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In Today's Lesson...
You'll learn about how the sale of investment property is treated for tax purposes. This lesson is designed to teach tax preparers how to determine capital gain and loss on the sale of investment assets, use Schedule D, Capital Gains and Losses, to figure the tax, and calculate capital loss carryovers.

Be sure to ask taxpayers if they sold any stock, securities, or other investment property. To determine the gain or loss on the sale of these assets, you will need to know the adjusted basis of the property sold.

Lesson 10: Sale of Investment Property
Required Data for Schedule D, Capital Gains and Losses
To obtain your copy of our publication "Where to Report Investment Income" click here.

Taxpayer Records
Schedule D of Form 1040 is used for reporting capital gains and losses from the sale of investment property. Completion of Schedule D requires the following taxpayer records:

  • Form 1099-B, Proceeds From Broker and Barter Exchange Transactions or a 1099 Consolidated Statement , provided by the broker to report the sales price of stock
  • Records of the taxpayer's basis in the investment property sold
  • Records of the date the taxpayer originally acquired the investment property
  • Capital Loss Carryover Worksheet from last year's tax return, if the taxpayer is carrying over a loss

The IRS receives copies of Form 1099-B from the broker and copies of Form 1099-DIV from the payer.

Taxpayers should not file these items with the return; instead, they should keep them with their records.

What are the maximum tax rates on the different types of investment income?

If the income is... and the asset is held... then the maximum
tax rate is...
Gain from the sale of collectibles More than one year 28%
Taxable portion of gain on qualified small business stock (Section 1202 exclusion) More than five years 28%
Unrecaptured Section 1250 gain More than one year 25%
Long-term capital gain for taxpayers subject to a regular tax rate of 25% or higher More than one year 15%
Long-term capital gain for taxpayers subject to a regular tax rate of 10% or 15 % More than one year 0%
Qualified dividend income for taxpayers subject to a regular tax rate of 25% or higher 60 days or more 15%
Qualified dividend income for taxpayers subject to a regular tax rate of 10% or 15% 60 days or more 0%
Ordinary Dividend income Less than 60 days 35%
Short term capital gain One year or less 35%
Stock Fundamentals

This topic explains some fundamental terms and concepts related to the sale of stock or other investment property.

Capital Assets

A capital asset is any asset held either for personal use (personal property) or for investment. For example:

  • Personal property includes a taxpayer's home and car
  • Investment property includes stocks and bonds

The only capital asset discussed in this lesson is corporate stock. Property used in a trade or business, such as inventory or machinery, is not a capital asset.

Capital Gain Distributions

Capital gain distributions occur when a mutual fund or other entity that owns a capital asset sells the asset and passes the gain on to its shareholders. Taxpayers who have received only capital gain distributions  from mutual funds generally do not need to file Schedule D.

Where to Report Gains and Losses
If you sold... Your gain is... Your loss is... Report it on...
Stocks, Bonds, Mutual Fund shares, or land held for investment purposes Capital Gain. See Holding Periods. Capital Loss. See Holding Periods. Form 1040, Schedule D
Accounts or Notes receivable acquired in the ordinary course of business or from sales of inventory or property held for sale to customers. Inventory of a business held for sale to customers. Ordinary income. Ordinary loss. Form 1040, Schedule C if self-employed; Schedule F if a farmer; Form 1065 if a partnership; Form 1120/1120-S for a corporation.
Depreciable: residential rental property, cars, trucks, computers, machines, fixtures, equipment, used in your business. IRC section 1231 determines whether the gain is ordinary income or capital gain. Ordinary loss if there is a net IRC section 1231 loss. Form 1040,
Form 4797
Personal residence, autos, jewelry, furniture, art, coin or stamp collections, held for personal use. Capital Gain. See Holding Periods. Not tax deductible. Although profits are taxable, losses are not tax deductible. Form 1040, Schedule D
When Do You Need To File Schedule D

Taxpayers who sold stocks:

  • Will receive Form 1099-B from the broker, and
  • Must file Form 1040 and Schedule D, and
  • Cannot report their capital gain distributions on Form 1040A
Basis of Stock

One piece of information taxpayers must provide for Schedule D is their basis in the property.

