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Tax 2012

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Tax 2012

Tax 2012 3. Tax 2012   Ordinary or Capital Gain or Loss for Business Property Table of Contents Introduction Topics - This chapter discusses: Useful Items - You may want to see: Section 1231 Gains and LossesNonrecaptured section 1231 losses. Tax 2012 Depreciation RecaptureSection 1245 Property Section 1250 Property Installment Sales Gifts Transfers at Death Like-Kind Exchanges and Involuntary Conversions Multiple Properties Introduction When you dispose of business property, your taxable gain or loss is usually a section 1231 gain or loss. Tax 2012 Its treatment as ordinary or capital is determined under rules for section 1231 transactions. Tax 2012 When you dispose of depreciable property (section 1245 property or section 1250 property) at a gain, you may have to recognize all or part of the gain as ordinary income under the depreciation recapture rules. Tax 2012 Any remaining gain is a section 1231 gain. Tax 2012 Topics - This chapter discusses: Section 1231 gains and losses Depreciation recapture Useful Items - You may want to see: Publication 534 Depreciating Property Placed in Service Before 1987 537 Installment Sales 547 Casualties, Disasters and Thefts 551 Basis of Assets 946 How To Depreciate Property Form (and Instructions) 4797 Sales of Business Property See chapter 5 for information about getting publications and forms. Tax 2012 Section 1231 Gains and Losses Section 1231 gains and losses are the taxable gains and losses from section 1231 transactions (discussed below). Tax 2012 Their treatment as ordinary or capital depends on whether you have a net gain or a net loss from all your section 1231 transactions. Tax 2012 If you have a gain from a section 1231 transaction, first determine whether any of the gain is ordinary income under the depreciation recapture rules (explained later). Tax 2012 Do not take that gain into account as section 1231 gain. Tax 2012 Section 1231 transactions. Tax 2012   The following transactions result in gain or loss subject to section 1231 treatment. Tax 2012 Sales or exchanges of real property or depreciable personal property. Tax 2012 This property must be used in a trade or business and held longer than 1 year. Tax 2012 Generally, property held for the production of rents or royalties is considered to be used in a trade or business. Tax 2012 Depreciable personal property includes amortizable section 197 intangibles (described in chapter 2 under Other Dispositions). Tax 2012 Sales or exchanges of leaseholds. Tax 2012 The leasehold must be used in a trade or business and held longer than 1 year. Tax 2012 Sales or exchanges of cattle and horses. Tax 2012 The cattle and horses must be held for draft, breeding, dairy, or sporting purposes and held for 2 years or longer. Tax 2012 Sales or exchanges of other livestock. Tax 2012 This livestock does not include poultry. Tax 2012 It must be held for draft, breeding, dairy, or sporting purposes and held for 1 year or longer. Tax 2012 Sales or exchanges of unharvested crops. Tax 2012 The crop and land must be sold, exchanged, or involuntarily converted at the same time and to the same person and the land must be held longer than 1 year. Tax 2012 You cannot keep any right or option to directly or indirectly reacquire the land (other than a right customarily incident to a mortgage or other security transaction). Tax 2012 Growing crops sold with a lease on the land, though sold to the same person in the same transaction, are not included. Tax 2012 Cutting of timber or disposal of timber, coal, or iron ore. Tax 2012 The cutting or disposal must be treated as a sale, as described in chapter 2 under Timber and Coal and Iron Ore. Tax 2012 Condemnations. Tax 2012 The condemned property must have been held longer than 1 year. Tax 2012 It must be business property or a capital asset held in connection with a trade or business or a transaction entered into for profit, such as investment property. Tax 2012 It cannot be property held for personal use. Tax 2012 Casualties and thefts. Tax 2012 The casualty or theft must have affected business property, property held for the production of rents and royalties, or investment property (such as notes and bonds). Tax 2012 You must have held the property longer than 1 year. Tax 2012 However, if your casualty or theft losses are more than your casualty or theft gains, neither the gains nor the losses are taken into account in the section 1231 computation. Tax 2012 For more information on casualties and thefts, see Publication 547. Tax 2012 Property for sale to customers. Tax 2012   A sale, exchange, or involuntary conversion of property held mainly for sale to customers is not a section 1231 transaction. Tax 2012 If you will get back all, or nearly all, of your investment in the property by selling it rather than by using it up in your business, it is property held mainly for sale to customers. Tax 2012 Example. Tax 2012 You manufacture and sell steel cable, which you deliver on returnable reels that are depreciable property. Tax 2012 Customers make deposits on the reels, which you refund if the reels are returned within a year. Tax 2012 If they are not returned, you keep each deposit as the agreed-upon sales price. Tax 2012 Most reels are returned within the 1-year period. Tax 2012 You keep adequate records showing depreciation and other charges to the capitalized cost of the reels. Tax 2012 Under these conditions, the reels are not property held for sale to customers in the ordinary course of your business. Tax 2012 Any gain or loss resulting from their not being returned may be capital or ordinary, depending on your section 1231 transactions. Tax 2012 Copyrights. Tax 2012    The sale of a copyright, a literary, musical, or artistic composition, or similar property is not a section 1231 transaction if your personal efforts created the property, or if you acquired the property in a way that entitled you to the basis of the previous owner whose personal efforts created it (for example, if you receive the property as a gift). Tax 2012 The sale of such property results in ordinary income and generally is reported in Part II of Form 4797. Tax 2012 Treatment as ordinary or capital. Tax 2012   To determine the treatment of section 1231 gains and losses, combine all your section 1231 gains and losses for the year. Tax 2012 If you have a net section 1231 loss, it is ordinary loss. Tax 2012 If you have a net section 1231 gain, it is ordinary income up to the amount of your nonrecaptured section 1231 losses from previous years. Tax 2012 The rest, if any, is long-term capital gain. Tax 2012 Nonrecaptured section 1231 losses. Tax 2012   Your nonrecaptured section 1231 losses are your net section 1231 losses for the previous 5 years that have not been applied against a net section 1231 gain. Tax 2012 Therefore, if in any of your five preceding tax years you had section 1231 losses, a net gain for the current year from the sale of section 1231 assets is ordinary gain to the extent of your prior losses. Tax 2012 These losses are applied against your net section 1231 gain beginning with the earliest loss in the 5-year period. Tax 2012 Example. Tax 2012 In 2013, Ben has a $2,000 net section 1231 gain. Tax 2012 To figure how much he has to report as ordinary income and long-term capital gain, he must first determine his section 1231 gains and losses from the previous 5-year period. Tax 2012 From 2008 through 2012 he had the following section 1231 gains and losses. Tax 2012 Year Amount 2008 -0- 2009 -0- 2010 ($2,500) 2011 -0- 2012 $1,800 Ben uses this information to figure how to report his net section 1231 gain for 2013 as shown below. Tax 2012 1) Net section 1231 gain (2013) $2,000 2) Net section 1231 loss (2010) ($2,500)   3) Net section 1231 gain (2012) 1,800   4) Remaining net section 1231 loss from prior 5 years ($700)   5) Gain treated as  ordinary income $700 6) Gain treated as long-term  capital gain $1,300 Depreciation Recapture If you dispose of depreciable or amortizable property at a gain, you may have to treat all or part of the gain (even if otherwise nontaxable) as ordinary income. Tax 2012 To figure any gain that must be reported as ordinary income, you must keep permanent records of the facts necessary to figure the depreciation or amortization allowed or allowable on your property. Tax 2012 This includes the date and manner of acquisition, cost or other basis, depreciation or amortization, and all other adjustments that affect basis. Tax 2012 On property you acquired in a nontaxable exchange or as a gift, your records also must indicate the following information. Tax 2012 Whether the adjusted basis was figured using depreciation or amortization you claimed on other property. Tax 2012 Whether the adjusted basis was figured using depreciation or amortization another person claimed. Tax 2012 Corporate distributions. Tax 2012   For information on property distributed by corporations, see Distributions to Shareholders in Publication 542, Corporations. Tax 2012 General asset accounts. Tax 2012   Different rules apply to dispositions of property you depreciated using a general asset account. Tax 2012 For information on these rules, see Publication 946. Tax 2012 Section 1245 Property A gain on the disposition of section 1245 property is treated as ordinary income to the extent of depreciation allowed or allowable on the property. Tax 2012 See Gain Treated as Ordinary Income, later. Tax 2012 Any gain recognized that is more than the part that is ordinary income from depreciation is a section 1231 gain. Tax 2012 See Treatment as ordinary or capital under Section 1231 Gains and Losses, earlier. Tax 2012 Section 1245 property defined. Tax 2012   Section 1245 property includes any property that is or has been subject to an allowance for depreciation or amortization and that is any of the following types of property. Tax 2012 Personal property (either tangible or intangible). Tax 2012 Other tangible property (except buildings and their structural components) used as any of the following. Tax 2012 See Buildings and structural components below. Tax 2012 An integral part of manufacturing, production, or extraction, or of furnishing transportation, communications, electricity, gas, water, or sewage disposal services. Tax 2012 A research facility in any of the activities in (a). Tax 2012 A facility in any of the activities in (a) for the bulk storage of fungible commodities (discussed on the next page). Tax 2012 That part of real property (not included in (2)) with an adjusted basis reduced by (but not limited to) the following. Tax 2012 Amortization of certified pollution control facilities. Tax 2012 The section 179 expense deduction. Tax 2012 Deduction for clean-fuel vehicles and certain refueling property. Tax 2012 Deduction for capital costs incurred in complying with Environmental Protection Agency sulfur regulations. Tax 2012 Deduction for certain qualified refinery property. Tax 2012 Deduction for qualified energy efficient commercial building property. Tax 2012 Amortization of railroad grading and tunnel bores, if in effect before the repeal by the Revenue Reconciliation Act of 1990. Tax 2012 (Repealed by Public Law 99-514, Tax Reform Act of 1986, section 242(a). Tax 2012 ) Certain expenditures for child care facilities if in effect before repeal by Public Law 101-58, Omnibus Budget Reconciliation Act of 1990, section 11801(a)(13) (except with regards to deductions made prior to November 5, 1990). Tax 2012 Expenditures to remove architectural and transportation barriers to the handicapped and elderly. Tax 2012 Deduction for qualified tertiary injectant expenses. Tax 2012 Certain reforestation expenditures. Tax 2012 Deduction for election to expense qualified advanced mine safety equipment property. Tax 2012 Single purpose agricultural (livestock) or horticultural structures. Tax 2012 Storage facilities (except buildings and their structural components) used in distributing petroleum or any primary product of petroleum. Tax 2012 Any railroad grading or tunnel bore. Tax 2012 Buildings and structural components. Tax 2012   Section 1245 property does not include buildings and structural components. Tax 2012 The term building includes a house, barn, warehouse, or garage. Tax 2012 The term structural component includes walls, floors, windows, doors, central air conditioning systems, light fixtures, etc. Tax 2012   Do not treat a structure that is essentially machinery or equipment as a building or structural component. Tax 2012 Also, do not treat a structure that houses property used as an integral part of an activity as a building or structural component if the structure's use is so closely related to the property's use that the structure can be expected to be replaced when the property it initially houses is replaced. Tax 2012   The fact that the structure is specially designed to withstand the stress and other demands of the property and cannot be used economically for other purposes indicates it is closely related to the use of the property it houses. Tax 2012 Structures such as oil and gas storage tanks, grain storage bins, silos, fractionating towers, blast furnaces, basic oxygen furnaces, coke ovens, brick kilns, and coal tipples are not treated as buildings, but as section 1245 property. Tax 2012 Facility for bulk storage of fungible commodities. Tax 2012   This term includes oil or gas storage tanks and grain storage bins. Tax 2012 Bulk storage means the storage of a commodity in a large mass before it is used. Tax 2012 For example, if a facility is used to store oranges that have been sorted and boxed, it is not used for bulk storage. Tax 2012 To be fungible, a commodity must be such that one part may be used in place of another. Tax 2012   Stored materials that vary in composition, size, and weight are not fungible. Tax 2012 Materials are not fungible if one part cannot be used in place of another part and the materials cannot be estimated and replaced by simple reference to weight, measure, and number. Tax 2012 For example, the storage of different grades and forms of aluminum scrap is not storage of fungible commodities. Tax 2012 Gain Treated as Ordinary Income The gain treated as ordinary income on the sale, exchange, or involuntary conversion of section 1245 property, including a sale and leaseback transaction, is the lesser of the following amounts. Tax 2012 The depreciation and amortization allowed or allowable on the property. Tax 2012 The gain realized on the disposition (the amount realized from the disposition minus the adjusted basis of the property). Tax 2012 A limit on this amount for gain on like-kind exchanges and involuntary conversions is explained later. Tax 2012 For any other disposition of section 1245 property, ordinary income is the lesser of (1) earlier or the amount by which its fair market value is more than its adjusted basis. Tax 2012 See Gifts and Transfers at Death, later. Tax 2012 Use Part III of Form 4797 to figure the ordinary income part of the gain. Tax 2012 Depreciation taken on other property or taken by other taxpayers. Tax 2012   Depreciation and amortization include the amounts you claimed on the section 1245 property as well as the following depreciation and amortization amounts. Tax 2012 Amounts you claimed on property you exchanged for, or converted to, your section 1245 property in a like-kind exchange or involuntary conversion. Tax 2012 Amounts a previous owner of the section 1245 property claimed if your basis is determined with reference to that person's adjusted basis (for example, the donor's depreciation deductions on property you received as a gift). Tax 2012 Depreciation and amortization. Tax 2012   Depreciation and amortization that must be recaptured as ordinary income include (but are not limited to) the following items. Tax 2012 Ordinary depreciation deductions. Tax 2012 Any special depreciation allowance you claimed. Tax 2012 Amortization deductions for all the following costs. Tax 2012 Acquiring a lease. Tax 2012 Lessee improvements. Tax 2012 Certified pollution control facilities. Tax 2012 Certain reforestation expenses. Tax 2012 Section 197 intangibles. Tax 2012 Childcare facility expenses made before 1982, if in effect before the repeal of IRC 188. Tax 2012 Franchises, trademarks, and trade names acquired before August 11, 1993. Tax 2012 The section 179 deduction. Tax 2012 Deductions for all the following costs. Tax 2012 Removing barriers to the disabled and the elderly. Tax 2012 Tertiary injectant expenses. Tax 2012 Depreciable clean-fuel vehicles and refueling