Question

RP owned residential real estate with a $702,000 adjusted basis that was condemned by City Q because it needed the land for a new convention center. RP received $1,044,000 condemnation proceeds for the real estate. Assume that RP would elect to defer gain recognition when possible. A) Assume RP spent $296,000 of the proceeds to expand its inventory and the remaining $748,000 to purchase new residential real estate. Calculate RP’s gain or loss realized, gain or loss recognized, and tax basis in the inventory and new real estate. B) How would your answer to part a change if RP’s basis in the condemned real estate were $874,000 rather than $702,000? C) How would your answer to part a change if RP invested the entire condemnation proceeds plus an additional $193,000 cash in new residential real estate?

Answer 1

(A) Realized gain = $1044000 - $702000 = $342000

Since, the proceeds are reinvested into purchasing the new real estate, so the recognized gain will be the amount that is not reinvested into capital purchases. So, recognized gain = $296000. Also, it willl be the tax basis in the inventory.

Calculation of tax basis in new real estate:

Deferred gain = Realized gain - recognised gain = $342000 - $296000 = $46000

Tax basis of real estate = $748000 - deferred gain = $748000 - $46000 = $702000

(B)

Realized gain = $1044000 - $874000 = $170000

Since, the proceeds are reinvested into purchasing the new real estate, so it will recognize the entire gain. Inventory tax basis is $296000. And basis in the new real estate is $748000.

(C) RP will not recognixe any of the $342000 realized gain.

RP's basis in the new real estate = Cost + additional investment - Deferred gain

= $1044000 + $193000 - $342000 = $895000