The basis of property is usually its cost plus certain additional costs relating to the property's purchase. If taxpayers cannot provide their basis in the property, the IRS will deem it to be zero.

An example of an expense included in the basis of stock is the commission or fee paid to a broker when stock is purchased.

Adjusted Basis

Events after purchase can require adjustments - increases or decreases to the basis of property.

For example, when a stock dividend or stock split is declared, the stockholder receives additional shares of stock. Some of the basis from the original stock is then allocated to the new stock. This change reduces the basis per share of the original shares. The adjustment may also include an additional commission or fee paid to the broker.

Holding Period - Long-Term or Short-Term

Schedule D classifies capital gains and losses as either long-term or short-term, depending on how long the taxpayer owned the stock. Stock held for more than one year has a long-term holding period. Stock held for one year or less has a short-term holding period. 

Where do I report these gains?

Asset Held for... Your capital gain is...
One year or less Short term. Report this on Form 1040, Part I of Schedule D.
More than one year Long term. Report this on Form 1040, Part II of Schedule D.
When do the holding periods for different types of assets start?
Type of Asset: When your holding period starts:
Stocks and Bonds bought on a securities exchange. The day after the trade date you bought the security. Ends on the trade date you sold the security. The purchase trade date is not included in the holding period, but the sale trade date is included in the holding period.
U.S Treasury Notes and Bonds If bought at auction, the day after notification of bid acceptance. If bought through subscription, the day after the subscription was submitted.
Non-taxable exchanges The day after date you acquired the old property.
Gifts If your basis is the giver's adjusted basis, same day as giver's holding period began. If your basis is Fair Market Value (FMV), the day after the date of the gift.
Real Property Generally, the day after the date you received title to the property.
Real Property (repossessed) The day after the date you originally received title to the property, but does not include the time between the original sale and date of repossession.
Blocks of Stock

Some taxpayers may own shares of stock they bought on different dates or for different prices. This means they own more than one block of stock. Each block may differ from the others in its holding period, its basis, or both. In directing a broker to sell stock, the taxpayer may specify which block, or part of a block, to sell. If the taxpayer does not identify the specific block at the time of sale, shares sold are treated as coming from the earliest block purchased.

Specification can make a difference in determining the holding period or basis of the stock sold, giving the taxpayer an element of control and versatility in handling an investment. Any such specification must be made before or at the time of sale. It cannot be made after the sale, such as on the day the taxpayer is have his tax return prepared.

Tax-Free Stock Dividends and Stock Splits

Stock acquired in a tax-free stock dividend or stock split has the same holding period as the original stock owned. If the original stock has a long-term holding period, stock received in a tax-free stock dividend also has a long-term holding period. If the original stock has a holding period of three months, the new stock immediately has a three-month holding period.

Although stock splits and stock dividends do not occur often, you should not assume they never happen. Ask taxpayers if they received any additional shares from a stock split or stock dividend.

Taxable Dividends

Stock acquired in a taxable dividend does not always have the same holding period as the original stock. One example is a dividend reinvestment plan, which uses the dividends to purchase more shares of the stock. The stock shares acquired through the dividend reinvestment plan are added to the taxpayer's basis at fair market value on the date of reinvestment. This means the new shares could have a different holding period than the original stock. If taxpayers do not know the basis of their stock shares, refer them to their stockbroker or financial planner.

Demutualization

Some taxpayers have been informed by their mutual insurance company that the company has been demutualized. When this happens, the policyholder receives either a block of stock or the cash equivalent of company stock.

The holding period for such stock is the length of time the policy was in effect, usually many years

The basis for this stock is zero. The taxpayer must report all of the proceeds as a capital gain on Schedule D.

Wash Sales

Generally, a wash sale occurs when stock is sold and, within 30 days before or after the sale, substantially identical stock is bought. A loss on a wash sale is not deductible, and special rules relate to the basis of the replacement stock. A gain on a wash sale must be reported.

