Exam (elaborations)
Chapter 14. Property Transactions, Capital Gains and Losses
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Chapter 14. Property Transactions, Capital Gains and Losses
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withhold at the rate of 1.45% on all wages without limit. In addition, the employer is required to contribute anamount equal to the amount withheld from an employee’s earnings. For 2014, the self- employment tax is
12.4% of self-employment income up to $117,000 and 2.9% of the total amount of self-employment earnings.
CHAPTER 14: PROPERTY TRANSACTIONS: DETERMINATION OF GAIN OR LOSS AND BASIS CONSIDERATIONS
1. Realized gain or loss is measured by the difference between the amount realized from the sale or other
disposition of property and the property’s adjusted basis at the date of disposition.
a. True
b. False
ANSWER: True
RATIONALE: Realized gain or loss is the difference between the amount realized and the property’s
adjusted basis.
2. In computing the amount realized when the fair market value of the property received cannot be
determined, the fair market value of the property surrendered may be used.
a. True
b. False
ANSWER: True
3. If Wal-Mart stock increases in value during the tax year by $6,000, the amount realized is a positive
$6,000.
a. True
b. False
ANSWER: False
RATIONALE: Increases or decreases in the value of an asset during the tax year do not affect the
amount realized. The amount realized can only be determined following sale, exchange, or other disposition of
the property.
4. If the buyer assumes the seller’s liability on the property acquired, the seller’s amount realized is
decreased by the amount of the liability assumed.
a. True
b. False
ANSWER: False
RATIONALE: The seller’s amount realized is increased (not decreased) by the amount of the seller’s
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,liabilities assumed by the buyer.
5. The fair market value of property received in a sale or other disposition is the price at which property
will change hands between a willing seller and a willing buyer when neither is compelled to sell or buy.
a. True
b. False
ANSWER: True
6. If a seller assumes the buyer’s liability on the property acquired, the buyer’s adjusted basis for the
property is increased by the amount of the liability assumed.
a. True
b. False
ANSWER: False
RATIONALE: In this situation, the buyer’s adjusted basis is decreased (not increased) by the amount of
liability assumed.
7. Expenditures made for ordinary repairs and maintenance of property are not added to the original basis
in the determination of the property’s adjusted basis whereas capital expenditures are added to the
original basis.
a. True
b. False
ANSWER: True
RATIONALE: Only expenditures that are capitalized are added to a property’s adjusted basis.
Expenditures for ordinary repairs and maintenance may be deductible in the current tax year if they are for
business or income- producing property.
8. Milton purchases land and a factory building for his business for $300,000 with $100,000 being allocated
to the land. During the first year, Milton deducts cost recovery of $4,922. Milton’s adjusted basis for the
building at the end of the first year is $195,078 ($200,000 – $4,922).
a. True
b. False
ANSWER: True
RATIONALE: Cost recovery reduces the adjusted basis of the building.
9. In a casualty or theft, the basis of property involved is reduced by the amount of insurance proceeds
received and by any resulting recognized loss.
a. True
b. False
ANSWER: True
1. Monroe’s delivery truck is damaged in an accident. Monroe’s adjusted basis for the delivery truck prior
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, to the accident is $20,000. If Monroe receives insurance proceeds of $21,000 and recognizes a casualty
gain of $1,000, his adjusted basis for the delivery truck after the accident is $21,000.
a. True
b. False
ANSWER: False
RATIONALE: Initially, Monroe does increase the adjusted basis of the delivery truck by the casualty gain
of $1,000 ($20,000 + $1,000 = $21,000). However, Monroe must then reduce the adjusted basis of the delivery
truck by the amount of the insurance proceeds received ($21,000 – $21,000 = $0). Thus, Monroe now has two
assets; cash of $21,000 and a delivery truck with an adjusted basis of $0. Note that if Monroe uses some or all
of the cash to repair the delivery truck, the adjusted basis of the delivery truck is increased by this amount.
2. If insurance proceeds are received for property used in a trade or business, a casualty transaction can
result in recognized gain, but cannot result in a recognized loss.
a. True
b. False
ANSWER: False
RATIONALE: A recognized gain will result if the insurance proceeds exceed the adjusted basis of the
property. A recognized loss can result if the insurance proceeds are less than the adjusted basis of the
property.
3. If the amount of a corporate distribution is less than the amount of the corporate earnings and profits,
the return of capital concept does not apply and the shareholders’ adjusted basis for the stock remains
unchanged.
a. True
b. False
ANSWER: True
RATIONALE: The distribution to a shareholder in this situation is classified as dividend income.
Therefore, there is no effect on the shareholder’s stock basis.
4. Reggie owns all the stock of Amethyst, Inc. (adjusted basis of $100,000). If he receives a distribution
from Amethyst of $90,000 and corporate earnings and profits are $15,000, Reggie has a capital gain of
$5,000 and an adjusted basis for his Amethyst stock of $0.
a. True
b. False
ANSWER: False
RATIONALE: The distribution to Reggie is treated as a dividend to the extent of earnings and profits
($15,000). The return of capital concept applies to any excess of the amount of the distribution over the
corporation’s earnings and profits. As Amethyst’s earnings and profits are $15,000, the return of capital
concept applies to $75,000 of the $90,000 distribution. The return of capital part of the distribution of $75,000
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, ($90,000 – $15,000) is less than Reggie’s adjusted basis of $100,000. Consequently, his recognized gain is $0
and his adjusted basis for the stock is reduced to $25,000 ($100,000 – $75,000). There is no capital gain
because the portion of the distribution which represented a return of capital did not exceed Reggie’s basis in
the Amethyst stock.
1. The amount of a corporate distribution qualifying for capital recovery treatment which exceeds the
shareholder-recipient’s basis in the stock investment is treated as a capital gain.
a. True
b. False
ANSWER: True
RATIONALE: The gain is treated as a capital gain. Ordinary gain treatment would result only if the
recipient were a dealer (i.e., the stock is inventory).
5. The adjusted basis for a taxable bond purchased at a premium is reduced if the amortization election is
made. The amount of the amortized premium is treated as an interest deduction.
a. True
b. False
ANSWER: True
6. Helen purchases a $10,000 corporate bond at a premium of $1,000 and elects to amortize the premium.
On the later sale of the bond for $10,800, she has amortized $300 of the premium. Helen has a
recognized gain of $800 ($10,800 amount realized – $10,000 adjusted basis).
a. True
b. False
ANSWER: False
RATIONALE: Helen has a recognized gain of $100 [$10,800 amount realized – ($11,000 – $300) adjusted
basis].
7. The amount received for a utility easement on land is included in the gross income of the taxpayer.
a. True
b. False
ANSWER: False
RATIONALE: The amount received for a utility easement reduces the basis of the land.
8. A realized gain on the sale or exchange of a personal use asset is recognized, but a realized loss on the
sale, exchange, or condemnation of a personal use asset is not recognized.
a. True
b. False
ANSWER: True
9. A realized gain whose recognition is postponed results in the temporary recovery of more than the
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