone
reporting the gain if you buy a controlling interest (at least 80%) in a corporation owning property that is similar or related
in service or use to
the condemned property. See Controlling interest in a corporation, later.
To postpone reporting all the gain, you must buy replacement property costing at least as much as the amount realized
for the condemned property.
If the cost of the replacement property is less than the amount realized, you must report the gain up to the unspent part
of the amount realized.
The basis of the replacement property is its cost, reduced by the postponed gain. Also, if your replacement property
is stock in a corporation that
owns property similar or related in service or use, the corporation generally will reduce its basis in its assets by the amount
by which you reduce
your basis in the stock. See Controlling interest in a corporation, later.
You can use Part 3 of Table 1-3 to figure the gain you must report and your postponed gain.
Postponing gain on severance damages.
If you received severance damages for part of your property because another part was condemned and you buy replacement
property, you can choose to
postpone reporting gain. See Treatment of severance damages, earlier. You can postpone reporting all your gain if the replacement property
costs at least as much as your net severance damages plus your net condemnation award (if resulting in gain).
You also can make this choice if you spend the severance damages, together with other money you received for the condemned
property (if resulting
in gain), to acquire nearby property that will allow you to continue your business. If suitable nearby property is not available
and you are forced to
sell the remaining property and relocate in order to continue your business, see Postponing gain on the sale of related property, next.
If you restore the remaining property to its former usefulness, you can treat the cost of restoring it as the cost
of replacement property.
Postponing gain on the sale of related property.
If you sell property that is related to the condemned property and then buy replacement property, you can choose to
postpone reporting gain on the
sale. You must meet the requirements explained earlier under Related property voluntarily sold. You can postpone reporting all your gain if
the replacement property costs at least as much as the amount realized from the sale plus your net condemnation award (if
resulting in gain) plus your
net severance damages, if any (if resulting in gain).
Buying replacement property from a related person.
Certain taxpayers cannot postpone reporting gain from a condemnation if they buy the replacement property from a related
person. For information on
related persons, see Nondeductible Loss under Sales and Exchanges Between Related Persons in chapter 2.
This rule applies to the following taxpayers.
-
C corporations.
-
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.
For taxpayers described in (3) above, gains cannot be offset with any losses when determining whether the total gain
is more than $100,000. If the
property is owned by a partnership, the $100,000 limit applies to the partnership and each partner. If the property is owned
by an S corporation, the
$100,000 limit applies to the S corporation and each shareholder.
Exception.
This rule does not apply if the related person acquired the property from an unrelated person within the replacement
period.
Advance payment.
If you pay a contractor in advance to build your replacement property, you have not bought replacement property unless
it is finished before the
end of the replacement period (discussed later).
Replacement property.
To postpone reporting gain, you must buy replacement property for the specific purpose of replacing your condemned
property. You do not have to use
the actual funds from the condemnation award to acquire the replacement property. Property you acquire by gift or inheritance
does not qualify as
replacement property.
Similar or related in service or use.
Your replacement property must be similar or related in service or use to the property it replaces.
If the condemned property is real property you held for use in your trade or business or for investment (other than
property held mainly for sale),
but your replacement property is not similar or related in service or use, it will be treated as such if it is like-kind property
to be held for use
in a trade or business or for investment. For a discussion of like-kind property, see Like-Kind Property under Like-Kind Exchanges,
later.
Owner-user.
If you are an owner-user, similar or related in service or use means that replacement property must function in the
same way as the property it
replaces.
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.
Owner-investor.
If you are an owner-investor, similar or related in service or use means that any replacement property must have the
same relationship of services
or uses to you as the property it replaces. You decide this by determining all the following information.
-
Whether the properties are of similar service to you.
-
The nature of the business risks connected with the properties.
-
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.
-
Your management activities.
-
The amount and kind of services you provide to your tenants.
-
The nature of your business risks connected with the properties.
Leasehold replaced with fee simple property.
Fee simple property you will use in your trade or business or for investment can qualify as replacement property that
is similar or related in
service or use to a condemned leasehold if you use it in the same business and for the identical purpose as the condemned
leasehold.
A fee simple property interest generally is a property interest that entitles the owner to the entire property with
unconditional power to dispose
of it during his or her lifetime. A leasehold is property held under a lease, usually for a term of years.
Outdoor advertising display replaced with real property.
You can choose to treat an outdoor advertising display as real property. If you make this choice and you replace the
display with real property in
which you hold a different kind of interest, your replacement property can qualify as like-kind property. For example, real
property bought to replace
a destroyed billboard and leased property on which the billboard was located qualifies as property of a like kind.