Form 1099-B

The stockbroker reports the sales price of sold stock shares in box 2 of Form 1099-B, Proceeds From Broker and Barter Exchange Transactions.

Brokers who report the gross proceeds as the sales price do not subtract commissions and fees.

Brokers who report the net proceeds as the sales price do subtract commissions and fees from the gross proceeds. The broker checks the appropriate square at the right of box 2 to indicate whether the gross or net proceeds were reported to the IRS.

Determining the Basis of Stock

How you determine the taxpayer's capital gain from the sold shares depends on how the broker reported the sales price on Form 1099-B:

  • If box 2 shows gross proceeds, you need to increase the taxpayerís basis in the stock by the sales commission.
  • If box 2 shows net proceeds, the broker already subtracted the commissions and fees, so you do not need to make any adjustments.
Reporting Form 1099-B Information - Where the Data Goes

Information from Form 1099-B is entered on Schedule D and Form 1040. Part I of Schedule D is for short-term holdings.

Part II is for long-term holdings.
IF Form 1099-B shows information in: THEN report it on:
Box 1a, Date of sale Schedule D, column (c), of either Part I, line 1, or Part II, line 8
Box 2, Sales price reported to the IRS (gross or net proceeds) Schedule D, column (d), of either Part I, line 1, or Part II, line 8
Box 4, Federal income tax withheld Form 1040, line 64
Box 7, Description of property sold Schedule D, column (a) in either Part I, line 1, or Part II, line 8
Form 1099-B does not include the date the taxpayer purchased the stock or how much the taxpayer paid for it. The taxpayer must provide you with this information.
1099 Consolidated Statements

Some brokers do not issue standard Forms 1099-B. Instead they issue a statement, sometimes entitled "A 1099 Consolidated Statement," which shows stock sales and other types of distributions, such as dividends and interest.

Schedule D - Outline of the Three Parts

Form 1040 Schedule D, Capital Gains and Losses, is used to report gain or loss on the sale of investment property and other capital gain distributions.

Schedule D is divided into three parts:

  • Part I, Short-Term Capital Gains and Losses, for assets held one year or less.
  • Part II, Long-Term Capital Gains and Losses, for assets held more than one year.
  • Part III, Taxable Gain or Deductible Loss. Part III also identifies the portion of gains subject to the 28% tax rate.
The 28% rate applies to gains from the sale or exchange of qualified small business stock and to collectibles, referred to as Section 1202 gains.
Reporting Stock Gains or Losses

The taxpayer should receive Form 1099-B or a 1099 Consolidated Statement for each sale of investment property. Figure the gain or loss by subtracting the adjusted basis of stock sold from its sales price.

If the sales price is greater, the taxpayer has gain on the sale. If the adjusted basis is greater than the sales price, the taxpayer has a loss on the sale.

Reporting Other Gains

If the taxpayer received Form 1099-DIV, Dividends and Distributions, see whether an amount is shown in box 2a. Box 2a shows capital gain distributions. Enter the capital gain distributions on Schedule D, Part II, line 13, column (f).

If the only capital gains or losses a taxpayer had were capital gain distributions reported on Form 1099-DIV, the taxpayer may not have to use Schedule D. Refer to the 1099-DIV section of the Income lesson for further details.
Capital Loss Carryovers

A taxpayer can deduct losses up to the amount of gains. They cancel each other out. A taxpayer cannot take net losses against other income of more than $3,000 ($1,500 for married taxpayers filing separately) in figuring taxable income for the year. The allowable loss is referred to as the deduction limit. Unused losses are not gone forever. Rather, they are carried over to the next year. The carryover losses are combined with the gains and losses that actually occur in that next year. Unused losses are recycled this way, year after year, until they are all deducted. There is no limit on how many times a loss can be carried over during the taxpayer's life. However, at death, any remaining unused carryover losses are cancelled and may not be deducted by the decedentís estate, except for those used on the decedentís final income tax return.

