Congress has identified some transactions in which it does not want taxpayers to “recognize” gain even though a taxpayer may have “realized” gain. The “technique” by which Congress accomplishes this is the basis transfer. Taxpayer simply keeps as the basis in the asset he/she/it acquires the basis in the asset he/she/it gave up. Some examples include –
- Like-kind exchanges under § 1031: Under certain defined conditions, taxpayer does not recognize gain or loss upon the exchange of property for other property of like kind. Instead, taxpayer has the same basis in the acquired property as he/she/it had in the property exchanged. § 1031(d) (with adjustments for receipt of and taxation of non-like kind property received).
- Involuntary conversions under § 1033: If taxpayer’s property is compulsorily or involuntarily converted because of theft, seizure, requisition or condemnation, taxpayer may, by complying with the rules of § 1033, elect to spend money received because of such conversion on replacement property. Taxpayer does not recognize the gain realized on such a conversion. Instead, taxpayer has the same basis in the replacement property that he/she/it had in the property compulsorily or involuntarily converted. § 1033(b) (with various adjustments).
- The gain or loss that a partner “realizes” upon contributions of property to a partnership in exchange for a partnership interest are not “recognized.” § 721. The partner’s basis in his/her/its partnership interest is the basis he/she/it had in the property contributed. § 722.
- The gain or loss that a shareholder “realizes” upon contributing property to a corporation in exchange for shares of stock in the corporation are not “recognized” if the conditions of § 351(a) are met. Shareholder’s basis in his/her/its shares is the basis of the property he/she/it contributed. § 358(a).
In these transactions and many more, tax on gain is not forgiven. It is merely deferred until the time when taxpayer disposes of the asset acquired in a taxable transaction.