Chapter 14 Property Transactions: Capital Gains And Losses, § 1231, And Recapture Provisions

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Problems
38. LO.2 During the year, Eugene had the four property transactions summarized on the next page. Eugene is a collector of antique glassware and occasionally sells a piece to get funds to buy another. What are the amount and nature of the gain or loss from each of these transactions?
Property Date Acquired Date Sold Adjusted Basis Sales Price
Antique vase 06/18/05 05/23/16 $37,000 $42,000
Blue Growth Fund (100 shares) 12/23/07 11/22/16 22,000 38,000
Orange bonds 02/12/08 04/11/16 34,000 42,000*
Green stock (100 shares) 02/14/16 11/23/16 11,000 13,000 * The sales price included $750 of accrued interest.
39. LO.2, 5 Rennie owns a video game arcade. He buys vintage video games from estates, often at much less than the retail value of the property. He usually installs the vintage video games in a special section of his video game arcade that appeals to players of “classic” video games. Recently, Rennie sold a classic video game that a customer “just had to have.” Rennie paid $11,250 for it, owned it for 14 months, and sold it for $18,000. Rennie had suspected that this particular classic video game would be of interest to collectors; so he had it refurbished, put it on display in his video arcade, and listed it for sale on the Internet. No customers in the arcade had played it other than those testing it before considering it for purchase.
Rennie would like the gain on the sale of the classic video game to be a long-term capital gain. Did he achieve that objective? Why or why not?
40. LO.2 George is the owner of numerous classic automobiles. His intention is to hold the automobiles until they increase in value and then sell them. He rents the automobiles for use in various events (e.g., antique automobile shows) while he is holding them. In 2016, he sold a classic automobile for $1.5 million. He had held the automobile for five years, and it had a tax basis of $750,000. Was the automobile a capital asset? Why or why not?
41. LO.2, 4 Barbella purchased a wedding ring for $15 at a yard sale in May. She thought the ring was costume jewelry, but it turned out to be a real diamond ring. She is not in the business of buying and selling anything. She researched the ring on the Internet and discovered that it was worth at least $1,000. She sold it on an Internet auction site for $1,100 in July. Was the ring a capital asset? What were the amount and nature of the gain or loss from its sale by Barbella?
42. LO.2 Puce is a corporation that buys and sells financial assets. It purchases notes receivable from manufacturers that need cash immediately and cannot wait to collect the notes. Puce pays about 88% of the face value of the receivables and then collects them. Because of the quality of the notes, Puce collected less than it paid for some of the notes. Does Puce have a capital loss when it collects the receivables for less than it paid for them? Explain.
43. LO.2 Faith Godwin is a dealer in securities. She has spotted a fast-rising company and would like to buy and hold its stock for investment. The stock is currently selling for $2 per share, and Faith thinks it will climb to $40 a share within two years.
Faith’s coworkers have told her that there is “no way” she can get long-term capital gain treatment when she purchases stock because she is a securities dealer. Faith has asked you to calculate her potential gain and tell her whether her coworkers are right. Draft a letter to Faith, responding to her request. Her address is 200 Catamon
Drive, Great Falls, MT 59406.
44. LO.2 Maria meets all of the requirements of § 1237 (subdivided realty). In 2016, she begins selling lots and sells four separate lots to four different purchasers.
She also sells two contiguous lots to another purchaser. The sales price of each lot is $30,000. Maria’s basis for each lot is $15,000. Selling expenses are $500 per lot.
a. What are the realized and recognized gain?
b. Explain the nature of the gain (i.e., ordinary income or capital gain).
c. Would your answers change if, instead, the lots sold to the fifth purchaser were not contiguous? If so, how?
45. LO.2, 3, 5 Melaney has had a bad year with her investments. She lent a friend $8,000; the friend did not repay the loan when it was due and then declared bankruptcy. The loan is totally uncollectible. Melaney also was notified by her broker that the Oak corporate bonds she owned became worthless on October
13, 2016. She had purchased the bonds for $22,000 on November 10, 2015. Melaney also had a $60,000 loss on the disposition of § 1244 corporate stock that she purchased several years ago. Melaney is single.
a. What are the nature and amount of Melaney’s losses?
b. What is Melaney’s AGI for 2016 assuming that she has $65,000 of ordinary gross income from sources other than those discussed?
c. What are the nature and amount of Melaney’s loss carryforwards?
46. LO.2, 3 Benny purchased $400,000 of Peach Corporation face value bonds for $320,000 on November 13, 2015. The bonds had been issued with $80,000 of original issue discount because Peach was in financial difficulty in 2015. On
December 3, 2016, Benny sold the bonds for $283,000 after amortizing $1,000 of the original issue discount. What are the nature and amount of Benny’s gain or loss?
47. LO.3 Fred is an investor in vacant land. When he thinks he has identified property that would be a good investment, he approaches the landowner, pays the landowner for a “right of first refusal” to purchase the land, records this right in the property records, and then waits to see if the land increases in value. The right of first refusal is valid for four years. Fourteen months ago, Fred paid a landowner $9,000 for a right of first refusal. The land was selected as the site of a new shopping center, and the landowner was offered $1 million for the land. In its title search on the land, the buyer discovered Fred’s right of first refusal and involved him in the purchase negotiations. Ultimately, the landowner paid Fred $220,000 to give up his right of first refusal; the landowner then sold the land to the buyer for $4,220,000.
Fred has a marginal tax rate of 39.6%.
a. What difference does it make whether Fred treats the right of first refusal as an option to purchase the land?
b. What difference does it make whether Fred is a “dealer” in land?
48. LO.3 Carla was the owner of vacant land that she was holding for investment. She paid $1 million for the land in 2014. Raymond was an investor in vacant land.
He thought Carla’s land might be the site of an exit ramp from a new freeway. Raymond gave Carla $836,000 for an option on her land in 2015. The option was good for two years and gave Raymond the ability to purchase Carla’s land for $4,765,000.
The freeway was not approved by the government, and Raymond’s option expired in 2016. Does Carla have $836,000 of long-term capital gain upon the expiration of the option? Explain.
49. LO.3 Hilde purchased all of the rights to a patent on a new garden tool developed by a friend of hers who is an amateur inventor. The inventor obtained the patent rights, set up a manufacturing company to produce and sell the garden tool, and produced substantial quantities of the tool, but he then became discouraged when no large garden company would agree to distribute the tool for him. Hilde purchased the patent rights (but not the manufacturing company) for $120,000 on October 24, 2015. Hilde had never engaged in such a transaction before, but she is a salesperson in the garden industry and thought she could succeed where her friend had failed. On June 27, 2016, she sold all patent rights to Garden Tool Company for $1,233,000. Garden Tool will manufacture the tool in its own factory and sell it to its customers. What is the nature of
Hilde’s gain from this transaction?
50. LO.3, 4, 14 Mac, an inventor, obtained a patent on a chemical process to clean old aluminum siding so that it can be easily repainted. Mac has a $500,000 tax basis in the patent. Mac does not have the capital to begin manufacturing and selling this product, so he has done nothing with the patent since obtaining it two years ago. Now a group of individuals has approached him and offered two alternatives.
Under one alternative, they will pay Mac $600,000 (payable evenly over the next 15 years) for the exclusive right to manufacture and sell the product. Under the other, they will form a business and contribute capital to it to begin manufacturing and selling the product; Mac will receive 20% of the company’s shares of stock in exchange for all of his patent rights. Discuss which alternative is better for Mac.