21 Property, Basis & Gains Practice Questions & Answers

1. 1. Maria buys a rental house for $300,000 and pays an additional $8,000 in settlement costs that must be capitalized (title insurance, transfer taxes, and recording fees). The most recent property tax assessment values the land at $80,000 and the building at $320,000. What is Maria's depreciable basis in the building?

   • A.$246,400✓ Answer
   • B.$61,600
   • C.$240,000
   • D.$308,000

   Settlement costs that must be capitalized are added to cost basis, so the total basis is $308,000. Land can never be depreciated, so the total basis must be allocated between land and building using their relative values: the building is $320,000 of the $400,000 assessed total, or 80 percent. 80 percent of $308,000 is $246,400.

   Source: IRC 1012 (cost basis) and IRC 167 (land is not depreciable)Report a problem with this question

2. 2. Karen buys office equipment for $60,000 and pays $3,000 for delivery and installation. Over the years she deducts $27,000 of depreciation, although $33,000 of depreciation was allowable. What is her adjusted basis in the equipment?

   • A.$63,000
   • B.$30,000✓ Answer
   • C.$36,000
   • D.$27,000

   Delivery and installation charges are capitalized into cost basis, making the starting basis $63,000. Basis must then be reduced by depreciation allowed or allowable, meaning the larger allowable figure of $33,000 is used even though only $27,000 was actually deducted. $63,000 minus $33,000 equals $30,000; a taxpayer who missed depreciation does not keep the extra basis.

   Source: IRC 1016(a)(2) — adjustment to basis for depreciation allowed or allowableReport a problem with this question

3. 3. Ben receives stock as a gift. The donor's adjusted basis is $50,000 and the fair market value on the date of the gift is $35,000. No gift tax is paid. Ben later sells the stock to an unrelated buyer for $42,000. What gain or loss does Ben recognize?

   • A.No gain and no loss✓ Answer
   • B.$8,000 loss
   • C.$7,000 gain
   • D.$15,000 loss

   When fair market value on the date of the gift is below the donor's adjusted basis, a dual basis applies: the donor's basis of $50,000 is used to figure a gain and the $35,000 gift-date value is used to figure a loss. A sale price of $42,000 falls between the two figures, so it produces neither a gain nor a loss. This rule keeps a donor's built-in loss from being shifted to the donee.

   Source: IRC 1015 — basis of property acquired by giftReport a problem with this question

4. 4. Alan inherits stock from his aunt. Her adjusted basis was $12,000 and the fair market value on the date of her death was $40,000. No alternate valuation date is elected. Alan sells the stock three months later for $46,000. What is the amount and character of his gain?

   • A.$34,000 long-term capital gain
   • B.$6,000 short-term capital gain
   • C.$6,000 long-term capital gain✓ Answer
   • D.$34,000 short-term capital gain

   Property acquired from a decedent takes a basis equal to its fair market value on the date of death, so Alan's basis is $40,000 and his gain is $6,000. Separately, property acquired from a decedent is always treated as held for more than one year, so the gain is long-term even though he sold after only three months.

   Source: IRC 1014 and IRC 1223 — basis and holding period of property acquired from a decedentReport a problem with this question

5. 5. Jordan bought a home for $260,000, of which $60,000 was allocable to the land, and used it only as a personal residence. When he converts it to rental property, the fair market value is $210,000, of which $55,000 is allocable to the land. What is his basis for depreciation on the building?

   • A.$210,000
   • B.$260,000
   • C.$155,000✓ Answer
   • D.$200,000

   On a conversion from personal to business or rental use, the basis for depreciation is the lesser of the adjusted basis or the fair market value on the date of conversion, with land excluded because land is not depreciable. The building's adjusted basis is $200,000 and the building's fair market value is $155,000, so the lower figure of $155,000 controls. This rule prevents a taxpayer from converting a nondeductible personal decline in value into depreciation deductions.

   Source: IRC 167 and IRC 1011 — basis for depreciation of property converted to business useReport a problem with this question

6. 6. Priya sells 100 shares of ABC stock for $4,000; her basis in those shares was $7,000. Twelve days after the sale she buys 100 shares of the same stock for $4,300 in her taxable brokerage account. What is her basis in the newly purchased shares?

   • A.$7,300✓ Answer
   • B.$4,300
   • C.$7,000
   • D.$1,300

   Because substantially identical stock was purchased within 30 days after the sale, the $3,000 loss is a disallowed wash sale loss. The disallowed loss is not lost: it is added to the basis of the replacement shares, so basis becomes $4,300 plus $3,000, or $7,300, and the holding period of the old shares is added to that of the new shares.

