MODULE 37 TAXES: TRANSACTIONS IN PROPERTY
47. (b) The requirement is to determine the proper treat-
ment for the gain recognized on the sale of a painting that
was purchased in 2003 and held for personal use. The defi-
nition of "capital assets" includes investment property and
property held for personal use (if sold at a gain). Because
the painting was held for more than one year, the gain from
the sale of the painting must be reported as a long-term
capital gain. Note that if personal-use property is sold at a
loss, the loss is not deductible.
48. (b) The requirement is to determine the correct
treatment for a capital loss incurred by a married couple
filing a joint return for 2010. Capital losses first offset
capital gains, and then are allowed as a deduction of up to
$3,000 against ordinary income, with any unused capital loss
carried forward indefinitely. Note that a married taxpayer
filing separately can only offset up to $1,500 of net capital
loss against ordinary income.
49. (d) The requirement is to determine the proper clas-
sification of land used as a parking lot and a shed erected on
the lot for customer transactions. The definition of capital
assets includes investment property and property held for
personal use, but excludes any property used in a trade or
business. The definition of Sec. 1231 assets generally in-
cludes business assets held more than one year. Since the
land and shed were used in conjunction with a parking lot
business, they are properly classified as Sec. 1231 assets.
50. (a) The requirement is to determine the classifica-
tion of Ruth's diamond necklace. The diamond necklace is
classified as a capital asset because the definition of "capital
asset" includes investment property and property held for
personal use. Answers (b), (c), and (d) are incorrect because
Sec. 1231 generally includes only assets used in a trade or
business, while Sections 1245 and 1250 only include depre-
ciable assets.
51. (b) The requirement is to determine which asset
is a capital asset. The definition of capital assets includes
personal-use property, but excludes property used in a trade
or business (e.g., delivery truck, land used as a parking.lot).
Treasury stock is not considered an asset, but instead is
treated as a reduction of stockholders' equity.
52. (a) The requirement is to determine how a lump
sum of $30,000 received in 2010, for an agreement not to
operate a competing enterprise, should be treated. A cove-
nant not to compete is not a capital asset. Thus, the $30,000
received as consideration for such an agreement must be
reported as ordinary income in the year received.
53. (b) The requirement is to determine the amount of
furniture classified as capital assets. The definition of capi-
tal assets includes investment property and property held for
personal use (e.g., kitchen and living room pieces), but ex-
cludes property used in a trade or business (e.g., showcases
and tables).
C. Personal Casualty and Theft Gains and Losses
54. (a) The requirement is to determine the correct
statement regarding the deductibility of an individual's
losses on transactions entered into for personal purposes.
An individual's losses on transactions entered into for per-
sonal purposes are deductible only if the losses qualify as
casualty or theft losses. Answer (b) is incorrect because
hobby losses are not deductible. Answers (c) and (d) are
535
incorrect because losses (other than by casualty or theft) on
transactions entered into for personal purposes are not de-
ductible. '
D. Gains and Losses on Business Property
55. (d) The requirement is to determine the charac-
terization of Evon Corporation's $50,000 of net Sec. 1231
gain for its 2010 tax year. Although a net Sec. 1231 gain is
generally treated as a long-term capital gain, it instead must
be treated as ordinary income to the extent of the taxpayer's
nonrecaptured net Sec. 1231 losses for its five preceding
taxable years. Here, since the nonrecaptured net Sec. 1231
losses for 2008 and 2009 total $35,000, only $15,000 of the
$50,000 net Sec. 1231 gain will be treated as a long-term
capital gain.
56. (a) The requirement is to determine which item
would not be characterized as Sec. 1231 property. Sec. 1231
property generally includes both depreciable and nondepre-
ciable property used in a trade or business or held for the
production of income if held for more than twelve months.
Specifically excluded from Sec. 1231 is inventory and prop-
erty held for sale to customers, as well as accounts and notes
receivable arising in the ordinary course of a trade or busi-
ness.
57. (c) The requirement is to determine the amount of
ordinary income that must be recognized by Vermont Cor-
poration from the distribution of the equipment to a share-
holder. When a corporation distributes appreciated property,
it must recognize gain just as if it had sold the property for
its fair market value. As a result Vermont must recognize a
gain of $9,000 - $2,000 = $7,000 on the distribution of the
equipment. Since the distributed property is depreciable
personal property, the gain is subject to Sec. 1245 recapture
as ordinary income to the extent of the $6,000 of straight-
line depreciation deducted by Vermont. The remaining
$1,000 of gain would be treated as Sec. 1231 gain.
58. (c) The requirement is to determine the nature of a
loss resulting from the sale of business machinery that had
been held sixteen months. Property held for use in a trade or
business is specifically excluded from the definition of
capital assets, and if held for more than one year is consid-
ered Sec. 1231 property. Answer (b) is incorrect because
Sec. 1245 only applies to gains.
59. (c) The requirement is to determine the amount of
gain from the sale of property that must be recaptured as
ordinary income. A gain from the disposition of seven-year
tangible property is subject to recapture under Sec. 1245
which recaptures gain to the extent of all depreciation previ-
ously deducted. Here, Bates' gain from the sale of the prop-
erty is determined as follows:
Selling price $102,000
Cost $100,000
Depreciation - 47.525
Adjusted basis
Gain
Under Sec. 1245, Bates Corp's gain is recaptured as ordi-
nary income to the extent of the'$47,525 deducted as depre-
ciation. The remaining $2,000 of gain would be classified as
Sec. 1231 gain.
60. (b) The requirement is to determine the proper treat-
ment of the $50,000 gain on the sale of the building, which