1040 ValuePak will automatically carry over the taxpayerís losses from year to year when you import last yearís return information into the current yearís program.

Deducting Worthless Securities

If the taxpayer owns securities and they become totally worthless, the taxpayer can take a tax deduction for the loss. The taxpayer cannot take a deduction for partially worthless securities. The deduction is only available in the tax year the securities become completely worthless. The taxpayer can't take the deduction in any other tax year. If the taxpayer has now learned that the securities became worthless in a prior tax year for which he has already filed a return he can file an amended return, Form 1040X, within seven (7) years of the due date of the original tax return for the tax year in which the securities became worthless.

The worthless securities are treated as though they were capital assets and sold on the last day of the tax year if they were capital assets in your hands. Unless the worthless securities are Internal Revenue Code Section 1244 stock, for which ordinary loss treatment applies, capital loss treatment applies.

The taxpayer must show the following in order to take the tax deduction:

  • The securities became totally worthless in 2009. The taxpayer must be able to reasonably fix the date they became worthless, such as the date the company stopped doing business, and
  • The securities had some value in 2008

If the securities are partially worthless the taxpayer can sell them and then take the tax deduction as he would in an ordinary sale of securities. No tax deduction can be taken for a partially worthless corporate bond.

Report worthless securities on Form 1040 Schedule D, line 1 or line 8 of, whichever applies. In columns (c) and (d), write "Worthless."

Like-Kind Exchanges

Generally, if you exchange business or investment property solely for business or investment property of a like-kind, no gain or loss is recognized under Internal Revenue Code Section 1031. If, as part of the exchange, you also receive other (not like-kind) property or money (called "boot"), gain is recognized to the extent of the other property and money received, but a loss is not recognized.

Section 1031 does not apply to exchanges of inventory, stocks, bonds, notes, other securities or evidence of indebtedness, or certain other assets.

Like-Kind Property

Properties are of like-kind, if they are of the same nature or character, even if they differ in grade or quality. Personal properties of a like class are like-kind properties. However, livestock of different sexes are not like-kind properties. Also, personal property used predominantly in the United States and personal property used predominantly outside the United States are not like-kind properties.

Real properties generally are of like-kind, regardless of whether the properties are improved or unimproved. However, real property in the United States and real property outside the United States are not like-kind properties.

For further information refer to Publication 544, Sales and Other Dispositions of Assets.

Letís take a moment to review what you have learned in this lesson.

The capital gains tax rates are:

Type Description Tax Rate
Short-Term Capital assets held for less than one year Taxed as ordinary income - up to 35%
Long-Term Capital assets held for more than one year 2003 - 2007: 15% (5% for individuals in the 10 or 15% income tax bracket)
2008 - 2010: 15% (0% for taxpayers in 10-15% income tax bracket)
2011 and after: 20% (10% for taxpayers in 10-15% income tax bracket)
Collectibles Gains on items deemed collectibles (stamps; coins etc.) 28%
Unrecaptured IRC Section 1250 gains Depreciation recapture on sold assets 25%

Completion of Schedule D requires information from Forms 1099-B and 1099-DIV or 1099 Consolidated Statement and from taxpayer records (basis in the stock sold and purchase date). A new taxpayer who is carrying over a loss from last year must also provide the Capital Loss Carryover Worksheet from last year's Schedule D instructions.

Form 1099-B information reported on Schedule D includes date of sale, sales price, and description of property sold. The broker checks the appropriate square at the right of box 2 to indicate whether the gross or net proceeds were reported to the IRS.

Short-term gains and losses are reported in Part I of Schedule D, and long-term gains and losses are reported in Part II.

Part III of Schedule D summarizes the information of Parts I and II and determines the amount of the taxpayer's net taxable gain or deductible loss.

Generally, if you exchange business or investment property solely for business or investment property of a like-kind, no gain or loss is recognized under Internal Revenue Code Section 1031.

Today's Quiz - Test Your Knowledge!
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In The Next Lesson...
You'll learn about the tax treatment of home sales.
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