Question

Sam owns a delivery truck which initially cost $20,000. After deducting depreciation of $14,000, Sam negotiated with Dealer to obtain a new delivery truck. As a result of these negotiations, Sam traded in this used delivery truck to obtain a new delivery truck from Dealer worth $22,000. Sam also paid the Dealer $12,000 in cash. Based on well-documented Internet transactions, both parties agreed that the new delivery truck had a fair market value of $22,000. Dealer had purchased this truck from Toyota for $20,000 one month earlier. Sam is in the business of delivering merchandise to stores, and Dealer is in the business of selling new and used trucks. As a result of this transaction, Dealer paid its salesperson a commission equal to 5% of the truck sold to Sam.

1. What are the tax consequences of this transaction to Sam. Discuss all consequences, in detail. If you need additional information that is not presented above, state what that additional information is.

2. What are the tax consequences of this transaction to Dealer? Discuss all consequences, in detail. If you need additional information that is not presented above, state what that additional information is.

Answer 1

1.) There is a Gain of $ 4,000 to sam in this transaction. The net book value of the truck he exchanged is $ 6,000.(Cost - Accumulated depreciation) and he paid $ 12,000 in cash. So, total payment in cash and kind = $ 18,000.

He obtained a new delivery truck worth $ 22,000 and paid only $ 18,000. Therefore, he will bear tax consequences on gain due to this transaction i.e. $ 4,000. Also, sam is in the business of delivering merchandise to stores, so the Delivery truck is a capital asset for him.

2.) The dealer purchased this truck for $ 20,000 from Toyota. And sold it for $ 18,000 as per calculations in the above answer. He paid 5% commission to the salesperson that is 5% of $ 18,000 = $ 900.

Clearly, the dealer faced loss in this transaction as the cost of New delivery truck was $ 20,000 and he sold it for $ 18,000. Also, he paid commission to the salesperson. As the dealer is in the business of buying and selling new and used trucks. Therefore, he faced business loss so there will be no tax consequence.