property (minus the amount of any recaptured deduction). Tax 2012 Environmental cleanup costs. Tax 2012 Certain reforestation expenses. Tax 2012 Qualified disaster expenses. Tax 2012 Any basis reduction for the investment credit (minus any basis increase for credit recapture). Tax 2012 Any basis reduction for the qualified electric vehicle credit (minus any basis increase for credit recapture). Tax 2012 Example. Tax 2012 You file your returns on a calendar year basis. Tax 2012 In February 2011, you bought and placed in service for 100% use in your business a light-duty truck (5-year property) that cost $10,000. Tax 2012 You used the half-year convention and your MACRS deductions for the truck were $2,000 in 2011 and $3,200 in 2012. Tax 2012 You did not take the section 179 deduction. Tax 2012 You sold the truck in May 2013 for $7,000. Tax 2012 The MACRS deduction in 2013, the year of sale, is $960 (½ of $1,920). Tax 2012 Figure the gain treated as ordinary income as follows. Tax 2012 1) Amount realized $7,000 2) Cost (February 2011) $10,000   3) Depreciation allowed or allowable (MACRS deductions: $2,000 + $3,200 + $960) 6,160   4) Adjusted basis (subtract line 3 from line 2) $3,840 5) Gain realized (subtract line 4 from line 1) $3,160 6) Gain treated as ordinary income (lesser of line 3 or line 5) $3,160 Depreciation on other tangible property. Tax 2012   You must take into account depreciation during periods when the property was not used as an integral part of an activity or did not constitute a research or storage facility, as described earlier under Section 1245 property. Tax 2012   For example, if depreciation deductions taken on certain storage facilities amounted to $10,000, of which $6,000 is from the periods before their use in a prescribed business activity, you must use the entire $10,000 in determining ordinary income from depreciation. Tax 2012 Depreciation allowed or allowable. Tax 2012   The greater of the depreciation allowed or allowable is generally the amount to use in figuring the part of gain to report as ordinary income. Tax 2012 However, if in prior years, you have consistently taken proper deductions under one method, the amount allowed for your prior years will not be increased even though a greater amount would have been allowed under another proper method. Tax 2012 If you did not take any deduction at all for depreciation, your adjustments to basis for depreciation allowable are figured by using the straight line method. Tax 2012   This treatment applies only when figuring what part of gain is treated as ordinary income under the rules for section 1245 depreciation recapture. Tax 2012 Multiple asset accounts. Tax 2012   In figuring ordinary income from depreciation, you can treat any number of units of section 1245 property in a single depreciation account as one item if the total ordinary income from depreciation figured by using this method is not less than it would be if depreciation on each unit were figured separately. Tax 2012 Example. Tax 2012 In one transaction you sold 50 machines, 25 trucks, and certain other property that is not section 1245 property. Tax 2012 All of the depreciation was recorded in a single depreciation account. Tax 2012 After dividing the total received among the various assets sold, you figured that each unit of section 1245 property was sold at a gain. Tax 2012 You can figure the ordinary income from depreciation as if the 50 machines and 25 trucks were one item. Tax 2012 However, if five of the trucks had been sold at a loss, only the 50 machines and 20 of the trucks could be treated as one item in determining the ordinary income from depreciation. Tax 2012 Normal retirement. Tax 2012   The normal retirement of section 1245 property in multiple asset accounts does not require recognition of gain as ordinary income from depreciation if your method of accounting for asset retirements does not require recognition of that gain. Tax 2012 Section 1250 Property Gain on the disposition of section 1250 property is treated as ordinary income to the extent of additional depreciation allowed or allowable on the property. Tax 2012 To determine the additional depreciation on section 1250 property, see Additional Depreciation, below. Tax 2012 Section 1250 property defined. Tax 2012   This includes all real property that is subject to an allowance for depreciation and that is not and never has been section 1245 property. Tax 2012 It includes a leasehold of land or section 1250 property subject to an allowance for depreciation. Tax 2012 A fee simple interest in land is not included because it is not depreciable. Tax 2012   If your section 1250 property becomes section 1245 property because you change its use, you can never again treat it as section 1250 property. Tax 2012 Additional Depreciation If you hold section 1250 property longer than 1 year, the additional depreciation is the actual depreciation adjustments that are more than the depreciation figured using the straight line method. Tax 2012 For a list of items treated as depreciation adjustments, see Depreciation and amortization under Gain Treated as Ordinary Income, earlier. Tax 2012 For the treatment of unrecaptured section 1250 gain, see Capital Gains Tax Rate, later. Tax 2012 If you hold section 1250 property for 1 year or less, all the depreciation is additional depreciation. Tax 2012 You will not have additional depreciation if any of the following conditions apply to the property disposed of. Tax 2012 You figured depreciation for the property using the straight line method or any other method that does not result in depreciation that is more than the amount figured by the straight line method; you held the property longer than 1 year; and, if the property was qualified property, you made a timely election not to claim any special depreciation allowance. Tax 2012 In addition, if the property was in a renewal community, you must not have elected to claim a commercial revitalization deduction for property placed in service before January 1, 2010. Tax 2012 The property was residential low-income rental property you held for 162/3 years or longer. Tax 2012 For low-income rental housing on which the special 60-month depreciation for rehabilitation expenses was allowed, the 162/3 years start when the rehabilitated property is placed in service. Tax 2012 You chose the alternate ACRS method for the property, which was a type of 15-, 18-, or 19-year real property covered by the section 1250 rules. Tax 2012 The property was residential rental property or nonresidential real property placed in service after 1986 (or after July 31, 1986, if the choice to use MACRS was made); you held it longer than 1 year; and, if the property was qualified property, you made a timely election not to claim any special depreciation allowance. Tax 2012 These properties are depreciated using the straight line method. Tax 2012 In addition, if the property was in a renewal community, you must not have elected to claim a commercial revitalization deduction. Tax 2012 Depreciation taken by other taxpayers or on other property. Tax 2012   Additional depreciation includes all depreciation adjustments to the basis of section 1250 property whether allowed to you or another person (as carryover basis property). Tax 2012 Example. Tax 2012 Larry Johnson gives his son section 1250 property on which he took $2,000 in depreciation deductions, of which $500 is additional depreciation. Tax 2012 Immediately after the gift, the son's adjusted basis in the property is the same as his father's and reflects the $500 additional depreciation. Tax 2012 On January 1 of the next year, after taking depreciation deductions of $1,000 on the property, of which $200 is additional depreciation, the son sells the property. Tax 2012 At the time of sale, the additional depreciation is $700 ($500 allowed the father plus $200 allowed the son). Tax 2012 Depreciation allowed or allowable. Tax 2012   The greater of depreciation allowed or allowable (to any person who held the property if the depreciation was used in figuring its adjusted basis in your hands) generally is the amount to use in figuring the part of the gain to be reported as ordinary income. Tax 2012 If you can show that the deduction allowed for any tax year was less than the amount allowable, the lesser figure will be the depreciation adjustment for figuring additional depreciation. Tax 2012 Retired or demolished property. Tax 2012   The adjustments reflected in adjusted basis generally do not include deductions for depreciation on retired or demolished parts of section 1250 property unless these deductions are reflected in the basis of replacement property that is section 1250 property. Tax 2012 Example. Tax 2012 A wing of your building is totally destroyed by fire. Tax 2012 The depreciation adjustments figured in the adjusted basis of the building after the wing is destroyed do not include any deductions for depreciation on the destroyed wing unless it is replaced and the adjustments for depreciation on it are reflected in the basis of the replacement property. Tax 2012 Figuring straight line depreciation. Tax 2012   The useful life and salvage value you would have used to figure straight line depreciation are the same as those used under the depreciation method you actually used. Tax 2012 If you did not use a useful life under the depreciation method actually used (such as with the units-of-production method) or if you did not take salvage value into account (such as with the declining balance method), the useful life or salvage value for figuring what would have been the straight line depreciation is the useful life and salvage value you would have used under the straight line method. Tax 2012   Salvage value and useful life are not used for the ACRS method of depreciation. Tax 2012 Figure straight line depreciation for ACRS real property by using its 15-, 18-, or 19-year recovery period as the property's useful life. Tax 2012   The straight line method is applied without any basis reduction for the investment credit. Tax 2012 Property held by lessee. Tax 2012   If a lessee makes a leasehold improvement, the lease period for figuring what would have been the straight line depreciation adjustments includes all renewal periods. Tax 2012 This inclusion of the renewal periods cannot extend the lease period taken into account to a period that is longer than the remaining useful life of the improvement. Tax 2012 The same rule applies to the cost of acquiring a lease. Tax 2012   The term renewal period means any period for which the lease may be renewed, extended, or continued under an option exercisable by the lessee. Tax 2012 However, the inclusion of renewal periods cannot extend the lease by more than two-thirds of the period that was the basis on which the actual depreciation adjustments were allowed. Tax 2012 Applicable Percentage The applicable percentage used to figure the ordinary income because of additional depreciation depends on whether the real property you disposed of is nonresidential real property, residential rental property, or low-income housing. Tax 2012 The percentages for these types of real property are as follows. Tax 2012 Nonresidential real property. Tax 2012   For real property that is not residential rental property, the applicable percentage for periods after 1969 is 100%. Tax 2012 For periods before 1970, the percentage is zero and no ordinary income because of additional depreciation before 1970 will result from its disposition. Tax 2012 Residential rental property. Tax 2012   For residential rental property (80% or more of the gross income is from dwelling units) other than low-income housing, the applicable percentage for periods after 1975 is 100%. Tax 2012 The percentage for periods before 1976 is zero. Tax 2012 Therefore, no ordinary income because of additional depreciation before 1976 will result from a disposition of residential rental property. Tax 2012 Low-income housing. Tax 2012    Low-income housing includes all the following types of residential rental property. Tax 2012 Federally assisted housing projects if the mortgage is insured under section 221(d)(3) or 236 of the National Housing Act or housing financed or assisted by direct loan or tax abatement under similar provisions of state or local laws. Tax 2012 Low-income rental housing for which a depreciation deduction for rehabilitation expenses was allowed. Tax 2012 Low-income rental housing held for occupancy by families or individuals eligible to receive subsidies under section 8 of the United States Housing Act of 1937, as amended, or under provisions of state or local laws that authorize similar subsidies for low-income families. Tax 2012 Housing financed or assisted by direct loan or insured under Title V of the Housing Act of 1949. Tax 2012   The applicable percentage for low-income housing is 100% minus 1% for each full month the property was held over 100 full months. Tax 2012 If you have held low-income housing at least 16 years and 8 months, the percentage is zero and no ordinary income will result from its disposition. Tax 2012 Foreclosure. Tax 2012   If low-income housing is disposed of because of foreclosure or similar proceedings, the monthly applicable percentage reduction is figured as if you disposed of the property on the starting date of the proceedings. Tax 2012 Example. Tax 2012 On June 1, 2001, you acquired low-income housing property. Tax 2012 On April 3, 2012 (130 months after the property was acquired), foreclosure proceedings were started on the property and on December 3, 2013 (150 months after the property was acquired), the property was disposed of as a result of the foreclosure proceedings. Tax 2012 The property qualifies for a reduced applicable percentage because it was held more than 100 full months. Tax 2012 The applicable percentage reduction is 30% (130 months minus 100 months) rather than 50% (150 months minus 100 months) because it does not apply after April 3, 2012, the starting date of the foreclosure proceedings. Tax 2012 Therefore, 70% of the additional depreciation is treated as ordinary income. Tax 2012 Holding period. Tax 2012   The holding period used to figure the applicable percentage for low-income housing generally starts on the day after you acquired it. Tax 2012 For example, if you bought low-income housing on January 1, 1997, the holding period starts on January 2, 1997. Tax 2012 If you sold it on January 2, 2013, the holding period is exactly 192 full months. Tax 2012 The applicable percentage for additional depreciation is 8%, or 100% minus 1% for each full month the property was held over 100 full months. Tax 2012 Holding period for constructed, reconstructed, or erected property. Tax 2012   The holding period used to figure the applicable percentage for low-income housing you constructed, reconstructed, or erected starts on the first day of the month it is placed in service in a trade or business, in an activity for the production of income, or in a personal activity. Tax 2012 Property acquired by gift or received in a tax-free transfer. Tax 2012   For low-income housing you acquired by gift or in a tax-free transfer the basis of which is figured by reference to the basis in the hands of the transferor, the holding period for the applicable percentage includes the holding period of the transferor. Tax 2012   If the adjusted basis of the property in your hands just after acquiring it is more than its adjusted basis to the transferor just before transferring it, the holding period of the difference is figured as if it were a separate improvement. Tax 2012 See Low-Income Housing With Two or More Elements, next. Tax 2012 Low-Income Housing With Two or More Elements If you dispose of low-income housing property that has two or more separate elements, the applicable percentage used to figure ordinary income because of additional depreciation may be different for each element. Tax 2012 The gain to be reported as ordinary income is the sum of the ordinary income figured for each element. Tax 2012 The following are the types of separate elements. Tax 2012 A separate improvement (defined below). Tax 2012 The basic section 1250 property plus improvements not qualifying as separate improvements. Tax 2012 The units placed in service at different times before all the section 1250 property is finished. Tax 2012 For example, this happens when a taxpayer builds an apartment building of 100 units and places 30 units in service (available for renting) on January 4, 2011, 50 on July 18, 2011, and the remaining 20 on January 18, 2012. Tax 2012 As a result, the apartment house consists of three separate elements. Tax 