Holding Period
Posted on October 20, 2008
Filed Under Capital Gains and Losses, Federal Income Tax
The rate at which a capital asset is taxed depends on the holding period–the length of time a taxpayer holds a capital asset. For example, a sale at a price other than basis of a long-term capital asset–a capital property that is held for more than one year–will generate a long-term gain or loss. On the other hand, a comparable sale of a short-term capital asset–a capital property that is held for one year or less–will produce a short-term gain or loss. The classification is not trivial: a gain on the sale of a long-term capital asset is taxed at a lower rate than a gain on the sale of a short-term capital asset.
For a capital asset, the day of acquisition is excluded but the day of disposal is included in the holding period calculation. In short, the day after acquisition marks the beginning of the holding period, the number of days in a month doesn’t matter, and capital property acquired on the last day of the month must be held until the first day of the thirteenth month after acquisition to qualify for long-term gain or loss treatment.
Example 1: A capital asset acquired on February 28, 2009 by Mr. Smith must be held until March 1, 2010 or later for a sale or exchange of such asset to qualify for long-term capital gain or loss treatment. If Smith were to sell this asset at a price other than basis on February 28, 2010, he would have a short-term capital gain or loss.
Example 2: A capital asset acquired on March 31, 2008 must be held until April 1, 2009 or later to qualify for long-term capital gain or loss treatment.
More generally, if a taxpayer takes a substituted basis in a capital asset (i.e., taxpayer takes seller’s or transferor’s basis in the property), then the time the property is held is tacked on to the seller’s or transferor’s holding period. To complicate matters, special rules apply to property acquired by conversion or tax-free exchange, gift, or inheritance.
Property Acquired by Conversion or Tax-Free Exchange
The holding period of a capital asset acquired by conversion, voluntary or involuntary, or tax-free exchange will include transferor’s holding period if transferee’s basis in the property is the same as transferor’s basis on the date of transfer.
Property Acquired by Gift
The holding period of a capital asset acquired by gift will include the holding period of the donor if, on the date of the gift, donee’s basis in the property is the same as donor’s basis. If, however, the fair market value (FMV) of the property is less than donor’s adjusted basis and the donee sells the property at a loss, then the holding period begins on the date of the gift and donee’s basis for determining loss is the property’s FMV.
Example 3: Smith acquires by gift a capital asset with a FMV of $25,000 and adjusted basis of $20,000 on October 15, 2008. The donor purchased the property on September 30, 2004, and Smith takes a substituted basis in the property. Since Smith’s basis is the same as donor’s basis on the date of the gift, Smith inherits donor’s holding period. If Smith were to sell the property for $25,000 on December 14, 2008, the transaction would qualify for long-term capital gain treatment.
Example 4: Smith acquires by gift a capital asset with a FMV of $15,000 and adjusted basis of $30,000 on March 15, 2008. The donor purchased the property on January 3, 2005. If Smith were to sell the property for $10,000 on November 1, 2008, Smith’s holding period would start on the date of the gift and his basis for determining loss would be $15,000, the FMV of the property at the time of the gift.
Property Acquired by Inheritance
The sale or exchange of a capital asset acquired by inheritance will produce a long-term gain or loss regardless of how long the legatee holds the property.
Additional relevant articles on the topic of holding period for a capital asset are listed below:
Many happy returns, Roger
[...] A taxpayer should know that if she were to realize a gain on the sale of a long-term capital asset–a capital property held for more than one year, she would be taxed but at a rate lower than that for an item of ordinary income. In contrast, a gain on the sale of a short-term capital asset–a capital property held for one year or less–would be taxed as if it were an item of ordinary income. The distinction between the tax treatment for a capital asset with a long-term holding period and that for a capital asset with a short-term holding period is the key theme of this article. (For a full discussion of how holding period affects the classification of a capital asset, click on my earlier post on this topic, holding period.) [...]
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