Discussion:Capital Asset Gain OR Ordinary Income

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Discussion Forum Index --> Tax Questions --> Capital Asset Gain OR Ordinary Income


DianeOffutt (talk|edits) said:

26 September 2006
I have a single-member LLC who is a auto broker. He designed a website a few years back that allows him to sell advertising space on it. He claims the maintenance of the website ($25 month) as an ordinary business expense against the advertising ordinary business revenue. He originally expensed the design of the website as it was minimal (under a few hundred dollars). He received an offer to sell the website for $35K and decided to accept it.

The question I am faced with: is the sale considered ordinary income subject to SE or is it a capital asset, subject to favorable tax treatment?

My research has led me to a case MORRIS COHEN., 39 TC 886, the FINDINGS OF FACT stated….since the joint venture did not hold the 80 acres primarily for sale to customers in the ordinary course of trade or business, the profit from the sale of the property was considered long-term capital gain.

Also, in VISION INFORMATION Services, LLC v. COMM., Cite as 96 AFTER 2d 2005-5807 (419 F.3d 554), 08/22/2005, Code Sec(s) 61; 1001;1221;1235;6226 Headnote 1. Gross income-ordinary income vs. capital gain…it states basically that the sale was a not really a sale it was more an arrangement with restricted rights in exchange for annual payments so payments were considered ordinary income.

Since my client did not have this website listed as an inventory item; it, in and of itself was NOT for sale at any time during the past two years; it was always considered a company asset (although not recorded as such) that simply produced an ordinary business revenue stream. When my client accepted the offer to sell the website; the sale was a complete bona fide sale; my client giving up all rights to any future revenue. I feel these two facts will allow us to take the position it is truly a capital asset gain and take the favorable tax treatment and the $35K not be subject to SE.

I would appreciate any and all feedback on this issue.

Thank you,

Diane Offutt Woodstock, Georgia 30189

Joecpa (talk|edits) said:

27 September 2006
Before signing off on a client return like this I would probably review informaton on intangibles (may not apply but is a thought I'd follow through on) and would also consider what the client may be doing in the future. I would agree with your fact presentation that on an isolated case approach it would appear to qualify for capital gain treatment (might even look better if you might recapture the small amount originally expensed as ordinary income); however, if the client went into business designing and selling website that might bring into question the capital gain treatment on this item. Assuming my research didn't bring any other questions into play I'd take capital gain treatment on the asset sale and cover myself in a letter to the client that this treatment was only available due to the isolated, one time sell and would not apply if he was "in the business" of creating websites.

DianeOffutt (talk|edits) said:

27 September 2006
Thank you so much Joecpa. I did speak to my client and this is definitely NOT something he will do(design and sell websites in the future).

As for the small amount that was originally expensed, recapturing it to ordinary income (approx $1K) just to confirm, this $1K would be subject to SE tax? I believe it will since the expense originally reduced SE income. Just want to be sure.

Thanks,

Diane Offutt

DZCPA (talk|edits) said:

27 September 2006
All capital gain. Do not bother with recapture. I do not feel it relates to ulimate sale. It also does not make a big difference. Keep it simple.

DianeOffutt (talk|edits) said:

27 September 2006
Thank you DZCPA. I appreciate your taking the time to respond.

Diane Offutt

JR1 (talk|edits) said:

September 27, 2006
I agree with DZ, this is cap gain, no doubt.

DianeOffutt (talk|edits) said:

28 September 2006
Thank you JR1.

Diane

Joecpa (talk|edits) said:

28 September 2006
It is capital gain but because the asset was not properly capitalized as an asset but was instead expensed I was simply indicating that if you really wanted to toe the line on the transaction that the part that was expensed (should have been depreciated) might be treated as depreciation recapture which would be at ordinary income tax rates. Different calls for different CPA's especially considering the small amount initially expensed.

DianeOffutt (talk|edits) said:

28 September 2006
I actually agree with you Joecpa. Although a small amount, recapturing it and paying ordinary income tax rates shows our intent. If I were advising this client two years ago I would have capitalized then depreciated it. Thank you for your input. Being a sole practioner it is great to have these forums to bounce issues around and get feedback.

Thanks again,

Diane

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