2012 The 36-month test for separate improvements. Tax 2012   A separate improvement is any improvement (qualifying under The 1-year test, below) added to the capital account of the property, but only if the total of the improvements during the 36-month period ending on the last day of any tax year is more than the greatest of the following amounts. Tax 2012 Twenty-five percent of the adjusted basis of the property at the start of the first day of the 36-month period, or the first day of the holding period of the property, whichever is later. Tax 2012 Ten percent of the unadjusted basis (adjusted basis plus depreciation and amortization adjustments) of the property at the start of the period determined in (1). Tax 2012 $5,000. Tax 2012 The 1-year test. Tax 2012   An addition to the capital account for any tax year (including a short tax year) is treated as an improvement only if the sum of all additions for the year is more than the greater of $2,000 or 1% of the unadjusted basis of the property. Tax 2012 The unadjusted basis is figured as of the start of that tax year or the holding period of the property, whichever is later. Tax 2012 In applying the 36-month test, improvements in any one of the 3 years are omitted entirely if the total improvements in that year do not qualify under the 1-year test. Tax 2012 Example. Tax 2012 The unadjusted basis of a calendar year taxpayer's property was $300,000 on January 1 of this year. Tax 2012 During the year, the taxpayer made improvements A, B, and C, which cost $1,000, $600, and $700, respectively. Tax 2012 The sum of the improvements, $2,300, is less than 1% of the unadjusted basis ($3,000), so the improvements do not satisfy the 1-year test and are not treated as improvements for the 36-month test. Tax 2012 However, if improvement C had cost $1,500, the sum of these improvements would have been $3,100. Tax 2012 Then, it would be necessary to apply the 36-month test to figure if the improvements must be treated as separate improvements. Tax 2012 Addition to the capital account. Tax 2012   Any addition to the capital account made after the initial acquisition or completion of the property by you or any person who held the property during a period included in your holding period is to be considered when figuring the total amount of separate improvements. Tax 2012   The addition to the capital account of depreciable real property is the gross addition not reduced by amounts attributable to replaced property. Tax 2012 For example, if a roof with an adjusted basis of $20,000 is replaced by a new roof costing $50,000, the improvement is the gross addition to the account, $50,000, and not the net addition of $30,000. Tax 2012 The $20,000 adjusted basis of the old roof is no longer reflected in the basis of the property. Tax 2012 The status of an addition to the capital account is not affected by whether it is treated as a separate property for determining depreciation deductions. Tax 2012   Whether an expense is treated as an addition to the capital account may depend on the final disposition of the entire property. Tax 2012 If the expense item property and the basic property are sold in two separate transactions, the entire section 1250 property is treated as consisting of two distinct properties. Tax 2012 Unadjusted basis. Tax 2012   In figuring the unadjusted basis as of a certain date, include the actual cost of all previous additions to the capital account plus those that did not qualify as separate improvements. Tax 2012 However, the cost of components retired before that date is not included in the unadjusted basis. Tax 2012 Holding period. Tax 2012   Use the following guidelines for figuring the applicable percentage for property with two or more elements. Tax 2012 The holding period of a separate element placed in service before the entire section 1250 property is finished starts on the first day of the month that the separate element is placed in service. Tax 2012 The holding period for each separate improvement qualifying as a separate element starts on the day after the improvement is acquired or, for improvements constructed, reconstructed, or erected, the first day of the month that the improvement is placed in service. Tax 2012 The holding period for each improvement not qualifying as a separate element takes the holding period of the basic property. Tax 2012   If an improvement by itself does not meet the 1-year test (greater of $2,000 or 1% of the unadjusted basis), but it does qualify as a separate improvement that is a separate element (when grouped with other improvements made during the tax year), determine the start of its holding period as follows. Tax 2012 Use the first day of a calendar month that is closest to the middle of the tax year. Tax 2012 If there are two first days of a month that are equally close to the middle of the year, use the earlier date. Tax 2012 Figuring ordinary income attributable to each separate element. Tax 2012   Figure ordinary income attributable to each separate element as follows. Tax 2012   Step 1. Tax 2012 Divide the element's additional depreciation after 1975 by the sum of all the elements' additional depreciation after 1975 to determine the percentage used in Step 2. Tax 2012   Step 2. Tax 2012 Multiply the percentage figured in Step 1 by the lesser of the additional depreciation after 1975 for the entire property or the gain from disposition of the entire property (the difference between the fair market value or amount realized and the adjusted basis). Tax 2012   Step 3. Tax 2012 Multiply the result in Step 2 by the applicable percentage for the element. Tax 2012 Example. Tax 2012 You sold at a gain of $25,000 low-income housing property subject to the ordinary income rules of section 1250. Tax 2012 The property consisted of four elements (W, X, Y, and Z). Tax 2012 Step 1. Tax 2012 The additional depreciation for each element is: W-$12,000; X-None; Y-$6,000; and Z-$6,000. Tax 2012 The sum of the additional depreciation for all the elements is $24,000. Tax 2012 Step 2. Tax 2012 The depreciation deducted on element X was $4,000 less than it would have been under the straight line method. Tax 2012 Additional depreciation on the property as a whole is $20,000 ($24,000 − $4,000). Tax 2012 $20,000 is lower than the $25,000 gain on the sale, so $20,000 is used in Step 2. Tax 2012 Step 3. Tax 2012 The applicable percentages to be used in Step 3 for the elements are: W-68%; X-85%; Y-92%; and Z-100%. Tax 2012 From these facts, the sum of the ordinary income for each element is figured as follows. Tax 2012   Step 1 Step 2 Step 3 Ordinary Income W . Tax 2012 50 $10,000 68% $ 6,800 X -0- -0- 85% -0- Y . Tax 2012 25 5,000 92% 4,600 Z . Tax 2012 25 5,000 100% 5,000 Sum of ordinary income of separate elements $16,400 Gain Treated as Ordinary Income To find what part of the gain from the disposition of section 1250 property is treated as ordinary income, follow these steps. Tax 2012 In a sale, exchange, or involuntary conversion of the property, figure the amount realized that is more than the adjusted basis of the property. Tax 2012 In any other disposition of the property, figure the fair market value that is more than the adjusted basis. Tax 2012 Figure the additional depreciation for the periods after 1975. Tax 2012 Multiply the lesser of (1) or (2) by the applicable percentage, discussed earlier under Applicable Percentage. Tax 2012 Stop here if this is residential rental property or if (2) is equal to or more than (1). Tax 2012 This is the gain treated as ordinary income because of additional depreciation. Tax 2012 Subtract (2) from (1). Tax 2012 Figure the additional depreciation for periods after 1969 but before 1976. Tax 2012 Add the lesser of (4) or (5) to the result in (3). Tax 2012 This is the gain treated as ordinary income because of additional depreciation. Tax 2012 A limit on the amount treated as ordinary income for gain on like-kind exchanges and involuntary conversions is explained later. Tax 2012 Use Form 4797, Part III, to figure the ordinary income part of the gain. Tax 2012 Corporations. Tax 2012   Corporations, other than S corporations, must recognize an additional amount as ordinary income on the sale or other disposition of section 1250 property. Tax 2012 The additional amount treated as ordinary income is 20% of the excess of the amount that would have been ordinary income if the property were section 1245 property over the amount treated as ordinary income under section 1250. Tax 2012 Report this additional ordinary income on Form 4797, Part III, line 26 (f). Tax 2012 Installment Sales If you report the sale of property under the installment method, any depreciation recapture under section 1245 or 1250 is taxable as ordinary income in the year of sale. Tax 2012 This applies even if no payments are received in that year. Tax 2012 If the gain is more than the depreciation recapture income, report the rest of the gain using the rules of the installment method. Tax 2012 For this purpose, include the recapture income in your installment sale basis to determine your gross profit on the installment sale. Tax 2012 If you dispose of more than one asset in a single transaction, you must figure the gain on each asset separately so that it may be properly reported. Tax 2012 To do this, allocate the selling price and the payments you receive in the year of sale to each asset. Tax 2012 Report any depreciation recapture income in the year of sale before using the installment method for any remaining gain. Tax 2012 For a detailed discussion of installment sales, see Publication 537. Tax 2012 Gifts If you make a gift of depreciable personal property or real property, you do not have to report income on the transaction. Tax 2012 However, if the person who receives it (donee) sells or otherwise disposes of the property in a disposition subject to recapture, the donee must take into account the depreciation you deducted in figuring the gain to be reported as ordinary income. Tax 2012 For low-income housing, the donee must take into account the donor's holding period to figure the applicable percentage. Tax 2012 See Applicable Percentage and its discussion Holding period under Section 1250 Property, earlier. Tax 2012 Part gift and part sale or exchange. Tax 2012   If you transfer depreciable personal property or real property for less than its fair market value in a transaction considered to be partly a gift and partly a sale or exchange and you have a gain because the amount realized is more than your adjusted basis, you must report ordinary income (up to the amount of gain) to recapture depreciation. Tax 2012 If the depreciation (additional depreciation, if section 1250 property) is more than the gain, the balance is carried over to the transferee to be taken into account on any later disposition of the property. Tax 2012 However, see Bargain sale to charity, later. Tax 2012 Example. Tax 2012 You transferred depreciable personal property to your son for $20,000. Tax 2012 When transferred, the property had an adjusted basis to you of $10,000 and a fair market value of $40,000. Tax 2012 You took depreciation of $30,000. Tax 2012 You are considered to have made a gift of $20,000, the difference between the $40,000 fair market value and the $20,000 sale price to your son. Tax 2012 You have a taxable gain on the transfer of $10,000 ($20,000 sale price minus $10,000 adjusted basis) that must be reported as ordinary income from depreciation. Tax 2012 You report $10,000 of your $30,000 depreciation as ordinary income on the transfer of the property, so the remaining $20,000 depreciation is carried over to your son for him to take into account on any later disposition of the property. Tax 2012 Gift to charitable organization. Tax 2012   If you give property to a charitable organization, you figure your deduction for your charitable contribution by reducing the fair market value of the property by the ordinary income and short-term capital gain that would have resulted had you sold the property at its fair market value at the time of the contribution. Tax 2012 Thus, your deduction for depreciable real or personal property given to a charitable organization does not include the potential ordinary gain from depreciation. Tax 2012   You also may have to reduce the fair market value of the contributed property by the long-term capital gain (including any section 1231 gain) that would have resulted had the property been sold. Tax 2012 For more information, see Giving Property That Has Increased in Value in Publication 526. Tax 2012 Bargain sale to charity. Tax 2012   If you transfer section 1245 or section 1250 property to a charitable organization for less than its fair market value and a deduction for the contribution part of the transfer is allowable, your ordinary income from depreciation is figured under different rules. Tax 2012 First, figure the ordinary income as if you had sold the property at its fair market value. Tax 2012 Then, allocate that amount between the sale and the contribution parts of the transfer in the same proportion that you allocated your adjusted basis in the property to figure your gain. Tax 2012 See Bargain Sale under Gain or Loss From Sales and Exchanges in chapter 1. Tax 2012 Report as ordinary income the lesser of the ordinary income allocated to the sale or your gain from the sale. Tax 2012 Example. Tax 2012 You sold section 1245 property in a bargain sale to a charitable organization and are allowed a deduction for your contribution. Tax 2012 Your gain on the sale was $1,200, figured by allocating 20% of your adjusted basis in the property to the part sold. Tax 2012 If you had sold the property at its fair market value, your ordinary income would have been $5,000. Tax 2012 Your ordinary income is $1,000 ($5,000 × 20%) and your section 1231 gain is $200 ($1,200 – $1,000). Tax 2012 Transfers at Death When a taxpayer dies, no gain is reported on depreciable personal property or real property transferred to his or her estate or beneficiary. Tax 2012 For information on the tax liability of a decedent, see Publication 559, Survivors, Executors, and Administrators. Tax 2012 However, if the decedent disposed of the property while alive and, because of his or her method of accounting or for any other reason, the gain from the disposition is reportable by the estate or beneficiary, it must be reported in the same way the decedent would have had to report it if he or she were still alive. Tax 2012 Ordinary income due to depreciation must be reported on a transfer from an executor, administrator, or trustee to an heir, beneficiary, or other individual if the transfer is a sale or exchange on which gain is realized. Tax 2012 Example 1. Tax 2012 Janet Smith owned depreciable property that, upon her death, was inherited by her son. Tax 2012 No ordinary income from depreciation is reportable on the transfer, even though the value used for estate tax purposes is more than the adjusted basis of the property to Janet when she died. Tax 2012 However, if she sold the property before her death and realized a gain and if, because of her method of accounting, the proceeds from the sale are income in respect of a decedent reportable by her son, he must report ordinary income from depreciation. Tax 2012 Example 2. Tax 2012 The trustee of a trust created by a will transfers depreciable property to a beneficiary in satisfaction of a specific bequest of $10,000. Tax 2012 If the property had a value of $9,000 at the date used for estate tax valuation purposes, the $1,000 increase in value to the date of distribution is a gain realized by the trust. Tax 2012 Ordinary income from depreciation must be reported by the trust on the transfer. Tax 2012 Like-Kind Exchanges and Involuntary Conversions A like-kind exchange of your depreciable property or an involuntary conversion of the property into similar or related property will not result in your having to report ordinary income from depreciation unless money or property other than like-kind, similar, or related property is also received in the transaction. Tax 2012 For information on like-kind exchanges and involuntary conversions, see chapter 1. Tax 2012 Depreciable personal property. Tax 2012   If you have a gain from either a like-kind exchange or an involuntary conversion of your depreciable personal property, the amount to be reported as ordinary income from depreciation is the amount figured under the rules explained earlier (see Section 1245 Property), limited to the sum of the following amounts. Tax 2012 The gain that must be included in income under the rules for like-kind exchanges or involuntary conversions. Tax 