there is a sequence of steps that lead to tax reporting. First, an economic transaction must be realized . For example, a sale must have occurred and the sale or exchange must be bona fide.
9 Second, tax recognition rules are applied. Recognitionrefers to the application of a specific tax rule. Depending on the type of property, recognition may be current, deferred, or disallowed. And finally, the gain or loss is characterized. A gain or loss is characterized as capital or ordinary.Capital gains can only be offset by capital losses. A net capital gain may be subject to five different tax rates: 0%, 15%, 20%, 25%, or 28%. The asset type determines the tax rate used. Preferential capital gain rates of 15% and 20% may apply to certain transactions and taxpayers.Capital assets are not specifically defined in the Internal Revenue Code (IRC). Instead, capital assets are defined by what they are not (IRC §1221). For instance, a capital asset is not (a) inventory, (b) trade or business property, (c) accounts or notes receivable, or (d) copyrights or material of artistic composition.A realized gain or loss is calculated by comparing the money received (sales proceeds) to the basis or adjusted basis of the property. The basis of the property is the acquisition cost. Property may be acquired by purchase, gift, or inheritance. If the property is purchased, the initial basis is the purchase cost. If the property is acquired by gift, the basis is transferred from the donor to thedonee. Property acquired by inheritance is fair market value at date of death of the decedent. Adjusted basis represents the net amount after adjustments increase or decrease initial acquisitioncost. Typical adjustments are depreciation or improvements. Determining the proper basis is critical in calculating gains or losses. For example, disposition of an asset acquired immediately after inheritance will have no gain because the proceeds (fair market value) will be equal to the basis.A transaction is recognized for tax purposes when a specific tax rule defines its inclusion in taxable income or exclusion from taxable income. If a transaction is not currently reportable, the deferral or disallowance rules override the general recognition rules.Types of Taxpayers: Individual vs. Corporate Capital TransactionsCapital transactions are reported on Schedule D. Schedule D is an attachment to the tax return where details of capital asset dispositions are reported. Individuals may offset capital losses against capital gains; however, net capital losses are limited to $3,000 per year and excess losses are carried forward. Individuals may not deduct losses on personal property. Corporate taxpayersmay not deduct net capital losses. Corporate net capital losses are disallowed in the year that the losses occur and are carried forward to a subsequent year when the losses can offset future capital gains.The year of deductionis determined by the accounting method of the taxpayer. A cash method taxpayer deducts expenses when the taxpayer disburses cash and completes the payment. An accrual method taxpayer deducts expenses when the taxpayer meets two tests. The two tests are
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- Winter '15
- Taxation in the United States