Generally, you will have a capital gain or loss if you sell or exchange a capital asset. You will also have a capital gain if you sell or exchange Section 1231 real or depreciable property held longer than 1 year and used in a trade or business. Section 1231 can also include certain involuntary conversions of business or investment property, including capital assets. Section 1231 gains are discussed later.
Almost everything you own and use for personal purposes, pleasure, or investment is a capital asset. Some examples of capital assets include a personal residence, household furnishings, personal vehicles, coin and stamp collections, jewelry, precious metals. Gain from the sale or exchange of personal property is a capital gain and losses are not deductible. However, you can deduct a loss relating to personal-use property only if it results from a casualty or theft.
Gain or loss from the sale of investment property, such as stocks and bonds, is a capital gain and losses. If the investment was held less than 1 year it will be a short-term capital gain or loss. If the investment was held more than 1 year it will be a long-term capital gain or loss. Capital losses are limited to $3,000 annually after you have netted your total gains and losses. You can only deduct up to a $3,000 capital loss in any given year.
Property used for the production of income results in ordinary gains not capital gains. Some examples of non-capital assets are stock in trade, inventory, receivables from sale of business property, depreciable property used in a trade or business, and real property used in a trade or business (rental property).
The sale of a business can result in both capital and ordinary gains. A business usually has many assets. When sold, these assets must be classified as capital assets, depreciable property used in the business, real property used in the business, or property held for sale to customers, such as inventory or stock in trade. The gain or loss on each asset is calculated separately. The sale of capital assets results in capital gain or loss. The sale of real property or depreciable property used in the business and held longer than 1 year results in gain or loss from a section 1231 transaction. The sale of inventory results in ordinary income or loss.
The sale of an interest in a partnership or joint venture is treated as a capital asset when sold. The part of any gain or loss from unrealized receivables or inventory items will be treated as ordinary gain or loss.
The sale of an interest in a corporation that is represented by stock certificates results in capital gains or losses. The liquidation of a corporation is generally recognized as a sale or exchange of business property at fair market value and is treated as ordinary income by the corporation.
Special rules apply to the sale of Section 197 intangible assets. Intangible property is personal property that has value but cannot be seen or touched. It includes things like patents, copyrights, and goodwill. The sale of intangible assets that are amortizable or depreciable and held longer than 1 year results in a Section 1231 gain or loss.
Disposition of business property is usually a Section 1231 gain or loss and can be either an ordinary gain or loss or a capital gain or loss. Determining whether an ordinary or capital gain or loss depends whether you have a net gain or a net loss from all your section 1231 transactions. To determine the treatment of Section 1231 gains and losses, combine all your Section 1231 gains and losses for the year. If you have a net Section 1231 loss, it is ordinary loss. If you have a net Section 1231 gain, it is ordinary income up to the amount of your non-recaptured Section 1231 losses from previous years. The rest, if any, is long-term capital gain.