You can make this choice only if you did not claim a section 179 deduction for the display. You cannot cancel this
choice unless you get the
consent of the Internal Revenue Service.
An outdoor advertising display is a sign or device rigidly assembled and permanently attached to the ground, a building,
or any other permanent
structure used to display a commercial or other advertisement to the public.
Substituting replacement property.
Once you designate certain property as replacement property on your tax return, you cannot substitute other qualified
property. But, if your
previously designated replacement property does not qualify, you can substitute qualified property if you acquire it within
the replacement period.
Controlling interest in a corporation.
You can replace property by acquiring a controlling interest in a corporation that owns property similar or related
in service or use to your
condemned property. You have controlling interest if you own stock having at least 80% of the combined voting power of all
classes of voting stock and
at least 80% of the total number of shares of all other classes of stock.
Basis adjustment to corporation's property.
The basis of property held by the corporation at the time you acquired control must be reduced by your postponed gain,
if any. You are not required
to reduce the adjusted bases of the corporation's properties below your adjusted basis in the corporation's stock (determined
after reduction by your
postponed gain).
Allocate this reduction to the following classes of property in the order shown below.
-
Property that is similar or related in service or use to the condemned property.
-
Depreciable property not reduced in (1).
-
All other property.
If two or more properties fall in the same class, allocate the reduction to each property in proportion to the adjusted bases
of all the
properties in that class. The reduced basis of any single property cannot be less than zero.
Main home replaced.
If your gain from a condemnation of your main home is more than you can exclude from your income (see Main home condemned under
Gain or Loss From Condemnations, earlier), you can postpone reporting the rest of the gain by buying replacement property that is similar
or related in service or use. To postpone reporting all the gain, the replacement property must cost at least as much as the
amount realized from the
condemnation minus the excluded gain.
You must reduce the basis of your replacement property by the postponed gain. Also, if you postpone reporting any
part of your gain under these
rules, you are treated as having owned and used the replacement property as your main home for the period you owned and used
the condemned property as
your main home.
Replacement period.
To postpone reporting your gain from a condemnation, you must buy replacement property within a certain period of
time. This is the replacement
period.
The replacement period for a condemnation begins on the earlier of the following dates.
The replacement period ends 2 years after the end of the first tax year in which any part of the gain on the condemnation
is realized.
If real property held for use in a trade or business or for investment (not including property held primarily for
sale) is condemned, the
replacement period ends 3 years after the end of the first tax year in which any part of the gain on the condemnation is realized.
However, this
3-year replacement period cannot be used if you replace the condemned property by acquiring control of a corporation owning
property that is similar
or related in service or use.
New York Liberty Zone property condemned.
If property in the New York Liberty Zone was condemned as a result of the September 11, 2001, terrorist attacks, the
replacement period ends 5
years after the end of the first tax year in which any part of the gain on the condemnation is realized. This 5-year replacement
period applies only
if substantially all of the use of the replacement property is in New York City.
Determining when gain is realized.
If you are a cash basis taxpayer, you realize gain when you receive payments that are more than your basis in the
property. If the condemning
authority makes deposits with the court, you realize gain when you withdraw (or have the right to withdraw) amounts that are
more than your basis.
This applies even if the amounts received are only partial or advance payments and the full award has not yet been
determined. A replacement will
be too late if you wait for a final determination that does not take place in the applicable replacement period after you
first realize gain.
For accrual basis taxpayers, gain (if any) accrues in the earlier year when either of the following occurs.
For example, if you have an absolute right to a part of a condemnation award when it is deposited with the court, the amount
deposited accrues
in the year the deposit is made even though the full amount of the award is still contested.
Replacement property bought before the condemnation.
If you buy your replacement property after there is a threat of condemnation but before the actual condemnation and
you still hold the replacement
property at the time of the condemnation, you have bought your replacement property within the replacement period. Property
you acquire before there
is a threat of condemnation does not qualify as replacement property acquired within the replacement period.
Example.
On April 3, 2003, city authorities notified you that your property would be condemned. On June 5, 2003, 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,
2004. You have made a
replacement within the replacement period.
Extension.
You can get an extension of the replacement period if you apply to the IRS director for your area. You should apply
before the end of the
replacement period. Your application should contain all details of your need for an extension. You can file an application
within a reasonable time
after the replacement period ends if you can show reasonable cause for the delay. An extension of the replacement period will
be granted if you can
show reasonable cause for not making the replacement within the regular period.
