Key Takeaways
- Realized Gain/Loss = Amount Realized - Adjusted Basis.
- Adjusted Basis = Cost + Improvements - Depreciation allowed or allowable.
- Form 4797 reports business asset sales.
- Character: Ordinary assets, Capital assets, or §1231 assets.
- Depreciation recapture: taxed as ordinary income before capital treatment.
- "Allowed or allowable" = must reduce basis even if not claimed.
Last updated: January 2026
Disposition of Business Assets
Why This Matters for the Exam
Asset disposition ties depreciation to gain/loss. The exam tests the formula and "allowed or allowable."
Expect at least 2-3 questions on dispositions.
The Disposition Formula
| Element | Calculation |
|---|---|
| Amount Realized | Cash + FMV property + Liabilities assumed |
| Adjusted Basis | Cost + Improvements - Depreciation |
| Gain/Loss | Amount Realized - Adjusted Basis |
Adjusted Basis Components
| Component | Effect on Basis |
|---|---|
| Original cost | + |
| Sales tax, freight, installation | + |
| Capital improvements | + |
| Depreciation (§179, bonus, MACRS) | - |
"Allowed or Allowable" Rule
| Rule | Effect |
|---|---|
| Forgot to claim depreciation | MUST still reduce basis |
| Cannot "save" basis | By skipping depreciation |
| Exception | Electing out of bonus (specific election) |
Character of Gain/Loss
| Asset Type | Definition | Treatment |
|---|---|---|
| Ordinary | Inventory, A/R | Ordinary rates |
| Capital | Investment, personal-use | Capital rates |
| §1231 | Depreciable business property >1 year | Best of both worlds |
Depreciation Recapture
| Rule | Effect |
|---|---|
| Gain up to depreciation taken | Ordinary income |
| §1245 (personal property) | All depreciation recaptured |
| §1250 (real property) | Excess over straight-line (25% rate) |
Form 4797 Parts
| Part | Assets Covered |
|---|---|
| Part I | §1231 property (>1 year) |
| Part II | Ordinary gains/losses |
| Part III | Depreciation recapture |
Real-World Scenario
Scenario: Forklift—cost $20,000, depreciation $12,000, sold for $10,000.
- Adjusted basis: $20,000 - $12,000 = $8,000.
- Gain: $10,000 - $8,000 = $2,000.
- Recapture: $2,000 < $12,000 depreciation → all $2,000 ordinary.
On the Exam
Expect 2-3 questions on dispositions, typically:
- Gain/Loss Questions: "What is the realized gain?"
- Basis Questions: "What if taxpayer forgot to claim depreciation?"
- Recapture Questions: "How is the gain taxed?"
The key is to remember: Gain = Amount Realized - Adjusted Basis. Adjusted Basis = Cost + Improvements - Depreciation. "Allowed or allowable" = must reduce basis. Recapture = ordinary income.
Test Your Knowledge
Machine: $20,000 cost, $14,000 depreciation, sold for $15,000. Realized gain?
A
B
C
D
Test Your Knowledge
Taxpayer forgot to claim depreciation. Effect on adjusted basis?
A
B
C
D
Test Your Knowledge
Which form reports business asset sales?
A
B
C
D