2012 The fair market value of the like-kind, similar, or related property other than depreciable personal property acquired in the transaction. Tax 2012 Example 1. Tax 2012 You bought a new machine for $4,300 cash plus your old machine for which you were allowed a $1,360 trade-in. Tax 2012 The old machine cost you $5,000 two years ago. Tax 2012 You took depreciation deductions of $3,950. Tax 2012 Even though you deducted depreciation of $3,950, the $310 gain ($1,360 trade-in allowance minus $1,050 adjusted basis) is not reported because it is postponed under the rules for like-kind exchanges and you received only depreciable personal property in the exchange. Tax 2012 Example 2. Tax 2012 You bought office machinery for $1,500 two years ago and deducted $780 depreciation. Tax 2012 This year a fire destroyed the machinery and you received $1,200 from your fire insurance, realizing a gain of $480 ($1,200 − $720 adjusted basis). Tax 2012 You choose to postpone reporting gain, but replacement machinery cost you only $1,000. Tax 2012 Your taxable gain under the rules for involuntary conversions is limited to the remaining $200 insurance payment. Tax 2012 All your replacement property is depreciable personal property, so your ordinary income from depreciation is limited to $200. Tax 2012 Example 3. Tax 2012 A fire destroyed office machinery you bought for $116,000. Tax 2012 The depreciation deductions were $91,640 and the machinery had an adjusted basis of $24,360. Tax 2012 You received a $117,000 insurance payment, realizing a gain of $92,640. Tax 2012 You immediately spent $105,000 of the insurance payment for replacement machinery and $9,000 for stock that qualifies as replacement property and you choose to postpone reporting the gain. Tax 2012 $114,000 of the $117,000 insurance payment was used to buy replacement property, so the gain that must be included in income under the rules for involuntary conversions is the part not spent, or $3,000. Tax 2012 The part of the insurance payment ($9,000) used to buy the nondepreciable property (the stock) also must be included in figuring the gain from depreciation. Tax 2012 The amount you must report as ordinary income on the transaction is $12,000, figured as follows. Tax 2012 1) Gain realized on the transaction ($92,640) limited to depreciation ($91,640) $91,640 2) Gain includible in income (amount not spent) 3,000     Plus: fair market value of property other than depreciable personal property (the stock) 9,000 12,000 Amount reportable as ordinary income (lesser of (1) or (2)) $12,000   If, instead of buying $9,000 in stock, you bought $9,000 worth of depreciable personal property similar or related in use to the destroyed property, you would only report $3,000 as ordinary income. Tax 2012 Depreciable real property. Tax 2012   If you have a gain from either a like-kind exchange or involuntary conversion of your depreciable real property, ordinary income from additional depreciation is figured under the rules explained earlier (see Section 1250 Property), limited to the greater of the following amounts. Tax 2012 The gain that must be reported under the rules for like-kind exchanges or involuntary conversions plus the fair market value of stock bought as replacement property in acquiring control of a corporation. Tax 2012 The gain you would have had to report as ordinary income from additional depreciation had the transaction been a cash sale minus the cost (or fair market value in an exchange) of the depreciable real property acquired. Tax 2012   The ordinary income not reported for the year of the disposition is carried over to the depreciable real property acquired in the like-kind exchange or involuntary conversion as additional depreciation from the property disposed of. Tax 2012 Further, to figure the applicable percentage of additional depreciation to be treated as ordinary income, the holding period starts over for the new property. Tax 2012 Example. Tax 2012 The state paid you $116,000 when it condemned your depreciable real property for public use. Tax 2012 You bought other real property similar in use to the property condemned for $110,000 ($15,000 for depreciable real property and $95,000 for land). Tax 2012 You also bought stock for $5,000 to get control of a corporation owning property similar in use to the property condemned. Tax 2012 You choose to postpone reporting the gain. Tax 2012 If the transaction had been a sale for cash only, under the rules described earlier, $20,000 would have been reportable as ordinary income because of additional depreciation. Tax 2012 The ordinary income to be reported is $6,000, which is the greater of the following amounts. Tax 2012 The gain that must be reported under the rules for involuntary conversions, $1,000 ($116,000 − $115,000) plus the fair market value of stock bought as qualified replacement property, $5,000, for a total of $6,000. Tax 2012 The gain you would have had to report as ordinary income from additional depreciation ($20,000) had this transaction been a cash sale minus the cost of the depreciable real property bought ($15,000), or $5,000. Tax 2012   The ordinary income not reported, $14,000 ($20,000 − $6,000), is carried over to the depreciable real property you bought as additional depreciation. Tax 2012 Basis of property acquired. Tax 2012   If the ordinary income you have to report because of additional depreciation is limited, the total basis of the property you acquired is its fair market value (its cost, if bought to replace property involuntarily converted into money) minus the gain postponed. Tax 2012   If you acquired more than one item of property, allocate the total basis among the properties in proportion to their fair market value (their cost, in an involuntary conversion into money). Tax 2012 However, if you acquired both depreciable real property and other property, allocate the total basis as follows. Tax 2012 Subtract the ordinary income because of additional depreciation that you do not have to report from the fair market value (or cost) of the depreciable real property acquired. Tax 2012 Add the fair market value (or cost) of the other property acquired to the result in (1). Tax 2012 Divide the result in (1) by the result in (2). Tax 2012 Multiply the total basis by the result in (3). Tax 2012 This is the basis of the depreciable real property acquired. Tax 2012 If you acquired more than one item of depreciable real property, allocate this basis amount among the properties in proportion to their fair market value (or cost). Tax 2012 Subtract the result in (4) from the total basis. Tax 2012 This is the basis of the other property acquired. Tax 2012 If you acquired more than one item of other property, allocate this basis amount among the properties in proportion to their fair market value (or cost). Tax 2012 Example 1. Tax 2012 In 1988, low-income housing property that you acquired and placed in service in 1983 was destroyed by fire and you received a $90,000 insurance payment. Tax 2012 The property's adjusted basis was $38,400, with additional depreciation of $14,932. Tax 2012 On December 1, 1988, you used the insurance payment to acquire and place in service replacement low-income housing property. Tax 2012 Your realized gain from the involuntary conversion was $51,600 ($90,000 − $38,400). Tax 2012 You chose to postpone reporting the gain under the involuntary conversion rules. Tax 2012 Under the rules for depreciation recapture on real property, the ordinary gain was $14,932, but you did not have to report any of it because of the limit for involuntary conversions. Tax 2012 The basis of the replacement low-income housing property was its $90,000 cost minus the $51,600 gain you postponed, or $38,400. Tax 2012 The $14,932 ordinary gain you did not report is treated as additional depreciation on the replacement property. Tax 2012 If you sold the property in 2013, your holding period for figuring the applicable percentage of additional depreciation to report as ordinary income will have begun December 2, 1988, the day after you acquired the property. Tax 2012 Example 2. Tax 2012 John Adams received a $90,000 fire insurance payment for depreciable real property (office building) with an adjusted basis of $30,000. Tax 2012 He uses the whole payment to buy property similar in use, spending $42,000 for depreciable real property and $48,000 for land. Tax 2012 He chooses to postpone reporting the $60,000 gain realized on the involuntary conversion. Tax 2012 Of this gain, $10,000 is ordinary income from additional depreciation but is not reported because of the limit for involuntary conversions of depreciable real property. Tax 2012 The basis of the property bought is $30,000 ($90,000 − $60,000), allocated as follows. Tax 2012 The $42,000 cost of depreciable real property minus $10,000 ordinary income not reported is $32,000. Tax 2012 The $48,000 cost of other property (land) plus the $32,000 figured in (1) is $80,000. Tax 2012 The $32,000 figured in (1) divided by the $80,000 figured in (2) is 0. Tax 2012 4. Tax 2012 The basis of the depreciable real property is $12,000. Tax 2012 This is the $30,000 total basis multiplied by the 0. Tax 2012 4 figured in (3). Tax 2012 The basis of the other property (land) is $18,000. Tax 2012 This is the $30,000 total basis minus the $12,000 figured in (4). Tax 2012 The ordinary income that is not reported ($10,000) is carried over as additional depreciation to the depreciable real property that was bought and may be taxed as ordinary income on a later disposition. Tax 2012 Multiple Properties If you dispose of depreciable property and other property in one transaction and realize a gain, you must allocate the amount realized between the two types of property in proportion to their respective fair market values to figure the part of your gain to be reported as ordinary income from depreciation. Tax 2012 Different rules may apply to the allocation of the amount realized on the sale of a business that includes a group of assets. Tax 2012 See chapter 2. Tax 2012 In general, if a buyer and seller have adverse interests as to the allocation of the amount realized between the depreciable property and other property, any arm's length agreement between them will establish the allocation. Tax 2012 In the absence of an agreement, the allocation should be made by taking into account the appropriate facts and circumstances. Tax 2012 These include, but are not limited to, a comparison between the depreciable property and all the other property being disposed of in the transaction. Tax 2012 The comparison should take into account all the following facts and circumstances. Tax 2012 The original cost and reproduction cost of construction, erection, or production. Tax 2012 The remaining economic useful life. Tax 2012 The state of obsolescence. Tax 2012 The anticipated expenditures required to maintain, renovate, or modernize the properties. Tax 2012 Like-kind exchanges and involuntary conversions. Tax 2012   If you dispose of and acquire depreciable personal property and other property (other than depreciable real property) in a like-kind exchange or involuntary conversion, the amount realized is allocated in the following way. Tax 2012 The amount allocated to the depreciable personal property disposed of is treated as consisting of, first, the fair market value of the depreciable personal property acquired and, second (to the extent of any remaining balance), the fair market value of the other property acquired. Tax 2012 The amount allocated to the other property disposed of is treated as consisting of the fair market value of all property acquired that has not already been taken into account. Tax 2012   If you dispose of and acquire depreciable real property and other property in a like-kind exchange or involuntary conversion, the amount realized is allocated in the following way. Tax 2012 The amount allocated to each of the three types of property (depreciable real property, depreciable personal property, or other property) disposed of is treated as consisting of, first, the fair market value of that type of property acquired and, second (to the extent of any remaining balance), any excess fair market value of the other types of property acquired. Tax 2012 If the excess fair market value is more than the remaining balance of the amount realized and is from both of the other two types of property, you can apply the unallocated amount in any manner you choose. Tax 2012 Example. Tax 2012 A fire destroyed your property with a total fair market value of $50,000. Tax 2012 It consisted of machinery worth $30,000 and nondepreciable property worth $20,000. Tax 2012 You received an insurance payment of $40,000 and immediately used it with $10,000 of your own funds (for a total of $50,000) to buy machinery with a fair market value of $15,000 and nondepreciable property with a fair market value of $35,000. Tax 2012 The adjusted basis of the destroyed machinery was $5,000 and your depreciation on it was $35,000. Tax 2012 You choose to postpone reporting your gain from the involuntary conversion. Tax 2012 You must report $9,000 as ordinary income from depreciation arising from this transaction, figured as follows. Tax 2012 The $40,000 insurance payment must be allocated between the machinery and the other property destroyed in proportion to the fair market value of each. Tax 2012 The amount allocated to the machinery is 30,000/50,000 × $40,000, or $24,000. Tax 2012 The amount allocated to the other property is 20,000/50,000 × $40,000, or $16,000. Tax 2012 Your gain on the involuntary conversion of the machinery is $24,000 minus $5,000 adjusted basis, or $19,000. Tax 2012 The $24,000 allocated to the machinery disposed of is treated as consisting of the $15,000 fair market value of the replacement machinery bought and $9,000 of the fair market value of other property bought in the transaction. Tax 2012 All $16,000 allocated to the other property disposed of is treated as consisting of the fair market value of the other property that was bought. Tax 2012 Your potential ordinary income from depreciation is $19,000, the gain on the machinery, because it is less than the $35,000 depreciation. Tax 2012 However, the amount you must report as ordinary income is limited to the $9,000 included in the amount realized for the machinery that represents the fair market value of property other than the depreciable property you bought. Tax 2012 Prev  Up  Next   Home   More Online Publications
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The Tax 2012

