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Gain/Loss on
Disposition of Property

Master the calculation of recognized gain or loss when property is sold, exchanged, or disposed of: the essential formula every CPA candidate must know.

CPA Regulation (REG)

What Is a Disposition of Property?

A disposition occurs any time a taxpayer transfers ownership of property. This includes sales, exchanges, abandonments, condemnations, casualties, and even gifts. For tax purposes, any disposition may trigger a realized gain or loss that must be reported.

Sale
Property sold for cash or other consideration
Exchange
Property swapped for other property (like-kind, etc.)
Involuntary
Condemnation, casualty, or theft

Key Terms: Amount Realized & Adjusted Basis

Amount Realized
Everything the taxpayer receives from the disposition: cash + FMV of other property + liabilities assumed by the buyer, minus selling expenses.
Adjusted Basis
The taxpayer's cost basis (or other initial basis) plus capital improvements, minus depreciation and other reductions taken over time.

Why Does This Matter for the CPA Exam?

Gain/loss on disposition appears in nearly every REG exam. You must be able to calculate it for individual taxpayers, partnerships, S corporations, and C corporations. The formula is simple, but the details: selling expenses, depreciation recapture, and special basis rules: require precision.

1
Individual returns: Schedule D (capital gains/losses)
2
Business property: Section 1231 gains and losses
3
Depreciation recapture: Sections 1245 and 1250 recharacterization

The Core Formula

\( \text{Gain or Loss} = \text{Amount Realized} - \text{Adjusted Basis} \)
Amount Realized + Cash received + FMV of other property + Buyer's assumed liabilities − Selling expenses Adjusted Basis Original cost (or other basis) + Capital improvements − Depreciation allowed − Casualty loss deductions −

Realized vs. Recognized

Realized The economic gain/loss that actually occurred Calculated anytime property is disposed of Always computed Recognized The portion actually reported on the tax return May be deferred (e.g., like-kind exchange) Default = realized amount

Gain vs. Loss: Treatment Rules

Gain Loss
Recognition Generally recognized unless deferred May be disallowed (related parties, wash sales)
Personal-Use Property Taxable Not deductible
Business Property Ordinary or capital (Section 1231) Ordinary or capital (Section 1231)
Investment Property Capital gain (short/long-term) Capital loss (limited to \$3,000/year)
Related-Party Sales Recognized Disallowed (Section 267)

Step-by-Step Calculation

1
Determine the Amount Realized: Add cash + FMV of property received + liabilities assumed by buyer, then subtract selling expenses.
2
Determine the Adjusted Basis: Start with original cost, add improvements, subtract accumulated depreciation and any other basis reductions.
3
Compute the gain or loss: \(\text{Amount Realized} - \text{Adjusted Basis}\). Positive = gain, negative = loss.
4
Determine recognition: Is there a nonrecognition provision? If not, the entire realized gain/loss is recognized.
5
Classify the gain/loss: Ordinary, Section 1231, short-term capital, or long-term capital? Check holding period and property type.

Building the Adjusted Basis

Original Basis (Cost) + Additions to Basis Capital improvements, legal fees to defend title, special assessments, zoning costs − Reductions to Basis Depreciation (allowed or allowable), casualty losses, insurance reimbursements = Adjusted Basis

Example 1: Simple Stock Sale

Taylor purchased 100 shares of XYZ Corp for \$5,000. She paid a \$50 broker commission on purchase. She later sold all shares for \$8,000, paying a \$75 commission on the sale.

Amount Realized Sale proceeds $8,000 − Selling commission ($75) Amount Realized $7,925 Adjusted Basis Purchase price $5,000 + Buying commission $50 Adjusted Basis $5,050
\( \text{Gain} = \$7{,}925 - \$5{,}050 = \$2{,}875 \)

Example 2: Depreciated Business Asset

Jordan bought machinery for \$40,000. Over 5 years, he claimed \$28,000 in depreciation. He then sold the machinery for \$20,000.