   Source: IRC 1091 — wash sales of stock or securitiesReport a problem with this question

7. 7. Devin sells stock in his taxable brokerage account at a $5,000 loss and, eight days later, buys substantially identical stock inside his traditional IRA. What is the tax result?

   • A.The $5,000 loss is permanently disallowed and no basis adjustment is available for it✓ Answer
   • B.The loss is allowed because an IRA is a separate account from the brokerage account
   • C.The loss is allowed because the repurchase occurred more than one week after the sale
   • D.The loss is disallowed but is added to the basis of the shares held in the IRA

   The wash sale rule applies whenever substantially identical securities are acquired within 30 days before or after the sale, and it looks through to purchases made in the taxpayer's own retirement account. When the replacement shares are bought in an IRA, the disallowed loss cannot be added to the IRA's basis, so the deduction is lost permanently rather than merely deferred.

   Source: IRC 1091 — wash sale ruleReport a problem with this question

8. 8. During the year Tomas has $1,000 of short-term capital gains, $9,000 of short-term capital losses, $3,000 of long-term capital gains, and $1,000 of long-term capital losses. Assume the maximum net capital loss he may deduct against ordinary income this year is $3,000. What is the amount and character of his capital loss carryover to the next year?

   • A.A $6,000 short-term capital loss carryover
   • B.A $3,000 short-term capital loss carryover✓ Answer
   • C.A $3,000 long-term capital loss carryover
   • D.A $3,000 carryover that loses its short-term or long-term character

   Netting is done within each class first: short-term produces a net loss of $8,000 and long-term produces a net gain of $2,000. Combining them leaves a $6,000 net short-term capital loss. After the $3,000 allowed against ordinary income, $3,000 carries forward, and a carryover keeps the short-term or long-term character it had in the year it arose.

   Source: IRC 1211, IRC 1212(b) and IRC 1222 — netting, capital loss limitation and carryoversReport a problem with this question

9. 9. Which of the following is a capital asset in the hands of the taxpayer described?

   • A.A delivery truck used in the taxpayer's business for three years
   • B.Shares of publicly traded stock held by an individual for investment✓ Answer
   • C.Merchandise held for sale to customers by a retail store
   • D.Accounts receivable a plumber acquired for services he performed

   A capital asset is defined as everything a taxpayer owns except a specific list of exclusions, which includes inventory held for sale, accounts receivable arising from services or sales, and depreciable property and real property used in a trade or business. Investment stock is not on the exclusion list, so it is a capital asset; the business truck is instead section 1231 property.

   Source: IRC 1221 — definition of a capital asset; IRC 1231Report a problem with this question

10. 10. Raj owned and lived in his house for six years. He married Nina three years ago, and since the marriage she has lived in the house as her principal residence. They sell the house at a gain and file a joint return; neither has excluded gain on another home sale in the prior two years, and Nina's name was never on the deed. Which statement is correct?

    • A.No exclusion is allowed, because Nina never held title to the residence
    • B.Only the single-taxpayer exclusion is available, because only one spouse held title
    • C.Each spouse must have owned the home for at least two of the five years ending on the date of sale
    • D.They may claim the full joint exclusion, because only one spouse must meet the ownership test while both must meet the use test✓ Answer

    For the principal residence exclusion, the tests are measured over the five-year period ending on the date of sale: the home must have been owned for at least two years and used as the principal residence for at least two years. On a joint return only one spouse needs to satisfy the ownership test, but both must satisfy the use test and neither may have used the exclusion in the two years before the sale, and all of those conditions are met here.

    Source: IRC 121 — exclusion of gain from the sale of a principal residenceReport a problem with this question

11. 11. Nadia, who files as single, owned and used her home as her principal residence for 15 months and then sold it because her employer transferred her to an office 600 miles away. She had not excluded gain on any other sale. Assume the maximum exclusion for a single filer is $250,000. What is the maximum gain she may exclude?

    • A.$156,250✓ Answer
    • B.$187,500
    • C.$0
    • D.$250,000

    When the primary reason for the sale is a change in place of employment, health, or another qualifying unforeseen circumstance, the taxpayer is not disqualified but instead receives a reduced exclusion. The maximum exclusion is multiplied by the shortest of the ownership period, the use period, or the time since the last exclusion, over 24 months: $250,000 times 15/24 equals $156,250.

    Source: IRC 121(c) — reduced exclusion for change in place of employment, health, or unforeseen circumstancesReport a problem with this question

12. 12. Owen rented out his home for several years, then moved back in and used it as his principal residence long enough to meet the ownership and use tests before selling it at a gain. Depreciation was allowed while the home was a rental. How is the portion of the gain equal to that depreciation treated?

