Expert answer:Tax Research Problem
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RP 15
Acc 352
In autumn, 2002 Ashley Hatter and her fiancé’ Eric Spartan acquired their dream land, 20 acres of gently
rolling land sloping from US Highway 301 to Lake Suburban. The tract and all that came with it cost
$180,000. The land included 220 feet of lake frontage and a somewhat weathered dock. Lake Suburban
is a 640 acre lake located in eastern Hillsborough County, Florida. The land included some tired “old
vine” grapes, a mini grove of citrus trees and a double-wide manufactured home. Ashely termed the
double-wide “unfit for human habitation”.
After returning from their January, 2003 honeymoon to Garden City, Kansas (home of the world’s largest
in-ground concrete swimming pool) the happy couple moved onto their property in a rented single-wide
mobile home. Beginning in February, 2003 the couple demolished the prior double-wide and
painstakingly constructed their dream home. The home was completed in December, 2005 and the
couple moved in to their self-constructed 4,300 square foot home. The cost of improving the property
was (not including their labor) $320,000. The couple got busy raising a family and welcomed a child a
year into their home for the next three years. The happy couple also began funding 529 plan accounts
for each child with the hope that their three children would all enjoy studying accounting at The
University of Tampa (much as they had).
In the spring of 2014 tragedy struck the Spartan family when Ashley was returning from a soccer match.
The driver of a rock hauler truck momentarily distracted by a text message crossed the center line of
Route 301 and struck Ashley’s mini van head on instantly ending the lives of Ashley and her three
children.
Eric was overcome with grief and could not bear to be in the family home. The basis of the home
(according to Eric) was his half of the $500,000 acquisition and construction ($250,000) plus Ashley’s
half fair market value ($600,000) or $850,000. Eric listed the property for sale and closed on the sale of
the property on October 1, 2014 receiving cash of $600,000 and a promissory note (secured by a first
mortgage) from the buyer of $600,000 (total sale price of $1,200,000). The note was due in two
installments October 1, 2016 and October 1, 2018. Eric moved to Sarasota, Florida on October 1, 2014
where he began a new life. Eric purchased a new home in Sarasota for $475,000; he paid cash.
Eric filed a joint tax return for 2014 claiming an exclusion of $350,000 gain for the sale of a principal
residence.
The buyer of Eric’s home failed to make the October 1, 2016 payment and Eric reluctantly foreclosed on
the property. Eric treated the foreclosure as having acquired the property in exchange for cancellation
of the buyer’s debt. Eric did not report any gain on the transaction determining that his basis of
$850,000 plus the $350,000 in excluded gain for the sale of a principal residence equaled the $1,200,000
sale price so he had no gain to report when completing the foreclosure.
The tax returns for 2014-2016 have been timely selected (or consented) for examination and the IRS has
asserted that the $350,000 in excluded gain must be recaptured. What result?
…
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