1
Adjusted Basis: \(\$40{,}000 - \$28{,}000 = \$12{,}000\)
2
Amount Realized: \(\$20{,}000\) (no selling expenses given)
3
Gain: \(\$20{,}000 - \$12{,}000 = \$8{,}000\) gain

Example 3: Sale with Assumed Mortgage

Sam sells rental property. Original cost: \$200,000. Depreciation claimed: \$50,000. Improvements: \$30,000. The buyer pays \$150,000 cash and assumes Sam's \$80,000 mortgage. Sam pays \$10,000 in selling costs.

Amount Realized Cash received $150,000 + Mortgage assumed $80,000 − Selling costs ($10,000) = Amount Realized $220,000 Adjusted Basis Original cost $200,000 + Improvements $30,000 − Depreciation ($50,000) = Adjusted Basis $180,000
\( \text{Gain} = \$220{,}000 - \$180{,}000 = \$40{,}000 \)

Special Basis Rules

Gift Basis
Donee takes donor's adjusted basis (carryover basis). If FMV at gift date < donor's basis, use dual basis rules for losses.
Inherited Basis
Heir receives a stepped-up (or stepped-down) basis equal to FMV at date of death (or alternate valuation date).
Converted Property
When personal property is converted to business use, basis for depreciation is the lower of adjusted basis or FMV at conversion date.

Holding Period Matters

The holding period determines whether a capital gain or loss is short-term (held one year or less) or long-term (held more than one year). Long-term capital gains receive preferential tax rates.

Short-Term Long-Term
Holding Period ≤ 1 year > 1 year
Tax Rate Ordinary income rates 0%, 15%, or 20%
Gift Property Tack on donor's holding period (if carryover basis used)
Inherited Property Automatically long-term (regardless of actual time held)

Common Mistakes

✕ Forgetting Selling Expenses
Commissions, legal fees, and transfer taxes reduce the amount realized. Omitting them overstates your gain.
✕ Ignoring Depreciation
Basis must be reduced by depreciation allowed or allowable, even if the taxpayer never actually claimed it.
✕ Deducting Personal Losses
Losses on personal-use property (car, home, jewelry) are never deductible. Only gains are recognized.
✕ Wrong Gift Basis
Using FMV instead of donor's basis when computing gain. Remember the dual-basis rule for below-basis gifts.
✕ Omitting Assumed Liabilities
When the buyer assumes a mortgage, that amount is part of the seller's amount realized. Don't leave it out.

Summary of Key Rules

Rule Details
Core Formula Gain/Loss = Amount Realized − Adjusted Basis
Amount Realized Cash + FMV of property + liabilities assumed − selling costs
Adjusted Basis Cost + improvements − depreciation − other reductions
Personal Property Loss Never deductible
Gift Basis Carryover (dual basis if FMV < donor basis)
Inherited Basis FMV at date of death (stepped-up)
Depreciation Allowed or allowable reduces basis
Holding Period > 1 year = long-term; inherited = always long-term

Question 1 of 5

A taxpayer purchased stock for \$10,000 and paid a \$200 broker commission. The stock was later sold for \$15,000 with a \$300 selling commission. What is the recognized gain?

Question 2 of 5

Equipment was purchased for \$60,000. Depreciation of \$45,000 was claimed. The equipment was sold for \$10,000. What is the gain or loss?

Question 3 of 5

A taxpayer sold a personal-use automobile for \$3,000. The car had an adjusted basis of \$8,000. How is this treated for tax purposes?

Question 4 of 5

Alex inherited stock from his grandmother. She had purchased it for \$20,000. At the date of her death, the FMV was \$55,000. Alex sold it 3 months later for \$58,000. What is the recognized gain and its character?

Question 5 of 5

Maria sells rental property. Original cost: \$300,000. Improvements: \$40,000. Depreciation claimed: \$90,000. Buyer pays \$200,000 cash and assumes Maria's \$120,000 mortgage. Selling costs: \$15,000. What is the gain or loss?