IRS Topic 429: Reporting Gains and Losses From Asset Sales

Selling assets has tax consequences, and the IRS requires individuals and businesses to report gains or losses from these transactions. Tax treatment depends on factors like asset type, holding period, and whether it was used for personal or business purposes.

Capital and Ordinary Gains

The IRS classifies gains as either capital or ordinary, determining how they are taxed. Capital gains come from selling assets like stocks, bonds, and real estate. These are short-term if sold within a year, taxed at ordinary income rates up to 37% in 2024. Long-term capital gains, from assets held over a year, are taxed at lower rates of 0%, 15%, or 20%, depending on income.

Ordinary gains arise from selling assets that don’t qualify as capital assets, such as inventory, depreciable business property subject to recapture, and assets sold in the normal course of business. These gains are taxed at regular income tax rates. For example, when a business sells depreciated equipment, part of the gain may be taxed as ordinary income under depreciation recapture rules.

Personal and Business Assets

The IRS differentiates between personal and business assets, affecting taxation of gains and deductibility of losses. Personal assets include homes, vehicles, and collectibles. Business assets include machinery, office furniture, and commercial property.

Gains from selling personal property are taxable, but losses are generally not deductible. For example, selling a personal car at a loss cannot offset other income. However, if the car was used for business, part of the loss may be deductible. Business asset sales may also trigger depreciation recapture, taxing part of the gain as ordinary income.

Some assets shift between personal and business categories, creating complex tax implications. Rental properties, for instance, are business assets when generating income but may be considered personal if converted to a primary residence. If an asset transitions from personal to business use, its tax basis may change, affecting the taxable gain or loss when sold.

Calculating Adjusted Basis

An asset’s adjusted basis is key to determining taxable gains or losses. The basis starts with the purchase price and adjusts for improvements, depreciation, and other factors. For example, if a commercial building is bought for $500,000 and renovated for $50,000, the adjusted basis rises to $550,000. If $100,000 in depreciation is claimed, the adjusted basis drops accordingly.

Certain acquisition costs, like legal fees, title insurance, and commissions, also affect the basis. Inherited property typically gets a stepped-up basis to its market value at the owner’s death, reducing taxable gains when sold. Gifted property generally retains the donor’s basis unless its market value is lower at the time of transfer, triggering special rules.

Potentially Deductible Losses

Losses from asset sales may be deductible depending on the asset type. Investment losses, such as selling stocks or bonds at a loss, can offset capital gains. If total capital losses exceed gains, up to $3,000 ($1,500 for married individuals filing separately) can be deducted against ordinary income, with excess losses carried forward.

Losses from business asset sales are often deductible if the asset was used for income generation. For example, selling machinery for less than its adjusted basis results in a deductible loss. However, sales between related parties, such as an owner selling to their corporation, may have restricted deductibility to prevent tax avoidance.

Reporting Requirements

Taxpayers must report gains and losses on tax returns using specific forms. Individuals typically use Schedule D (Form 1040) for capital gains and losses, while businesses file Form 4797 for business property sales. Required details include acquisition date, sale date, sales price, and adjusted basis to determine taxable gain or deductible loss.

Some transactions require additional reporting. Real estate sales often require Form 8949, which itemizes transactions before totals are transferred to Schedule D. If a taxpayer receives a Form 1099-B from a brokerage or a Form 1099-S for real estate sales, the IRS also receives a copy, making accurate reporting essential to avoid discrepancies that could trigger an audit. Businesses selling depreciable assets must account for depreciation recapture to ensure the correct portion of the gain is taxed as ordinary income.