    • A.It may be excluded along with the rest of the gain because he met the ownership and use tests
    • B.It cannot be excluded and is ordinary income recaptured under section 1245
    • C.It may be excluded only if he first repays the depreciation deductions previously taken
    • D.It cannot be excluded and is reported as unrecaptured section 1250 gain, a capital gain subject to a maximum rate ceiling✓ Answer

    The principal residence exclusion never covers gain equal to depreciation allowed or allowable for a period of business or rental use of the home. That slice of gain is computed first and is characterized as unrecaptured section 1250 gain, which remains capital gain but is taxed at a capped rate rather than being converted to ordinary income.

    Source: IRC 121(d)(6) and IRC 1(h) — depreciation not excludable; unrecaptured section 1250 gainReport a problem with this question

13. 13. During the year a calendar-year business places in service $60,000 of machinery in February, $50,000 of equipment in November, and a $300,000 office building in December. Which convention applies to the machinery and the equipment?

    • A.The mid-month convention applies to both, because real property was placed in service in the same year
    • B.The half-year convention applies to both, because the building placed in service in December counts in the 40% test
    • C.The mid-quarter convention applies to both, because more than 40% of the personal property basis was placed in service in the last three months✓ Answer
    • D.The half-year convention applies to the February purchase and the mid-quarter convention to the November purchase

    The mid-quarter test counts only depreciable personal property, because real property always uses the mid-month convention and is excluded from the computation. Personal property placed in service in the last quarter is $50,000 of the $110,000 total, or about 45%, which exceeds 40%, so the mid-quarter convention applies to every item of personal property placed in service that year, not just the November purchase.

    Source: IRC 168(d) — applicable conventionsReport a problem with this question

14. 14. A taxpayer buys a vehicle that is listed property and uses it 40% for business and 60% for personal purposes in the first year it is placed in service. Which statement is correct?

    • A.The entire cost may be expensed under section 179 because the vehicle is used in the business
    • B.Accelerated MACRS depreciation is allowed on the 40% business-use portion
    • C.No depreciation of any kind is allowed because business use is below half
    • D.Depreciation must be computed on the business-use portion using the straight-line alternative depreciation system, and no section 179 expensing is allowed✓ Answer

    Listed property whose qualified business use is 50% or less must be depreciated under the alternative depreciation system using the straight-line method, and it is barred from section 179 expensing and first-year bonus depreciation. Depreciation is still allowed, but only on the business-use percentage; if business use later drops to 50% or less after accelerated deductions were taken, the excess depreciation is recaptured as ordinary income.

    Source: IRC 280F — listed property and the qualified business use requirementReport a problem with this question

15. 15. Ravi sells a machine he used in his business for four years. It cost $50,000, he deducted $30,000 of depreciation, and he sells it for $58,000. How is his gain characterized?

    • A.$8,000 of ordinary income and $30,000 of section 1231 gain
    • B.$38,000 of ordinary income
    • C.$38,000 of section 1231 gain
    • D.$30,000 of ordinary income and $8,000 of section 1231 gain✓ Answer

    Adjusted basis is $50,000 minus $30,000, or $20,000, so the realized gain is $38,000. For depreciable personal property, recapture converts to ordinary income the lesser of the depreciation taken ($30,000) or the total gain ($38,000), so $30,000 is ordinary. Only the remaining $8,000, which represents appreciation above original cost, is section 1231 gain because the machine was held more than one year.

    Source: IRC 1245 — recapture of depreciation on depreciable personal propertyReport a problem with this question

16. 16. A taxpayer sells a nonresidential building at a gain. The building was depreciated using the straight-line method required for real property under MACRS. For an individual, how is the portion of the gain attributable to that depreciation treated?

    • A.The depreciation portion is treated as a section 1231 loss
    • B.The entire depreciation amount is recaptured as ordinary income under section 1245
    • C.The entire depreciation amount is recaptured as ordinary income under section 1250
    • D.There is no ordinary section 1250 recapture; the depreciation portion is unrecaptured section 1250 gain, still capital gain but subject to a maximum rate✓ Answer

    Ordinary recapture on depreciable real property reaches only additional depreciation, meaning depreciation claimed in excess of straight-line. Because MACRS requires straight-line for real property, there is generally no additional depreciation and therefore no ordinary recapture; instead an individual reports unrecaptured section 1250 gain equal to the lesser of the straight-line depreciation taken or the total gain, which keeps capital character but carries a rate ceiling.

