Question

Lynn transfers property (basis of $225,000 and fair market value of $300,000) to Condor Corporation in exchange for § 1244 stock. The transfer qualifies as a nontaxable exchange under § 351. In the current year, Lynn sells the Condor stock for $100,000. Assume Lynn files a joint return with her husband, Ricky. With respect to the sale, Lynn has:

a. A capital loss of $125,000. b. An ordinary loss of $100,000 and a capital loss of $100,000. c. An ordinary loss of $125,000. d. An ordinary loss of $100,000 and a capital loss of $25,000. e. None of these choices are correct.

Answer 1

A capital loss is the loss incurred when a capital asset, such as an investment, decreases in value. While, ordinary loss is the loss arising out of normal business expense exceeding normal business revenue.

As per the above question, while transferring property of $ 2,25,000 to buy stocks worth $ 2,25,000 there is no loss incurred (as fair market value is not considered while transferring, only buy and sell prices are considered).

So when Lynn sells his stocks (bought for $ 2,25,000) for $ 100000 he incurs a capital loss of $ 125000.

So option a) is correct.

Option b), c) and d) are not correct as there is no ordinary loss which occurred through normal business operation.

Option e) is not correct as option a) is correct.

Calculation:

Condor stock buy price = $ 2,25,000

Condor stock sell price = $ 1,00,000

Capital loss = 1,25,000 (Price of asset (in this case shares of Condor) bought - Price of asset sold)