Tax 2012 Publication 908 - Main Content Table of Contents Bankruptcy Code Tax Compliance RequirementsTax Returns Due for Periods Ending Before the Bankruptcy Filing in Chapter 13 Cases Tax Returns Due After the Bankruptcy Filing Individuals in Chapter 12 or 13 Individuals in Chapter 7 or 11Debtor's Election To End Tax Year – Form 1040 Taxes and the Bankruptcy Estate Bankruptcy Estate – Income, Deductions, and Credits Tax Reporting – Chapter 11 Cases Bankruptcy Estate Tax Return Filing Requirements and Payment of Tax Due Tax Return Example – Form 1041 Partnerships and CorporationsFiling Requirements Partnerships Corporations Receiverships Determination of TaxPrompt Determination Requests Court Jurisdiction Over Tax MattersBankruptcy Court Tax Court Federal Tax ClaimsUnsecured Tax Claims Discharge of Unpaid Tax Debt CancellationExclusions Reduction of Tax Attributes Partnerships Corporations Tax Attribute Reduction Example How To Get Tax HelpTaxpayer Advocacy Panel (TAP). Tax 2012 Low Income Taxpayer Clinics (LITCs). Tax 2012 Bankruptcy Code Tax Compliance Requirements Tax Returns Due for Periods Ending Before the Bankruptcy Filing in Chapter 13 Cases The Bankruptcy Code requires chapter 13 debtors to file all required tax returns for tax periods ending within 4 years of the debtor's bankruptcy filing. Tax 2012 All such federal tax returns must be filed with the IRS before the date first set for the first meeting of creditors. Tax 2012 The debtor may request the trustee to hold the meeting open for an additional 120 days to enable the debtor to file the returns (or until the day the returns are due under an automatic IRS extension, if later). Tax 2012 After notice and hearing, the bankruptcy court may extend the period for another 30 days. Tax 2012 Failure to timely file the returns can prevent confirmation of a chapter 13 plan and result in either dismissal of the chapter 13 case or conversion to a chapter 7 case. Tax 2012 Note. Tax 2012 Individual debtors should use their home address when filing Form 1040 with the IRS. Tax 2012 Returns should not be filed “in care of” the trustee's address. Tax 2012 Ordering tax transcripts and copies of returns. Tax 2012   Trustees may require the debtor to submit copies or transcripts of the debtor's returns as proof of filing. Tax 2012 The debtor can request free transcripts of the debtor's income tax returns by filing Form 4506-T, Request for Transcript of Tax Return, with the IRS or by placing a request on the IRS's free Automated Delivery Service (ADS), available by calling 1-800-829-1040. Tax 2012 If requested through ADS, the transcript will be mailed to the debtor's most current address according to the IRS's records. Tax 2012 Transcripts requested using Form 4506-T may be mailed to any address, including to the attention of the trustee in the debtor's bankruptcy case. Tax 2012 Transcripts are normally mailed within 10 to 15 days of receipt of the request by the IRS. Tax 2012 A transcript contains most of the information on the debtor's filed return, but it is not a copy of the return. Tax 2012 To request a copy of the debtor's filed return, file Form 4506, Request for Copy of Tax Return. Tax 2012 It may take up to 60 days for the IRS to provide the copies after receipt of the debtor's request, and there is a fee of $57. Tax 2012 00 per tax return for copies of the returns. Tax 2012 Tax Returns Due After the Bankruptcy Filing For debtors filing bankruptcy under all chapters (chapters 7, 11, 12, or 13), the Bankruptcy Code provides that if the debtor does not file a tax return that becomes due after the commencement of the bankruptcy case, or obtain an extension for filing the return before the due date, the taxing authority may request that the bankruptcy court either dismiss the case or convert the case to a case under another chapter of the Bankruptcy Code. Tax 2012 If the debtor does not file the required return or obtain an extension within 90 days after the request is made, the bankruptcy court must dismiss or convert the case. Tax 2012 Tax returns and payment of taxes in chapter 11 cases. Tax 2012   The Bankruptcy Code provides that a chapter 11 debtor's failure to timely file tax returns and pay taxes owed after the date of the “order for relief” (the bankruptcy petition date in voluntary cases) is cause for dismissal of the chapter 11 case, conversion to a chapter 7 case, or appointment of a chapter 11 trustee. Tax 2012 Disclosure of debtor's return information to trustee. Tax 2012   In bankruptcy cases filed under chapter 7 or 11 by individuals, the debtor's income tax returns for the year the bankruptcy case begins and for earlier years are, upon written request, open to inspection by or disclosure to the trustee. Tax 2012 If the bankruptcy case was not voluntary, disclosure cannot be made before the bankruptcy court has entered an order for relief, unless the court rules that the disclosure is needed for determining whether relief should be ordered. Tax 2012    In bankruptcy cases other than those of individuals filing under chapter 7 or 11, the debtor's income tax returns for the current and prior years are, upon written request, open to inspection by or disclosure to the trustee, but only if the IRS finds that the trustee has a material interest that will be affected by information on the return. Tax 2012 Material interest is generally defined as a financial or monetary interest. Tax 2012 Material interest is not limited to the trustee's responsibility to file a return on behalf of the bankruptcy estate. Tax 2012   However, the U. Tax 2012 S. Tax 2012 Trustee (an officer of the Department of Justice, responsible for maintaining and supervising a panel of private trustees for chapter 7 bankruptcy cases) and the standing chapter 13 trustee (the administrator of chapter 13 cases in a specific geographic region) generally do not have a material interest in the debtor’s return or return information. Tax 2012 Disclosure of bankruptcy estate's return information to debtor. Tax 2012    The bankruptcy estate's tax return(s) are open, upon written request, to inspection by or disclosure to the individual debtor in a chapter 7 or 11 bankruptcy. Tax 2012 Disclosure of the estate's return to the debtor may be necessary to enable the debtor to determine the amount and nature of the tax attributes, if any, that the debtor assumes when the bankruptcy estate terminates. Tax 2012 Individuals in Chapter 12 or 13 Only individuals may file a chapter 13 bankruptcy. Tax 2012 Chapter 13 relief is not available to corporations or partnerships. Tax 2012 The bankruptcy estate is not treated as a separate entity for tax purposes when an individual files a petition under chapter 12 (Adjustment of Debts of a Family Farmer or Fisherman with Regular Annual Income) or 13 (Adjustment of Debts of an Individual with Regular Income) of the Bankruptcy Code. Tax 2012 In these cases the individual continues to file the same federal income tax returns that were filed prior to the bankruptcy petition, Form 1040, U. Tax 2012 S. Tax 2012 Individual Income Tax Return. Tax 2012 On the debtor's individual tax return, Form 1040, report all income received during the entire year and deduct all allowable expenses. Tax 2012 Do not include in income the amount from any debt canceled due to the debtor's bankruptcy. Tax 2012 To the extent the debtor has any losses, credits, or basis in property that were previously reduced as a result of canceled debt, these reductions must be included on the debtor's return. Tax 2012 See Debt Cancellation, later. Tax 2012 Interest on trust accounts in chapter 13 cases. Tax 2012   In chapter 13 proceedings, do not include interest earned on amounts held by the trustee in trust accounts as income on the debtor's return. Tax 2012 This interest is not available to either the debtor or creditors, it is available only to the trustee for use by the U. Tax 2012 S. Tax 2012 Trustee system. Tax 2012 The interest is also not taxable to the trustee as income. Tax 2012 Individuals in Chapter 7 or 11 When an individual debtor files for bankruptcy under chapter 7 or 11 of the Bankruptcy Code, the bankruptcy estate is treated as a new taxable entity, separate from the individual taxpayer. Tax 2012 The bankruptcy estate in a chapter 7 case is represented by a trustee. Tax 2012 The trustee is appointed to administer the estate and liquidate any nonexempt assets. Tax 2012 In chapter 11 cases, the debtor often remains in control of the assets as a “debtor-in-possession” and acts as the bankruptcy trustee. Tax 2012 However, the bankruptcy court, for cause, may appoint a trustee if such appointment is in the best interests of the creditors and the estate. Tax 2012 During the chapter 7 or 11 bankruptcy, the debtor continues to file an individual tax return on Form 1040. Tax 2012 The bankruptcy trustee files a Form 1041 for the bankruptcy estate. Tax 2012 However, when a debtor in a chapter 11 bankruptcy case remains a debtor-in-possession, he or she must file both a Form 1040 individual return and a Form 1041 estate return for the bankruptcy estate (if return filing requirements are met). Tax 2012 Although a husband and wife may file a joint bankruptcy petition whose bankruptcy estates are jointly administered, the estates are be treated as two separate entities for tax purposes. Tax 2012 Two separate bankruptcy estate income tax returns must be filed (if each spouse separately meets the filing requirements). Tax 2012 For information about determining the tax due and paying tax for a chapter 7 or 11 bankruptcy estate, see Bankruptcy Estate Tax Return Filing Requirements and Payment of Tax Due, later. Tax 2012 Debtor's Election To End Tax Year – Form 1040 Short tax years. Tax 2012   An individual debtor in a chapter 7 or 11 case may elect to close the debtor's tax year for the year in which the bankruptcy petition is filed, as of the day before the date on which the bankruptcy case commences. Tax 2012 If the debtor makes this election, the debtor's tax year is divided into 2 short tax years of less than 12 months each. Tax 2012 The first tax year ends on the day before the commencement date and the second tax year begins on the commencement date. Tax 2012   If the election is made, the debtor's federal income tax liability for the first short tax year becomes an allowable claim against the bankruptcy estate arising before the bankruptcy filing. Tax 2012 Also, the tax liability for the first short tax year is not subject to discharge under the Bankruptcy Code. Tax 2012    If the debtor does not make an election to end the tax year, the commencement of the bankruptcy case does not affect the debtor's tax year. Tax 2012 Also, no part of the debtor's income tax liability for the year in which the bankruptcy case commences can be collected from the bankruptcy estate. Tax 2012 Note. Tax 2012 The debtor cannot make a short tax year election if no assets, other than exempt property, are in the bankruptcy estate. Tax 2012 Making the Election - Filing Requirements First short tax year. Tax 2012   The debtor can elect to end the debtor's tax year by filing a return on Form 1040 for the first short tax year. Tax 2012 The return must be filed on or before the 15th day of the fourth full month after the end of that first tax year. Tax 2012 Second short tax year. Tax 2012   If the debtor elects to end the tax year on the day before filing the bankruptcy case, the debtor must file the return for the first short tax year in the manner discussed above. Tax 2012   If the debtor makes this election, the debtor must also file a separate Form 1040 for the second short tax year by the regular due date. Tax 2012 To avoid delays in processing the return, write “Second Short Year Return After Section 1398 Election” at the top of the return. Tax 2012 Example. Tax 2012 Jane Doe, an individual calendar year taxpayer, filed a bankruptcy petition under chapter 7 or 11 on May 8, 2012. Tax 2012 If Jane elected to close her tax year at the commencement of her case, Jane's first short year for 2012 runs from January 1 through May 7, 2012. Tax 2012 Jane's second short year runs from May 8, 2012, through December 31, 2012. Tax 2012 To have a timely filed election for the first short year, Jane must file Form 1040 (or an extension of time to file) for the period January 1 through May 7 by September 15. Tax 2012 To avoid delays in processing the return, write “Section 1398 Election” at the top of the return. Tax 2012 The debtor may also make the election by attaching a statement to Form 4868, Automatic Extension of Time to File an U. Tax 2012 S. Tax 2012 Individual Tax Return. Tax 2012 The statement must state that the debtor elects under IRC section 1398(d)(2) to close the debtor's tax year on the day before filing the bankruptcy case. Tax 2012 The debtor must file Form 4868 by the due date of the return for the first short tax year. Tax 2012 The debtor's spouse may also elect to close his or her tax year, see Election by debtor's spouse, below. Tax 2012 Election by debtor's spouse. Tax 2012   If the debtor is married, the debtor's spouse may join in the election to end the tax year. Tax 2012 If the debtor and spouse make a joint election, the debtor must file a joint return for the first short tax year. Tax 2012 The debtor must elect by the due date for filing the return for the first short tax year. Tax 2012 Once the election is made, it cannot be revoked for the first short tax year. Tax 2012 However, the election does not prevent the debtor and the spouse from filing separate returns for the second short tax year. Tax 2012 Later bankruptcy of spouse. Tax 2012    If the debtor's spouse files for bankruptcy later in the same year, he or she may also choose to end his or her tax year, regardless of whether he or she joined in the election to end the debtor's tax year. Tax 2012   As each spouse has a separate bankruptcy, one or both of them may have 3 short tax years in the same calendar year. Tax 2012 If the debtor's spouse joined the debtor's election or if the debtor had not made the election to end the tax year, the debtor can join in the spouse's election. Tax 2012 However, if the debtor made an election and the spouse did not join that election, the debtor cannot then join the spouse's later election. Tax 2012 The debtor and the spouse are precluded from this election because they have different tax years. Tax 2012 This results because the debtor does not have a tax year ending the day before the spouse's filing for bankruptcy, and the debtor cannot file a joint return for a year ending on the day before the spouse's filing of bankruptcy. Tax 2012 Example 1. Tax 2012 Paul and Mary Harris are calendar-year taxpayers. Tax 2012 Paul's voluntary chapter 7 bankruptcy case begins on March 4. Tax 2012 If Paul does not make an election, his tax year does not end on March 3. Tax 2012 If he makes an election, Paul's first tax year is January 1–March 3, and his second tax year begins on March 4. Tax 2012 Mary could join in Paul's election as long as they file a joint return for the tax year January 1–March 3. Tax 2012 They must make the election by July 15, the due date for filing the joint return. Tax 2012 Example 2. Tax 2012 Fred and Ethel Barnes are calendar-year taxpayers. Tax 2012 Fred's voluntary chapter 7 bankruptcy case begins on May 6, and Ethel's bankruptcy case begins on November 1 of the same year. Tax 2012 Ethel could elect to end her tax year on October 31. Tax 2012 If Fred did not elect to end his tax year on May 5, or if he elected to do so but Ethel had not joined in his election, Ethel would have 2 tax years in the same calendar year if she decided to close her tax year. Tax 2012 Her first tax year is January 1–October 31, and her second year is November 1–December 31. Tax 2012 If Fred did not end his tax year as of May 5, he could join in Ethel's election to close her tax year on October 31, but only if they file a joint return for the tax year January 1–October 31. Tax 2012 If Fred elected to end his tax year on May 5, but Ethel did not join in Fred's election, Fred cannot join in Ethel's election to end her tax year on October 31. Tax 2012 Fred and Ethel cannot file a joint return for that short tax year because their tax years preceding October 31 were not the same. Tax 2012 Example 3. Tax 2012 Jack and Karen Thomas are calendar-year taxpayers. Tax 2012 Karen's voluntary chapter 7 bankruptcy case began on April 10, and Jack's voluntary chapter 7 bankruptcy case began on October 3 of the same year. Tax 2012 Karen elected to close her tax year on April 9 and Jack joins in Karen's election. Tax 2012 Under these facts, Jack would have 3 tax years for the same calendar year if he makes the election relating to his own bankruptcy case. Tax 2012 The first tax year would be January 1–April 9; the second, April 10–October 2; and the third, October 3–December 31. Tax 2012 Karen may join in Jack's election if they file a joint return for the second short tax year (April 10–October 2). Tax 2012 If Karen does join in, she would have the same 3 short tax years as Jack. Tax 2012 Also, if Karen joins in Jack's election, they may file a joint return for the third tax year (October 3–December 31), but they are not required to do so. Tax 2012 Annualizing taxable income. Tax 2012   If the debtor elects to close the tax year, the debtor must annualize taxable income for each short tax year in the same manner a change in annual accounting period is calculated. Tax 2012 See Short Tax Year in Publication 538, for information on how to annualize the debtor's income and to figure the tax for the short tax year. Tax 2012 Dismissal of bankruptcy case. Tax 2012   If the bankruptcy court later dismisses an individual chapter 7 or 11 case, the bankruptcy estate is no longer treated as a separate taxable entity. Tax 2012 It is as if no bankruptcy estate was created for tax purposes. Tax 2012 In this situation, the debtor must file amended tax returns on Form 1040X, to replace all full or short year individual returns (Form 1040) and bankruptcy estate returns (Form 1041) filed as a result of the bankruptcy case. Tax 2012 Income, deductions, and credits previously reported by the bankruptcy estate must be reported on the debtor's amended returns. Tax 2012 Attach a statement to the amended returns explaining why the debtor is filing an amended return. Tax 2012 Taxes and the Bankruptcy Estate Property of the bankruptcy estate. Tax 2012   At the commencement of a bankruptcy case a bankruptcy estate is created. Tax 2012 Bankruptcy law determines which of the debtor's assets become part of a bankruptcy estate. Tax 2012 This estate generally includes all of the debtor's legal and equitable interests in property as of the commencement date. Tax 2012 However, there