Ordinarily, requests for extensions are granted near the end of the replacement period or the extended replacement
period. Extensions are usually
limited to a period of 1 year or less. The high market value or scarcity of replacement property is not a sufficient reason
for granting an extension.
If your replacement property is being built and you clearly show that the replacement or restoration cannot be made within
the replacement period, you
will be granted an extension of the period.
Choosing to postpone gain.
Report your choice to postpone reporting your gain, along with all necessary details, on a statement attached to your
return for the tax year in
which you realize the gain.
If a partnership or a corporation owns the condemned property, only the partnership or corporation can choose to postpone
reporting the gain.
Replacement property acquired after return filed.
If you buy the replacement property after you file your return reporting your choice to postpone reporting the gain,
attach a statement to your
return for the year in which you buy the property. The statement should contain detailed information on the replacement property.
Amended return.
If you choose to postpone reporting gain, you must file an amended return for the year of the gain (individuals file
Form 1040X) in either of the
following situations.
-
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.
-
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.
Time for assessing a deficiency.
Any deficiency for any tax year in which part of the gain is realized may be assessed at any time before the expiration
of 3 years from the date
you notify the IRS director for your area that you have replaced, or intend not to replace, the condemned property within
the replacement period.
Changing your mind.
You can change your mind about reporting or postponing the gain at any time before the end of the replacement period.
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).
Reporting a Condemnation Gain or Loss
Generally, you report gain or loss from a condemnation on your return for the year you realize the gain or loss.
Personal-use property.
Report gain from a condemnation of property you held for personal use (other than excluded gain from a condemnation
of your main home or postponed
gain) on Schedule D (Form 1040).
Do not report loss from a condemnation of personal-use property. But, if you received a Form 1099-S, Proceeds From
Real Estate Transactions (for
example, showing the proceeds of a sale of real estate under threat of condemnation), you must show the transaction on Schedule
D even though the loss
is not deductible. Complete columns (a) through (e), and enter -0- in column (f).
Business property.
Report gain (other than postponed gain) or loss from a condemnation of property you held for business or profit on
Form
4797. If you had a gain, you may have to report all or part of it as ordinary income. See Like-Kind Exchanges and
Involuntary Conversions in chapter 3.
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.
-
Qualifying property.
-
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.
Multiple-party transactions.
The like-kind exchange rules also apply to property exchanges that involve three- and four-party transactions. Any
part of these multiple-party
transactions can qualify as a like-kind exchange if it meets all the requirements described in this section.
Receipt of title from third party.
If you receive property in a like-kind exchange and the other party who transfers the property to you does not give
you the title, but a third
party does, you still can treat this transaction as a like-kind exchange if it meets all the requirements.
Basis of property received.
If you acquire property in a like-kind exchange, the basis of that property is the same as the basis of the property
you transferred.
For the basis of property received in an exchange that is only partially nontaxable, see Partially Nontaxable Exchanges, later.
Example.
You exchanged real estate held for investment with an adjusted basis of $25,000 for other real estate held for investment.
The fair market value of
both properties is $50,000. The basis of your new property is the same as the basis of the old ($25,000).
Money paid.
If, in addition to giving up like-kind property, you pay money in a like-kind exchange, you still have no recognized
gain or loss. The basis of the
property received is the basis of the property given up, increased by the money paid.
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.
Sale and purchase.
If you sell property and buy similar property in two mutually dependent transactions, you may have to treat the sale
and purchase as a single
nontaxable exchange.
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.
Reporting the exchange.
Report the exchange of like-kind property, even though no gain or loss is recognized, on Form
8824. The instructions for the form explain how to report the details of the exchange.
If you have any recognized gain because you received money or unlike property, report it on Schedule D (Form 1040)
or Form
4797, whichever applies. See chapter 4. You may have to report the recognized gain as ordinary income from depreciation
recapture. See Like-Kind Exchanges and Involuntary Conversions in chapter 3.
Exchange expenses.
Exchange expenses are generally the closing costs you pay. They include such items as brokerage commissions, attorney
fees, and deed preparation
fees. Subtract these expenses from the consideration received to figure the amount realized on the exchange. Also, add them
to the basis of the
like-kind property received. If you receive cash or unlike property in addition to the like-kind property and realize a gain
on the exchange, subtract
the expenses from the cash or fair market value of the unlike property. Then, use the net amount to figure the recognized
gain. See Partially
Nontaxable Exchanges, later.
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.
-
Property you use for personal purposes, such as your home and your family car.
