Michael Williams owns some vacant land that he's planning to sell and needs your tax advice.
Michael purchased 200 acres of land for $800,000 on May 12th, 2017 from an unrelated partywhen the state was proposing a highway project. Michael thought that the state would need hisland for the project and he would be able to hold out for a nice profit. Now that the highwayproject has been abandoned by the state, Michael has decided to sell the land to Xylem, Inc. for$650,000 and take a capital loss deduction on his taxes. Xylem Inc. is a privately heldcorporation with 1,000 shares of outstanding stock. The Xylem stock is owned by PeterWilliams, Michael's brother, Holly Jackson, Michael's niece (Peter's daughter) and Bruce Jones,an unrelated individual. Peter owns 400 shares (40%), Holly owns 200 shares (20%) and Bruceowns the remaining 400 shares. Before he proceeds with the sale, Michael would like to know ifhe will be able to deduct the loss or if the IRS will likely disallow the loss in accordance with therelated party loss rules. (See excerpt from chapter 6 of your text below).

 

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6-3j Transactions between Related Parties The Code places restrictions on the recognition of losses from related-party transactions. Without these restrictions, relationships created by birth, marriage, and business would provide endless possibilities for engaging in financial transactions that produce tax savings with no real economic substance or change. For example, to create an artificial loss, a wife could sell investment property to her husband at a loss and deduct the loss on their joint return. Her husband could then hold the asset indefinitely, and the family would sustain no real economic loss. A complex set of rules has been designed to eliminate these possibilities. Relationships and Constructive Ownership Before reviewing the tax consequences of related-party sales, it is important to know the individuals and business entities that are considered to be related parties. Related parties include the following: • Brothers and sisters (whether whole, half, or adopted), spouse, ancestors (parents and grandparents), and lineal descendants (children and grandchildren) of the taxpayer. • A corporation that is owned more than 50 percent (directly or indirectly) by the taxpayer. • Two corporations that are members of a controlled group. • A series of other complex relationships between trusts, corporations, partnerships, and individual taxpayers. Constructive ownership provisions are applied to determine whether the taxpayers are related. Under these provisions, stock owned by certain relatives or related entities is deemed to be owned by the taxpayer for purposes of applying the loss disallowance provisions. For example, a taxpayer is deemed to own not only his or her stuck but also the stock owned by lincal descendants, ancestors, brothers and sisters or half-brothers and half-sisters, and spouse. 6-3j Transactions between Related Parties The Code places restrictions on the recognition of losses from related-party transactions. Without these restrictions, relationships created by birth, marriage, and business would provide endless possibilities for engaging in financial transactions that produce tax savings with no real economic substance or change. For example, to create an artificial loss, a wife could sell investment property to her husband at a loss and deduct the loss on their joint return. Her husband could then hold the asset indefinitely, and the family would sustain no real economic loss. A complex set of rules has been designed to eliminate these possibilities. Relationships and Constructive Ownership Before reviewing the tax consequences of related-party sales, it is important to know the individuals and business entities that are considered to be related parties. Related parties include the following: • Brothers and sisters (whether whole, half, or adopted), spouse, ancestors (parents and grandparents), and lineal descendants (children and grandchildren) of the taxpayer. • A corporation that is owned more than 50 percent (directly or indirectly) by the taxpayer. • Two corporations that are members of a controlled group. • A series of other complex relationships between trusts, corporations, partnerships, and individual taxpayers. Constructive ownership provisions are applied to determine whether the taxpayers are related. Under these provisions, stock owned by certain relatives or related entities is deemed to be owned by the taxpayer for purposes of applying the loss disallowance provisions. For example, a taxpayer is deemed to own not only his or her stuck but also the stock owned by lincal descendants, ancestors, brothers and sisters or half-brothers and half-sisters, and spouse.

Answer rating: 100% (QA)

Yes Michael is likely to face restrictions on deducting the capital loss on the sale of the land to ... View the full answer