are exceptions and certain property is exempted or excluded from the bankruptcy estate. Tax 2012 Note. Tax 2012 Exempt property and abandoned property are initially part of the bankruptcy estate, but are subsequently removed from the estate. Tax 2012 Excluded property is never included in the estate. Tax 2012 Transfer of assets between debtor and bankruptcy estate. Tax 2012   The transfer (other than by sale or exchange) of an asset from the debtor to the bankruptcy estate is not treated as a disposition for income tax purposes. Tax 2012 The transfer does not result in gain or loss, acceleration of income or deductions, or recapture of deductions or credits. Tax 2012 For example, the transfer of an installment obligation to the estate would not accelerate gain under the rules for reporting installment sales. Tax 2012 The estate assumes the same basis, holding period, and character of the transferred assets. Tax 2012 Also, the estate generally accounts for the transferred assets in the same manner as debtor. Tax 2012   When the bankruptcy estate is terminated or dissolved, any resulting transfer (other than by sale or exchange) of the estate's assets back to the debtor is also not treated as a disposition for tax purposes. Tax 2012 The transfer does not result in gain or loss, acceleration of income or deductions, or recapture of deductions or credits to the estate. Tax 2012 Abandoned property. Tax 2012    The abandonment of property by the estate to the debtor is a nontaxable disposition of property. Tax 2012 If the debtor received abandoned property from the bankruptcy estate, the debtor assumes the same basis in the property that the bankruptcy estate had. Tax 2012 Separate taxable entity. Tax 2012   When an individual files a bankruptcy petition under chapter 7 or 11, the bankruptcy estate is treated as a separate taxable entity from the debtor. Tax 2012 The court appointed trustee or the debtor-in-possession is responsible for preparing and filing all of the bankruptcy estate's tax returns, including its income tax return on Form 1041, U. Tax 2012 S. Tax 2012 Income Tax Return for Estates and Trusts, and paying its taxes. Tax 2012 The debtor remains responsible for filing his or her own returns on Form 1040, U. Tax 2012 S. Tax 2012 Individual Income Tax Return, and paying taxes on income that does not belong to the estate. Tax 2012 Employer identification number. Tax 2012   The trustee or debtor-in-possession must obtain an EIN for a bankruptcy estate. Tax 2012 The trustee or debtor-in-possession uses this EIN on all tax returns filed for the bankruptcy estate with the IRS, including estimated tax returns. Tax 2012 See Employer identification number, under Bankruptcy Estate Tax Return Filing Requirements and Payment of Tax Due, later. Tax 2012    The social security number of the individual debtor cannot be used as the EIN for the bankruptcy estate. Tax 2012 Income, deductions, and credits – Form 1040. Tax 2012   In an individual chapter 7 or 11 bankruptcy case, do not include the income, deductions, and credits that belong to the bankruptcy estate on the debtor's individual income tax return (Form 1040). Tax 2012 Also, do not include as income on the debtor's return the amount of any debt canceled by reason of the bankruptcy discharge. Tax 2012 The bankruptcy estate must reduce certain losses, credits, and the basis in property (to the extent of these items) by the amount of canceled debt. Tax 2012 See Debt Cancellation, below. Tax 2012 Note. Tax 2012 The debtor may not be able to claim certain deductions available to the bankruptcy estate such as administrative expenses. Tax 2012 Additionally, the bankruptcy exclusion cannot be used to exclude income from a cancelled debt if the discharge of indebtedness was not within the bankruptcy case, even though the debtor was under the bankruptcy court's protection at the time. Tax 2012 However, other exclusions, such as the insolvency exclusion, may apply. Tax 2012 Bankruptcy Estate – Income, Deductions, and Credits Bankruptcy Estate Income Income of the estate in individual chapter 7 cases. Tax 2012    The gross income of the bankruptcy estate includes gross income of the debtor to which the estate is entitled under the Bankruptcy Code. Tax 2012 Gross income also includes income generated by the bankruptcy estate from property of the estate after the commencement of the case. Tax 2012   Gross income of the bankruptcy estate does not include amounts received or accrued by the debtor before the commencement of the case. Tax 2012 Additionally, in chapter 7 cases, gross income of the bankruptcy estate does not include any income that the debtor earns after the date of the bankruptcy petition. Tax 2012 Income of the estate in individual chapter 11 cases. Tax 2012    In chapter 11 cases, under IRC section 1398(e)(1), gross income of the bankruptcy estate includes income that the debtor earns for services performed after the bankruptcy petition date. Tax 2012 Also, earnings from services performed by an individual debtor after the commencement of the chapter 11 case are property of the bankruptcy estate under section 1115 of the Bankruptcy Code (11 U. Tax 2012 S. Tax 2012 C. Tax 2012 section 1115). Tax 2012 Note. Tax 2012 A debtor-in-possession may be compensated by the estate for managing or operating a trade or business that the debtor conducted before the commencement of the bankruptcy case. Tax 2012 Such payments should be reported by the debtor as miscellaneous income on his or her individual income tax return (Form 1040). Tax 2012 Amounts paid by the estate to the debtor-in-possession for managing or operating the trade or business may qualify as administrative expenses of the estate. Tax 2012 See Administrative expenses, below. Tax 2012 Conversion or dismissal of chapter 11 cases. Tax 2012   If a chapter 11 case is converted to a chapter 13 case, the chapter 13 estate is not a separate taxable entity and earnings from post-conversion services and income from property of the estate realized after the conversion to chapter 13 are taxed to the debtor. Tax 2012 If the chapter 11 case is converted to a chapter 7 case, 11 U. Tax 2012 S. Tax 2012 C. Tax 2012 section 1115 does not apply after conversion and: Earnings from post-conversion services will be taxed to the debtor, rather than the estate, and The property of the chapter 11 estate will become property of the chapter 7 estate. Tax 2012 Any income on this property will be taxed to the estate even if the income is realized after the conversion to chapter 7. Tax 2012 If a chapter 11 case is dismissed, the debtor is treated as if the bankruptcy case had never been filed and as if no bankruptcy estate had been created. Tax 2012 Bankruptcy Estate Deductions and Credits A bankruptcy estate deducts expenses incurred in a trade, business, or activity, and uses credits in the same way the debtor would have deducted or credited them had he or she continued operations. Tax 2012 Note. Tax 2012 Expenses may be disallowed under other provisions of the IRC (such as the disallowance of certain capital expenditures or expenses relating to tax-exempt interest). Tax 2012 Administrative expenses. Tax 2012   Allowable expenses include administrative expenses. Tax 2012    Administrative expenses can only be deducted by the estate, never by the debtor. Tax 2012   The bankruptcy estate is allowed deductions for bankruptcy administrative expenses and fees, including accounting fees, attorney fees, and court costs. Tax 2012 These expenses are deductible on Form 1040, Schedule A as miscellaneous itemized deductions not subject to the 2% floor on miscellaneous itemized deductions, because they would not have been incurred if property had not been held by the bankruptcy estate. Tax 2012 See IRC section 67(e). Tax 2012 Administrative expenses of the bankruptcy estate attributable to conducting a trade or business for the production of estate rents or royalties are deductible in arriving at adjusted gross income on Form 1040, Schedules C, E, and F. Tax 2012 Note. Tax 2012 The bankruptcy estate uses Form 1041 as a transmittal for the tax return prepared using Form 1040 and its schedules. Tax 2012 See Transmittal for Form 1040 under Tax Return Filing Requirements and Payment of Tax, later. Tax 2012 Administrative expense loss. Tax 2012   If the administrative expenses of the bankruptcy estate are more than its gross income for a tax year, the excess amount may be carried back 3 years and forward 7 years. Tax 2012 The amounts can only be carried to a tax year of the estate and never to a debtor's tax year. Tax 2012 The excess amount to be carried back or forward is treated like a net operating loss (NOL) and must first be carried back to the earliest year possible. Tax 2012 For a discussion of NOLs, see Publication 536. Tax 2012 Attribute carryovers. Tax 2012   The bankruptcy estate may use its tax attributes the same way that the debtor would have used them. Tax 2012 These items are determined as of the first day of the debtor's tax year in which the bankruptcy case begins. Tax 2012 The bankruptcy estate assumes the following tax attributes from the debtor: NOL carryovers, Carryovers of excess charitable contributions, Recovery of tax benefit items, Credit carryovers, Capital loss carryovers, Basis, holding period, and character of assets, Method of accounting, Passive activity loss and credit carryovers, Unused at-risk deductions, and Other tax attributes provided in the regulations. Tax 2012   Certain tax attributes of the bankruptcy estate must be reduced by the amount of income that was previously excluded as a result of cancellation of debt during the bankruptcy proceeding. Tax 2012 See Debt Cancellation, later. Tax 2012   When the bankruptcy estate is terminated (for example, when the case ends), the debtor assumes any remaining tax attributes previously taken over by the bankruptcy estate. Tax 2012 The debtor also generally assumes any of the tax attributes, listed above, that arose during the administration of the bankruptcy estate. Tax 2012 Note. Tax 2012 The debtor does not assume the bankruptcy estate's administrative expense losses because they cannot be used by an individual taxpayer filing Form 1040. Tax 2012 See Administrative expense loss, above. Tax 2012 Passive and at-risk activities. Tax 2012   For bankruptcy cases beginning after November 8, 1992, passive activity carryover losses and credits and unused at-risk deductions are treated as tax attributes passing from the debtor to the bankruptcy estate, which the estate then passes back to the debtor when the bankruptcy estate terminates. Tax 2012 Additionally, transfers to the debtor (other than by sale or exchange) of interests in passive or at-risk activities are treated as non-taxable exchanges. Tax 2012 These transfers include the return of exempt property and abandonment of estate property to the debtor. Tax 2012 Carrybacks from the debtor's activities. Tax 2012   The debtor cannot carry back any NOL or credit carryback from a tax year ending after the bankruptcy case has begun to any tax year ending before the case began. Tax 2012 Carrybacks from the bankruptcy estate. Tax 2012   If the bankruptcy estate has an NOL that did not pass to the estate from the debtor under the attribute carryover rules, the estate can carry the loss back not only to its own earlier tax years but also to the debtor's tax years before the year the bankruptcy case began. Tax 2012 The estate may also carry back excess credits, such as the general business credit, to the pre-bankruptcy tax years. Tax 2012 Tax Reporting – Chapter 11 Cases Allocation of income and credits on information returns and required statement for returns for individual chapter 11 cases. Tax 2012    In chapter 11 cases, when an employer issues a Form W-2 reporting all of the debtor's wages, salary, or other compensation for a calendar year, and a portion of the earnings represent post-petition services includible in the estate's gross income, the Form W-2 amounts must be allocated between the estate and the debtor. Tax 2012 The debtor-in-possession or trustee must allocate the income amount reported in box 1 and the income tax withheld reported in box 2 between the debtor and the estate. Tax 2012 These allocations must reflect that the debtor's gross earnings from post-petition services and gross income from post-petition property are, generally, includible in the estate's gross income and not the debtor's gross income. Tax 2012 The debtor and trustee may use a simple percentage method to allocate income and income tax withheld. Tax 2012 The same method must be used to allocate the income and the withheld tax. Tax 2012 Example. Tax 2012 If 20% of the wages reported on Form W-2 for a calendar year were earned after the commencement of the case and are included in the estate's gross income, 20% of the withheld income tax reported on Form W-2 must also be claimed as a credit on the estate's income tax return. Tax 2012 Likewise, 80% of wages must be reported by the debtor and 80% of the income tax withheld must be claimed as a credit on the debtor's income tax return. Tax 2012 See IRC section 31(a). Tax 2012   If information returns are issued to the debtor for gross income, gross proceeds, or other reportable payments that should have been reported to the bankruptcy estate, the debtor-in-possession or trustee must allocate the improperly reported income in a reasonable manner between the debtor and the estate. Tax 2012 In general, the allocation must ensure that any income and income tax withheld attributable to the post-petition period is reported on the estate's return, and any income and income tax withheld attributable to the pre-petition period is reported on the debtor's return. Tax 2012    IRS Notice 2006-83 requires the debtor to attach a statement to his or her individual income tax return (Form 1040) stating that the return is filed subject to a chapter 11 bankruptcy case. Tax 2012 The statement must also: Show the allocations of income and income tax withheld, Describe the method used to allocate income and income tax withheld, and List the filing date of the bankruptcy case, the bankruptcy court in which the case is pending, the bankruptcy court case number, and the bankruptcy estate's EIN. Tax 2012 Note. Tax 2012 The debtor-in-possession or trustee must attach a similar statement to the bankruptcy estate's income tax return (Form 1041). Tax 2012   The model Notice 2006-83 Statement, shown above, may be used by debtors, debtors-in-possession, and trustees to satisfy the reporting requirement. Tax 2012 Self-employment taxes in individual chapter 11 cases. Tax 2012   IRC section 1401 imposes a tax upon the self-employment income, that is, the net earnings from self-employment of an individual. Tax 2012 Net earnings from self-employment are equal to the gross income derived by an individual from any trade or business carried on by such individual, less deductions attributable to the business. Tax 2012   Neither section 1115 of the Bankruptcy Code nor IRC section 1398 addresses the application of self-employment tax to the post-petition earnings of the individual debtor. Tax 2012 Therefore, if the debtor continues to derive gross income from the performance of services as a self-employed individual after the commencement of the bankruptcy case, the debtor must continue to report the debtor's self-employment income on Schedule SE (Form 1040) of the debtor's income tax return. Tax 2012 This schedule includes self-employment income earned post-petition and the attributable deductions. Tax 2012 The debtor must pay any self-employment tax imposed by IRC section 1401. Tax 2012 Employment taxes and employer's obligation to file Form W-2 in individual chapter 11 cases. Tax 2012   In chapter 11 cases, post-petition wages earned by a debtor are generally treated as gross income of the estate. Tax 2012 However, section 1115 of the Bankruptcy Code (11 U. Tax 2012 S. Tax 2012 C. Tax 2012 section 1115) does not affect the determination of what are deemed wages for Federal Insurance Contributions Act (FICA) tax, Federal Unemployment Tax Act (FUTA) tax, or Federal Income Tax Withholding purposes. Tax 2012 See Notice 2006-83. Tax 2012   The reporting and withholding obligations of a debtor's employer also do not change. Tax 2012 An employer should continue to report the wages and tax withholding on a Form W-2 issued under the debtor's name and social security number. Tax 2012 Notice to persons required to file information returns (other than Form W-2, Wage and Tax Statement) in individual chapter 11 cases. Tax 2012   Within a reasonable time after the commencement of a chapter 