    Source: IRC 1250 and IRC 1(h) — additional depreciation and unrecaptured section 1250 gainReport a problem with this question

17. 17. All of the following exchanges can qualify for like-kind exchange nonrecognition EXCEPT:

    • A.A contractor exchanges a used bulldozer used in his business for a newer bulldozer of the same type✓ Answer
    • B.An investor exchanges unimproved land for an apartment building, both held for investment
    • C.A landlord exchanges an office building for a warehouse, both held for productive use in a business
    • D.An investor exchanges farmland for a shopping center, both held for investment

    Like-kind exchange nonrecognition applies only to real property held for productive use in a trade or business or for investment, so machinery, vehicles and other personal property no longer qualify no matter how similar the items are. Among real properties the like-kind standard is broad: improved may be exchanged for unimproved, and one type of income-producing realty for another.

    Source: IRC 1031 — exchange of real property held for productive use or investmentReport a problem with this question

18. 18. Rosa exchanges investment land with an adjusted basis of $120,000 and a fair market value of $200,000 for like-kind real property worth $175,000 plus $25,000 in cash. What gain does she recognize, and what is her basis in the property received?

    • A.No gain recognized; basis of $120,000
    • B.$25,000 of gain recognized; basis of $145,000
    • C.$80,000 of gain recognized; basis of $175,000
    • D.$25,000 of gain recognized; basis of $120,000✓ Answer

    Realized gain is $200,000 minus $120,000, or $80,000, but recognized gain is limited to the lesser of realized gain or the boot received, so $25,000 is taxable. Basis in the replacement property is the old basis of $120,000 plus the $25,000 gain recognized minus the $25,000 of boot received, which equals $120,000; the same result is the $175,000 value less the $55,000 of deferred gain, and the holding period of the old property carries over.

    Source: IRC 1031(b) and IRC 1031(d) — recognition limited to boot, and basis of property receivedReport a problem with this question

19. 19. A fire destroys a warehouse used in Lena's business, and she receives insurance proceeds that exceed her adjusted basis, realizing gain in the year of the fire. To defer that gain, by when must she acquire qualifying replacement property?

    • A.Within two years after the close of the first tax year in which any part of the gain is realized✓ Answer
    • B.Within 45 days to identify replacement property and 180 days to acquire it
    • C.Within two years after the date of the fire
    • D.Within one year after the close of the tax year in which the fire occurred

    For an involuntary conversion, the general replacement period ends two years after the close of the first tax year in which any part of the gain is realized, not two years from the event itself. The 45-day and 180-day clocks belong to like-kind exchanges, and the longer three-year period applies only to condemned real property held for business or investment; deferral must also be elected and the replacement must be similar or related in service or use.

    Source: IRC 1033 — involuntary conversions and the replacement periodReport a problem with this question

20. 20. Elena sells investment land for $400,000. Her adjusted basis is $260,000 and she pays $20,000 of selling expenses. The buyer assumes no debt. She receives a $100,000 down payment in the year of sale and the buyer will pay the remaining principal in later years, with interest stated separately. Using the installment method, how much gain does she report in the year of sale?

    • A.$100,000
    • B.$30,000✓ Answer
    • C.$35,000
    • D.$140,000

    Gross profit is the selling price less adjusted basis and selling expenses: $400,000 minus $260,000 minus $20,000, or $120,000. Because no debt was assumed, the contract price is the full $400,000, giving a gross profit percentage of 30 percent. Gain reported equals principal received times that percentage, so $100,000 times 30 percent is $30,000; the stated interest is reported separately as ordinary interest income.

    Source: IRC 453 — installment method and the gross profit ratioReport a problem with this question

21. 21. Which of the following dispositions may NOT be reported under the installment method?

    • A.A sale of raw investment land at a gain, with payments received over four years
    • B.A sale of a rental building at a gain, with payments received over five years
    • C.A sale of a family farm to an unrelated buyer at a gain, with payments received over ten years
    • D.A sale of stock traded on an established securities market, with the price paid over three years✓ Answer

    The installment method is unavailable for stock or securities traded on an established market, as well as for inventory and dealer dispositions, and it can never be used for a sale at a loss because a loss is recognized entirely in the year of sale. Real property held for investment or rental generally qualifies, although any depreciation recapture on a rental building must be reported in full in the year of sale even if little cash is received.

    Source: IRC 453 — dispositions ineligible for the installment methodReport a problem with this question

Practice questions based on the Internal Revenue Code, Treasury Department Circular No. 230, and the IRS Special Enrollment Examination content outline. Enrolled Agent and the SEE are administered by the IRS; this site is not affiliated with or endorsed by the IRS or Treasury. Questions deliberately avoid inflation-adjusted figures — rates, brackets, standard deductions, contribution and phase-out limits, mileage rates and penalty amounts change every year, so look those up for the tax year you are tested on. This is study material, not tax advice. About the Enrolled Agent exam →