Chapter 3 of 55–15% of exam

Area III: Federal Taxation of Property Transactions

Area III is about basis and cost recovery: what an asset's tax basis is when it is bought, converted, inherited or received as a gift, and how that basis is recovered through depreciation and amortization. Most items are calculations, and several are framed as reviewing a depreciation schedule for errors.

Basis of assets

Purchased property starts at cost, including costs to acquire it and get it ready for use. Property from a decedent generally takes fair market value at death, while gifted property carries over the donor's basis, with a special rule for loss. Converting a personal asset to business use and buying back stock after a loss sale each have their own basis rule.

Cost basis

Basis is cost, including sales tax on the purchase and amounts paid for delivery and installation before the asset is placed in service.

IRC 1012; IRC 164(a); Treas. Reg. 1.263(a)-2(d)

Gifts

The donee uses the donor's basis, but for loss uses fair market value at the gift if lower; a sale between the two produces no gain or loss. The donor's holding period carries over when the donor's basis is used.

IRC 1015(a); IRC 1223(2)

Inheritance

Basis is fair market value at the date of death (or alternate valuation date), and the holding period is treated as long-term.

IRC 1014(a); IRC 1223(9)

Conversion to business use

Depreciable basis is the lesser of fair market value or adjusted basis at conversion; land is never depreciable.

Treas. Reg. 1.168(i)-4(b); Treas. Reg. 1.167(a)-2

Wash sales

A loss is disallowed if substantially identical stock is bought within 30 days before or after the sale; the disallowed loss is added to the new shares' basis.

IRC 1091(a), (d)

Depreciation of tangible property

MACRS assigns each asset a recovery period and a convention. Personal property normally uses the half-year convention, switching to mid-quarter when too much is placed in service late in the year, while real property uses mid-month. Section 179 expensing and bonus depreciation can recover most or all of the cost in year one.

Recovery periods

Common classes include 5- and 7-year personal property, 27.5-year residential rental property and 39-year nonresidential real property.

IRC 168(c)

Conventions

Half-year is the default; mid-quarter applies to all personal property for the year if more than 40 percent of its basis is placed in service in the last three months; real property uses mid-month.

IRC 168(d)

Section 179

For tax years beginning in 2025, up to $2,500,000, reduced dollar-for-dollar by cost placed in service above $4,000,000, and limited to taxable income from the active conduct of a business, with a carryover. The amounts are indexed after 2025.

IRC 179(b) as amended by Pub. L. 119-21

Bonus depreciation

100 percent of the adjusted basis of qualified property (generally a recovery period of 20 years or less) acquired after January 19, 2025, unless the taxpayer elects out.

IRC 168(k) as amended by Pub. L. 119-21

Intangibles and start-up costs

Intangibles bought with a business are amortized over 15 years regardless of their legal life. Start-up and organizational costs get a small immediate deduction with a phase-down, and the rest is spread over 180 months. Stock issuance costs are neither.

Section 197 intangibles

Goodwill, going concern value, covenants not to compete entered into with a business acquisition, franchises and trademarks are amortized ratably over 15 years from the month acquired.

IRC 197(a), (d)

Start-up expenditures

Deduct up to $5,000, reduced by costs over $50,000, in the year the business begins; amortize the rest over 180 months.

IRC 195(b)

Organizational expenditures

Same $5,000 / $50,000 / 180-month structure for a corporation's organizing costs; costs of issuing or selling stock do not qualify.

IRC 248(a); Treas. Reg. 1.248-1(b)

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