11 bankruptcy case, the trustee or debtor-in-possession should provide notification of the bankruptcy estate's EIN to all persons (or entities) that are required to file information returns for the bankruptcy estate's gross income, gross proceeds, or other types of reportable payments. Tax 2012 See IRC section 6109(a)(2). Tax 2012 As these payments are the property of the estate under section 1115 of the Bankruptcy Code, the payors should report the gross income, gross proceeds, or other reportable payments on the appropriate information return using the estate's name and EIN as required under the IRC and regulations (see IRC sections 6041 through 6049). Tax 2012   The trustee or debtor-in-possession should not, however, provide the EIN to a person (or entity) filing Form W-2 reporting the debtor's wages or other compensation, as section 1115 of the Bankruptcy Code does not affect the determination of what constitutes wages for purposes of federal income tax withholding or FICA. Tax 2012 See Notice 2006-83. Tax 2012 An employer should continue to report all wage income and tax withholding, both pre-petition and post-petition, on a Form W-2 to the debtor under the debtor's social security number. Tax 2012   The debtor in a chapter 11 case is not required to file a new Form W-4 with an employer solely because the debtor filed a chapter 11 case and the post-petition wages are includible in the estate's income and not the debtor's income. Tax 2012 However, a new Form W-4 may be necessary if the debtor is no longer entitled to claim the same number of allowances previously claimed because certain deductions or credits now belong to the estate. Tax 2012 See Employment Tax Regulations section 31. Tax 2012 3402(f)(2)-1. Tax 2012 Additionally, the debtor may wish to file a new Form W-4 to increase the income tax withheld from post-petition wages allocated to the estate to avoid having to make estimated tax payments for the estate. Tax 2012 See IRC section 6654(a). Tax 2012 Notice required in converted and dismissed cases. Tax 2012   When a chapter 11 bankruptcy case is closed, dismissed, or converted to a chapter 12 or 13 case, the bankruptcy estate ends as a separate taxable entity. Tax 2012 The debtor should, within a reasonable time, send notice of such event to the persons (or entities) previously notified of the bankruptcy case. Tax 2012 This helps to ensure that gross income, proceeds, and other reportable payments realized after the event are reported to the debtor under the correct TIN rather than to the estate. Tax 2012   When a chapter 11 case is converted to a chapter 7 case, the bankruptcy estate will continue to exist as a separate taxable entity. Tax 2012 Gross income (other than post-conversion income from the debtor's services), gross proceeds, or other reportable payments should continue to be reported to the estate if they are property of the chapter 7 estate. Tax 2012 However, income from services performed by the debtor after conversion of the case to chapter 7 is not property of the chapter 7 estate. Tax 2012 After the conversion, the debtor should notify payors required to report the debtor's nonemployee compensation that compensation earned after the conversion should be reported using the debtor's name and TIN, not the estate's name and EIN. Tax 2012 Employment taxes. Tax 2012   The trustee or debtor-in-possession must withhold income and social security taxes and file employment tax returns for any wages paid by the trustee or debtor, including wage claims paid as administrative expenses. Tax 2012 See Publication 15, Circular E, Employer's Tax Guide, for details on employer tax responsibilities. Tax 2012   The trustee also has the duty to prepare and file Forms W-2 for wage claims paid by the trustee, regardless of whether the claims accrued before or during bankruptcy. Tax 2012 For a further discussion of employment taxes, see Employment Taxes, later. Tax 2012 Notice 2006-83 Statement Pending Bankruptcy Case The taxpayer, , filed a bankruptcy petition under chapter 11 of the Bankruptcy Code in the bankruptcy court for the District of . Tax 2012 The bankruptcy court case number is . Tax 2012 Gross income, and withheld federal income tax, reported on Form W-2, Forms 1099, Schedule K-1, and other information returns received under the taxpayer's name and social security number (or other taxpayer identification number) are allocated between the taxpayer's TIN and the bankruptcy estate's EIN as follows, using [describe allocation method]:. Tax 2012   Year Taxpayer   Estate 1. Tax 2012 Form W-2, Payor: $   $     Withheld income tax shown on Form W-2 $   $   2. Tax 2012 Form 1099-INT Payor: $   $     Withheld income tax (if any) shown on Form 1099-INT $   $   3. Tax 2012 Form 1099-DIV Payor: $   $     Withheld income tax (if any) shown on Form 1099-DIV $   $   4. Tax 2012 Form 1099-MISC Payor: $   $     Withheld income tax (if any) shown on Form 1099-MISC $   $   Bankruptcy Estate Tax Return Filing Requirements and Payment of Tax Due Filing Requirements Filing threshold. Tax 2012   If the bankruptcy estate has gross income that meets or exceeds the minimum amount required for filing, the trustee or debtor-in-possession must file an income tax return on Form 1041. Tax 2012 This amount is equal to the sum of the personal exemption amount plus the basic standard deduction for a married individual filing separately. Tax 2012   For 2012, the threshold filing amount for a bankruptcy estate is $9,750 (the sum of the $3,800 personal exemption plus the $5,950 standard deduction for married individuals filing separately). Tax 2012   These amounts are generally adjusted annually. Tax 2012 See the present year Form 1041 Instructions at www. Tax 2012 irs. Tax 2012 gov/form1041 for the current dollar amounts. Tax 2012 Accounting period. Tax 2012   A bankruptcy estate may have a fiscal year. Tax 2012 However, this period cannot be longer than 12 months. Tax 2012 Change of accounting period. Tax 2012   The bankruptcy estate may change its accounting period (tax year) once without IRS approval. Tax 2012 This rule allows the bankruptcy trustee to close the estate's tax year early, before the expected termination of the bankruptcy estate. Tax 2012 The trustee can then file a return for the first short tax year to get a quick determination of the estate's tax liability. Tax 2012 Employer identification number. Tax 2012   The trustee or debtor-in-possession must obtain an EIN for a bankruptcy estate. Tax 2012 The trustee or debtor-in-possession uses this EIN on all tax returns filed for the bankruptcy estate with the IRS, including estimated tax returns. Tax 2012    The social security number of the individual debtor cannot be used as the EIN for the bankruptcy estate. Tax 2012   Obtain an EIN for a bankruptcy estate by applying: Online by clicking on the EIN link at www. Tax 2012 irs. Tax 2012 gov/businesses/small. Tax 2012 The EIN is issued immediately once the application information is validated. Tax 2012 By telephone at 1-800-829-4933 from 7:00 a. Tax 2012 m. Tax 2012 to 7:00 p. Tax 2012 m. Tax 2012 in the trustee's or debtor-in-possession's local time zone. Tax 2012 Assistance provided to callers from Alaska and Hawaii will be based on the hours of operation in the Pacific time zone, or By mailing or faxing Form SS-4, Application for Employer Identification Number. Tax 2012   If the trustee or debtor-in-possession has not received the bankruptcy estate's EIN by the time the return is due, write “Applied for” and the date you applied in the space for the EIN. Tax 2012 For more details, see Pub. Tax 2012 583, Starting a Business and Keeping Records. Tax 2012   Trustees representing ten or more bankruptcy estates (other than estates that will be filing employment or excise tax returns) may request a series or block of EINs. Tax 2012 Figuring tax due. Tax 2012   The bankruptcy estate figures its taxable income the same way an individual figures taxable income. Tax 2012 However, the estate uses the tax rates for a married individual filing separately to calculate the tax on its taxable income. Tax 2012 The estate is entitled to one personal exemption and may either itemize deductions or take the basic standard deduction for a married individual filing a separate return. Tax 2012 The estate cannot take the higher standard deduction allowed for married persons filing separately who are 65 or older or blind. Tax 2012 Tax rate schedule. Tax 2012 The tax on income for bankruptcy estates is calculated using the tax rate schedule for Married Individuals Filing Separately not the Estates and Trusts tax rate schedule. Tax 2012 When to file. Tax 2012   Calendar year bankruptcy estates must file Form 1041 by April 15th. Tax 2012 Fiscal year bankruptcy estates must file on or before the 15th day of the 4th month following the close of its tax year. Tax 2012 For example, an estate that has a tax year that ends on June 30th must file Form 1041 by October 15th of the tax year. Tax 2012 If the due date falls on a Saturday, Sunday, or legal holiday, file on the next business day. Tax 2012 Note. Tax 2012 The bankruptcy estate is allowed an automatic 6-month extension of time to file the bankruptcy estate tax return upon filing the required application, Form 7004, Application for Automatic Extension of Time To File Certain Business Income Tax, Information, and Other Returns. Tax 2012 Transmittal for Form 1040. Tax 2012   Form 1041 is used as a transmittal for Form 1040. Tax 2012 If a return is required, the trustee or debtor-in-possession must complete the identification area at the top of Form 1041 and indicate the chapter under which the bankruptcy estate filed, either chapter 7 or chapter 11. Tax 2012   Prepare the bankruptcy estate's return by completing Form 1040. Tax 2012 In the top margin of Form 1040, write “Attachment to Form 1041 —DO NOT DETACH. Tax 2012 ” Then, attach Form 1040 to the Form 1041 transmittal. Tax 2012 Enter the tax and payment amounts on lines 23 through 29 of Form 1041, then sign and date the return. Tax 2012 An example of a bankruptcy estate's tax return is prepared below. Tax 2012 Note. Tax 2012 The filing of the bankruptcy estate's tax return does not relieve a debtor from the requirement to file his or her individual tax return on Form 1040. Tax 2012 Payment of Tax Due Payment methods. Tax 2012   Payment of tax due may be made by check or money order or by credit or debit card. Tax 2012 For information on how to make payments electronically by credit or debit card, go to irs. Tax 2012 gov/e-pay. Tax 2012      Payments may also be made electronically using the Electronic Federal Tax Payment System (EFTPS), a free tax payment system that allows you to make payments online or by phone. Tax 2012 To enroll in EFTPS, go to eftps. Tax 2012 gov or call 1-800-555-4477. Tax 2012 For more information see Publication 966, Electronic Federal Tax Payment System: A Guide to Getting Started. Tax 2012 Payment voucher – Form 1041-V. Tax 2012   Form 1041-V accompanies payments made by check or money order for Form 1041. Tax 2012 The voucher includes information about the bankruptcy estate, including the name of the bankruptcy estate, trustee, EIN, and amount due. Tax 2012 Using Form 1041-V assists the IRS in processing the payment more accurately and efficiently. Tax 2012 We recommend the use of Form 1041-V; however, there is no penalty if the voucher is not used. Tax 2012 Estimated tax – Form 1041-ES. Tax 2012   In most cases, the trustee or debtor-in-possession must pay any required estimated tax due for the bankruptcy estate. Tax 2012 See the Form 1041-ES Instructions for information on the minimum threshold amount required for filing Form 1041-ES, paying the estimated tax, and exceptions to filing. Tax 2012 Employment Taxes The trustee or debtor-in-possession must withhold income and social security taxes and file employment tax returns for any wages paid by the trustee or debtor, including wage claims paid as administrative expenses. Tax 2012 Until these employment taxes are deposited as required by the IRC, they should be set aside in a separate bank account to ensure that funds are available to satisfy the liability. Tax 2012 If the employment taxes are not paid as required, the trustee may be held personally liable for payment of the taxes. Tax 2012   See Publication 15, (Circular E), Employer's Tax Guide, for details on employer tax responsibilities. Tax 2012 Also see IRS Notice 931, Deposit Requirements for Employment Taxes, for details on the deposit rules, including the requirement that federal employment tax deposits be made by electronic funds transfer. Tax 2012 The trustee also has a duty to prepare and file Forms W-2, Wage and Tax Statement, for wage claims paid by the trustee, regardless of whether the claims accrued before or during bankruptcy. Tax 2012 If the debtor fails to prepare and file Forms W-2 for wages paid before bankruptcy, the trustee should instruct the employees to file a Form 4852, Substitute for Form W-2, Wage and Tax Statement, or Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. Tax 2012 , with their individual income tax returns. Tax 2012 Tax Return Example – Form 1041 This publication is not revised annually. Tax 2012 Future changes to the forms and their instructions may not be reflected in this example. Tax 2012 Note. Tax 2012 The following return was prepared for tax year 2011. Tax 2012 In 2011, the threshold filing amount for a bankruptcy estate was $9,500 (the sum of the $3,700 personal exemption plus the $5,800 standard deduction for married individuals filing separately). Tax 2012 Facts and circumstances. Tax 2012   On December 15, 2010, Thomas Smith filed a bankruptcy petition under chapter 7. Tax 2012 Joan Black was appointed trustee to administer the bankruptcy estate and to distribute the assets. Tax 2012   The estate received the following assets from Mr. Tax 2012 Smith: A $100,000 certificate of deposit, Commercial rental real estate with a fair market value (FMV) of $280,000, and His personal residence with an FMV of $200,000. Tax 2012   Also, the estate received a $251,500 capital loss carryover. Tax 2012   Mr. Tax 2012 Smith's bankruptcy case was closed on December 31, 2011. Tax 2012 During 2011, Mr. Tax 2012 Smith was relieved of $70,000 of debt by the bankruptcy court. Tax 2012 The estate chose a calendar year as its tax year. Tax 2012 Joan, the trustee, reviews the estate's transactions and reports the taxable events on the estate's final return. Tax 2012 Schedule B (Form 1040). Tax 2012    The certificate of deposit earned $5,500 of interest during 2011. Tax 2012 Joan reports this interest on Schedule B. Tax 2012 She completes this schedule and enters the result on Form 1040. Tax 2012 Form 4562. Tax 2012   Joan enters the depreciation allowed on Form 4562. Tax 2012 She completes the form and enters the result on Schedule E. Tax 2012 Schedule E (Form 1040). Tax 2012   The commercial real estate was rented through the date of sale. Tax 2012 Joan reports the income and expenses on Schedule E. Tax 2012 She enters the net income on Form 1040. Tax 2012 Form 4797. Tax 2012   The commercial real estate was sold on July 1, 2011, for $280,000. Tax 2012 The property was purchased in 2001 at a cost of $250,000. Tax 2012 The total depreciation allowable as of the date of sale was $120,000. Tax 2012 Additionally, $25,000 of selling expenses were incurred. Tax 2012 Joan reports the gain or loss from the sale on Form 4797. Tax 2012 She completes the form and enters the gain on Schedule D (Form 1040). Tax 2012   Mr. Tax 2012 Smith's former residence was sold on September 30, 2011. Tax 2012 The sale price was $200,000, the selling expenses were $20,000, and his adjusted basis was $130,000. Tax 2012 This sale is excluded from gross income under IRC section 121. Tax 2012 Note. Tax 2012 Gains from the sale of personal residences are excluded from gross income up to $250,000 under IRC section 121 ($500,000 for married couples filing a joint return). Tax 2012 Bankruptcy estates succeed to this exclusion at the commencement of the case. Tax 2012 See Regulation section 1. Tax 2012 1398-3. Tax 2012 Schedule D (Form 1040). Tax 2012   Joan completes Schedule D, taking into account the $250,000 capital loss carryover from 2010 ($251,500 transferred to the estate minus $1,500 used on the estate's 2010 return). Tax 2012 She enters the results on Form 1040. Tax 2012 Form 1040, page 1. Tax 2012   Joan completes page 1 of the Form 1040 and enters the adjusted gross income on the first line of Form 1040, page 2. Tax 2012 Schedule A (Form 1040). Tax 2012   During 2011, the estate paid mortgage interest and real property tax on Mr. Tax 