-
Stock in trade or other property held primarily for sale, such as inventories, raw materials, and real estate held by dealers.
-
Stocks, bonds, notes, or other securities or evidences of indebtedness, such as accounts receivable.
-
Partnership interests.
-
Certificates of trust or beneficial interest.
-
Choses in action.
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.
Real property.
An exchange of city property for farm property, or improved property for unimproved property, is a like-kind exchange.
The exchange of real estate you own for a real estate lease that runs 30 years or longer is a like-kind exchange.
However, not all exchanges of
interests in real property qualify. The exchange of a life estate expected to last less than 30 years for a remainder interest
is not a like-kind
exchange.
An exchange of a remainder interest in real estate for a remainder interest in other real estate is a like-kind exchange
if the nature or character
of the two property interests is the same.
Foreign real property exchanges.
Real property located in the United States and real property located outside the United States are not considered
like-kind property under the
like-kind exchange rules. If you exchange foreign real property for property located in the United States, your gain or loss
on the exchange is
recognized. Foreign real property is real property not located in a state or the District of Columbia.
This foreign real property exchange rule does not apply to the replacement of condemned real property. Foreign and
U.S. real property can still be
considered like-kind property under the rules for replacing condemned property to postpone reporting gain on the condemnation.
See Postponement
of Gain under Involuntary Conversions, earlier.
Personal property.
Depreciable tangible personal property can be either like kind or like class to qualify for nonrecognition treatment.
Like-class properties are
depreciable tangible personal properties within the same General Asset Class or Product Class. Property classified in any
General Asset Class may not
be classified within a Product Class.
General Asset Classes.
General Asset Classes describe the types of property frequently used in many businesses. They include the following
property.
-
Office furniture, fixtures, and equipment (asset class 00.11).
-
Information systems, such as computers and peripheral equipment (asset class 00.12).
-
Data handling equipment except computers (asset class 00.13).
-
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).
Product Classes.
Product Classes include property listed in a 6-digit product class (except any ending in 9) in sectors 31 through
33 of the North American Industry
Classification System (NAICS) of the Executive Office of the President, Office of Management and Budget, United States, 2002
(NAICS Manual). It can be
accessed at
http://www.census.gov/naics. Copies of the manual may be obtained from the National Technical
Information Service by calling 1-800- 553-NTIS (1-800-553-6847). The cost of the manual is $49 (plus shipping and handling)
and the order number is
PB2002101430.
Example 1.
You transfer a personal computer used in your business for a printer to be used in your business. The properties exchanged
are within the same
General Asset Class and are of a like class. Example 2.
Trena transfers a grader to Ron in exchange for a scraper. Both are used in a business. Neither property is within any of
the General Asset
Classes. Both properties, however, are within the same Product Class and are of a like class.
Intangible personal property and nondepreciable personal property.
If you exchange intangible personal property or nondepreciable personal property for like-kind property, no gain or
loss is recognized on the
exchange. (There are no like classes for these properties.) Whether intangible personal property, such as a patent or copyright,
is of a like kind to
other intangible personal property generally depends on the nature or character of the rights involved. It also depends on
the nature or character of
the underlying property to which those rights relate.
Example.
The exchange of a copyright on a novel for a copyright on a different novel can qualify as a like-kind exchange. However,
the exchange of a
copyright on a novel for a copyright on a song is not a like-kind exchange.
Goodwill and going concern.
The exchange of the goodwill or going concern value of a business for the goodwill or going concern value of another
business is not a like-kind
exchange.
Foreign personal property exchanges.
Personal property used predominantly in the United States and personal property used predominantly outside the United
States are not like-kind
property under the like-kind exchange rules. If you exchange property used predominantly in the United States for property
used predominantly outside
the United States, your gain or loss on the exchange is recognized.
Predominant use.
You determine the predominant use of property you gave up based on where that property was used during the 2-year
period ending on the date you
gave it up. You determine the predominant use of the property you acquired based on where that property was used during the
2-year period beginning on
the date you acquired it.
But if you held either property less than 2 years, determine its predominant use based on where that property was
used only during the period of
time you (or a related person) held it. This does not apply if the exchange is part of a transaction (or series of transactions)
structured to avoid
having to treat property as unlike property under this rule.
However, you must treat property as used predominantly in the United States if it is used outside the United States
but, under section 168(g)(4) of
the Internal Revenue Code, is eligible for accelerated depreciation as though used in the United States.
A deferred exchange is one in which you transfer property you use in business or hold for investment and later you receive
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