2012 Smith's former residence. Tax 2012 It also paid income tax to the state. Tax 2012 Joan enters the mortgage interest, real estate tax, and income tax on Schedule A. Tax 2012 Also, she reports the bankruptcy estate's administrative expenses as a miscellaneous deduction not subject to the 2% floor on miscellaneous itemized deductions. Tax 2012 She completes the Schedule A and enters the result on page 2 of Form 1040. Tax 2012 Form 1040, page 2. Tax 2012   Joan determines the estate's taxable income and figures its tax using the tax rate schedule for married filing separately. Tax 2012 She then enters the estate's estimated tax payments and figures the amount the estate still owes. Tax 2012 Form 982. Tax 2012   Joan completes the Schedule D Tax Worksheet to figure the capital loss carryover. Tax 2012 Because $70,000 of debt was canceled, Joan must reduce the tax attributes of the estate by the amount of the canceled debt. Tax 2012 See Debt Cancellation, later. Tax 2012 After the bankruptcy case ends, Mr. Tax 2012 Smith will assume the estate's tax attributes. Tax 2012 Mr. Tax 2012 Smith will assume a capital loss carryover of $53,500 ($123,500 carryover minus the $70,000 attribute reduction) for use in preparation of his individual tax return (Form 1040). Tax 2012 Note. Tax 2012 If the bankruptcy estate had continued, the capital loss carryover would be available to the bankruptcy estate for the 2012 tax year. Tax 2012 Form 1041. Tax 2012   Joan enters the total tax, estimated tax payments, and tax due from Form 1040 on Form 1041. Tax 2012 She completes the identification area at the top of Form 1041, then signs and dates the return as the trustee on behalf of the bankruptcy estate. Tax 2012 This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Form 1040 - page 1 This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Form 1040 - page 2 This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Schedule A This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Schedule B This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Schedule D This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Schedule E This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Form 4797 - page 1 This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Form 2119 This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Form 4797 - page 2 This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Form 4562 This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Capital Loss Carryover Worksheet This image is too large to be displayed in the current screen. Tax 2012 Please click the link to view the image. Tax 2012 Sample Form 982 Capital Loss Carryover Worksheet—Lines 6 and 14 Use this worksheet to figure your capital loss carryovers from 2010 to 2011 if your 2010 Schedule D, line 21, is a loss and (a) that loss is a smaller loss than the loss on your 2010 Schedule D, line 16, or (b) the amount on your 2010 Form 1040, line 41 (or your 2010 Form 1040NR, line 38, if applicable) is less than zero. Tax 2012 Otherwise, you do not have any carryovers. Tax 2012 1. Tax 2012 Enter the amount from your 2010 Form 1040, line 41, or Form 1040NR, line 38. Tax 2012 If a loss, enclose the amount in parentheses 1. Tax 2012 19,880   2. Tax 2012 Enter the loss from your 2010 Schedule D, line 21, as a positive amount 2. Tax 2012 1,500   3. Tax 2012 Combine lines 1 and 2. Tax 2012 If zero or less, enter -0- 3. Tax 2012 21,380   4. Tax 2012 Enter the smaller of line 2 or line 3 4. Tax 2012 1,500     If line 7 of your 2010 Schedule D is a loss, go to line 5; otherwise, enter -0- on line 5 and go to line 9. Tax 2012       5. Tax 2012 Enter the loss from your 2010 Schedule D, line 7, as a positive amount 5. Tax 2012 0   6. Tax 2012 Enter any gain from your 2010 Schedule D, line 15. Tax 2012 If a loss, enter -0- 6. Tax 2012         7. Tax 2012 Add lines 4 and 6 7. Tax 2012 1,500   8. Tax 2012 Short-term capital loss carryover for 2011. Tax 2012 Subtract line 7 from line 5. Tax 2012 If zero or less, enter -0-. Tax 2012 If more than zero, also enter this amount on Schedule D, line 6 8. Tax 2012 0     If line 15 of your 2010 Schedule D is a loss, go to line 9; otherwise, skip lines 9 through 13. Tax 2012       9. Tax 2012 Enter the loss from your 2010 Schedule D, line 15, as a positive amount 9. Tax 2012 251,500   10. Tax 2012 Enter any gain from your 2010 Schedule D, line 7. Tax 2012 If a loss, enter -0- 10. Tax 2012 0       11. Tax 2012 Subtract line 5 from line 4. Tax 2012 If zero or less, enter -0- 11. Tax 2012 1,500       12. Tax 2012 Add lines 10 and 11 12. Tax 2012 1,500   13. Tax 2012 Long-term capital loss carryover for 2011. Tax 2012 Subtract line 12 from line 9. Tax 2012 If zero or less, enter -0-. Tax 2012 If more than zero, also enter this amount on Schedule D, line 14 13. Tax 2012 250,000                       Partnerships and Corporations Filing Requirements A separate taxable estate is not created when a partnership or corporation files a bankruptcy petition and their tax return filing requirements do not change. Tax 2012 The debtor-in-possession, court appointed trustee, assignee, or receiver must file the entity's income tax returns on Form 1065, Form 1120 or, Form 1120S. Tax 2012 In cases where a trustee or receiver is not appointed, the debtor-in-possession continues business operations and remains in possession of the business' property during the bankruptcy proceeding. Tax 2012 The debtor-in-possession, rather than the general partner of a partnership or corporate officer of a corporation, assumes the fiduciary responsibility to file the business' tax returns. Tax 2012 Partnerships The filing requirements for a partnership in a bankruptcy proceeding do not change. Tax 2012 However, the responsibility to file the required returns becomes that of the court appointed trustee, receiver, or debtor-in-possession. Tax 2012 A partnership's debt that is canceled as a result of the bankruptcy proceeding is not included in the partnership's income. Tax 2012 However, It may or may not be included in the individual partners' income. Tax 2012 See Partnerships, below under Debt Cancellation. Tax 2012 Corporations The filing requirements for a corporation in a bankruptcy proceeding also do not change. Tax 2012 A bankruptcy trustee, receiver, or debtor-in-possession, having possession of or holding title to substantially all of the property or business operations of the debtor corporation, must file the debtor's corporate income tax return for the tax year. Tax 2012 The following discussion only highlights bankruptcy tax rules applying to corporations. Tax 2012 The complex details of corporate bankruptcy reorganizations are beyond the scope of this publication. Tax 2012 Therefore, you may wish to seek the help of a professional tax advisor. Tax 2012 See Corporations under Debt Cancellation for information about a corporation's debt canceled in a bankruptcy proceeding. Tax 2012 Tax-Free Reorganizations The tax-free reorganization provisions of the Internal Revenue Code allow a corporation to transfer all or part of its assets to another corporation in a bankruptcy under title 11 of the United States Code or in a similar case. Tax 2012 However, under the reorganization plan, the stock or securities of the corporation to which the assets are transferred must be distributed in a transaction that qualifies under IRC section 354, 355, or 356. Tax 2012 A “similar case” includes a receivership, foreclosure, or other similar proceeding in a federal or state court. Tax 2012 In these cases, any party to the reorganization must be under the jurisdiction of the court and the transfer of assets under the plan of reorganization must be approved by the court. Tax 2012 In a receivership, foreclosure, or similar proceeding before a federal or state agency involving certain financial institutions, the agency is treated as a court. Tax 2012 Generally, IRC section 354 provides that no gain or loss is recognized if a corporation's stock is exchanged solely for stock or securities in a corporation that is a party to the reorganization under a qualifying reorganization plan. Tax 2012 In this case, shareholders in the bankrupt corporation would recognize no gain or loss if they exchange their stock solely for stock or securities of the corporation acquiring the bankrupt corporation's assets. Tax 2012 IRC section 355 generally provides that no gain or loss is recognized by a shareholder if a corporation distributes solely stock or securities of another corporation that the distributing corporation controls immediately before the distribution. Tax 2012 IRC section 356 allows tax-free exchanges in situations that would qualify under IRC section 354 or 355, except that other property or money, in addition to the permitted stock or securities, is received by the shareholder. Tax 2012 In this situation, gain is recognized by the shareholder, but only to the extent of the money and the FMV of the other property received. Tax 2012 No loss is recognized in this situation. Tax 2012 Exemption from tax return filing A trustee, receiver, or assignee of a corporation in bankruptcy, receivership, or in the process of dissolving, may apply to the IRS for relief from filing federal income tax returns for the corporation. Tax 2012 To qualify, the corporation must have ceased business operations and have no assets nor income for the tax year. Tax 2012 The exemption request must be submitted to the local IRS Insolvency Office handling the case. Tax 2012 The request to the IRS must include the name, address, and EIN of the corporation and a statement of the facts (with any supporting documents) showing why the debtor needs relief from the filing requirements. Tax 2012 The request must also include the following statement: “I hereby request relief from filing federal income tax returns for tax years ending _____ for the above-named corporation and declare under penalties of perjury that to the best of my knowledge and belief the information contained herein is correct. Tax 2012 ” The statement must be signed by the trustee, receiver or assignee. Tax 2012 The statement must also include notice of appointment to act on behalf of the corporation (this is not required for bankruptcy trustees or debtors-in-possession). Tax 2012 The IRS will act on your request within 90 days. Tax 2012 Disclosure of return information to trustee. Tax 2012   Upon written request, current and earlier returns of the debtor are open to inspection by or disclosure to the trustee or receiver. Tax 2012 However, in bankruptcy cases other than those of individuals filing under chapter 7 or 11, such as a corporate bankruptcy, the IRS must find that the trustee has a material interest that will be affected by information on the return. Tax 2012 Material interest is generally defined as a financial or monetary interest. Tax 2012 Material interest is not limited to the trustee's responsibility to file a return on behalf of the bankruptcy estate. Tax 2012 Receiverships Court-established receiverships sometimes arise in connection with bankruptcies. Tax 2012 Certain court-established receiverships should be treated as qualified settlement funds ("QSFs") for purposes of IRC section 468B and the underlying Treasury Regulations. Tax 2012 QSFs are required to file an annual income tax return, Form 1120-SF, U. Tax 2012 S. Tax 2012 Income Tax Return for Settlement Funds. Tax 2012 More information about QSFs may be found in Treasury Regulation sections 1. Tax 2012 468B-1 through -5. Tax 2012 Determination of Tax The determination of the proper amount of tax due for a tax year begins with the bankruptcy estate's filing of Form 1041, and the individual debtor's filing of Form 1040, or for bankrupt entities filing Forms 1065, 1120, or 1120S. Tax 2012 After a return is filed, the IRS will either accept the return as filed or select the return for examination. Tax 2012 Under examination the IRS may redetermine the tax liability shown on the return. Tax 2012 If the bankruptcy estate or debtor disagrees with the redetermined tax due, the tax as redetermined by the IRS may be contested in the bankruptcy court, or Tax Court, as applicable. Tax 2012 See Court Jurisdiction over Tax Matters, later. Tax 2012 Prompt Determination Requests Pursuant to Rev. Tax 2012 Proc. Tax 2012 2006-24, 2006-22 I. Tax 2012 R. Tax 2012 B. Tax 2012 943, www. Tax 2012 irs. Tax 2012 gov/irb/2006-22_IRB/ar12, as modified by Announcement 2011-77, www. Tax 2012 irs. Tax 2012 gov/irb/2011-51_IRB/ar13, the bankruptcy trustee may request a determination of any unpaid tax liability incurred by the bankruptcy estate during the administration of the case, by filing a tax return and a request for such determination with the IRS. Tax 2012 Unless the return is fraudulent or contains a material misrepresentation, the estate, trustee, debtor, and any successor to the debtor are discharged from liability upon payment of the tax: As determined by the IRS, As determined by the bankruptcy court, after completion of the IRS examination, or As shown on the return, if the IRS does not: Notify the trustee within 60 days after the request for determination that the return has been selected for examination, or Complete the examination and notify the trustee of any tax due within 180 days after the request (or any additional time permitted by the bankruptcy court). Tax 2012 Making the request for determination. Tax 2012   As detailed in Rev. Tax 2012 Proc. Tax 2012 2006-24, as modified by Announcement 2011-77, to request a prompt determination of any unpaid tax liability of the estate, the trustee must file a signed written request, in duplicate, with the Internal Revenue Service, Centralized Insolvency Operation, P. Tax 2012 O. Tax 2012 Box 7346, Philadelphia, PA 19101–7346 (marked “Request for Prompt Determination”). Tax 2012   The request must be submitted in duplicate and must be executed under penalties of perjury. Tax 2012 In addition, the trustee must submit along with the request an exact copy of the return(s) filed by the trustee with the IRS for each completed tax period. Tax 2012 The request must contain the following information: A statement indicating that it is a Request for Prompt Determination of Tax Liability, specifying the type of return and tax period for each return being filed. Tax 2012 The name and location of the office where the return was filed. Tax 2012 The name of the debtor. Tax 2012 Debtor's social security number, TIN, or EIN. Tax 2012 Type of bankruptcy estate. Tax 2012 Bankruptcy case number. Tax 2012 Court where the bankruptcy case is pending. Tax 2012   The copy of the return(s) submitted with the request must be an exact copy of a valid return. Tax 2012 A request for prompt determination will be considered incomplete and returned to the trustee if it is filed with a copy of a document that does not qualify as a valid return. Tax 2012    To qualify as valid, a return must meet certain criteria, including a signature under penalties of perjury. Tax 2012 A document filed by the trustee with the jurat stricken, deleted, or modified will not qualify as a valid return. Tax 2012 Examination of return. Tax 2012   The IRS will notify the trustee within 60 days from receipt of the request whether the return filed by the trustee has been selected for examination or has been accepted as filed. Tax 2012 If the return is selected for examination, it will be examined as soon as possible. Tax 2012 The IRS will notify the trustee of any tax due within 180 days from receipt of the application or within any additional time permitted by the bankruptcy court. Tax 2012   If a prompt determination request is incomplete, all the documents received by the IRS will be returned to the trustee by the assigned Field Insolvency Office with an explanation identifying the missing item(s) and instructions to re-file the request once corrected. Tax 2012   Once corrected, the request must be filed with the IRS at the Field Insolvency Office address specified in the correspondence accompanying the returned incomplete request. Tax 2012   In the case of an incomplete request submitted with a copy of an invalid return document, the trustee must file a valid original return with the appropriate IRS office and submit a copy of that return with the corrected request when the request is re-filed. Tax 2012 Note. Tax 2012 An incomplete request includes those submitted with a copy of a return form, the original of which does not qualify as a valid return. Tax 2012   The 60-day period to notify the trustee whether the return is accepted as filed or has been selected for examination does not begin to run until a complete request package is recei