Adjustment to cost basis for rental depreciation schedule

[jcon95482]

We are selling a house that has been a rental for the last 10 years. Upon the sale of the home we realized that we incorrectly input our cost basis 10 years ago when it was converted to a rental property. The amount isn't huge, but the cost basis has been underestimated by about 10% and thus the depreciation has been underestimated as well for 10 years. Unfortunately, this error was not caught until now. Am I able to adjust this? If so, how? Someone recommended the following, but is this the correct method or is there a better (or easier) way: To correct the basis you just add an asset to the depreciation schedule and call it "un-depreciated basis."

[Critter-3]

This is one of those times when you should either upgrade to LIVE  to get one on one assistance with this mess  OR  seek a local tax professional to file this return and fix the issue correctly. 

[Carl]

Since this occurred over a period of more than 3 years back, you can't fix this by simply making an entry in the assets section. It requires you to include IRS Form 3115 with your return. Now even though the form 3115 is included in the TurboTax program (which I think was a horrible thing for Intuit to do), understand that the 3115 is *NOT* simple by any stretch of the imagination. As it stands now, in the process of fixing this you will be penalized for having done it wrong from the get-go. But you screw up the 3115 and more fines and penalties will follow.

*SEEK* *PROFESSIONAL* *HELP*.  This is especially important if your state taxes personal income, as you may be assessed fines and penalties by the state also.

[Anonymous]

there may no penalties when the sale is reported in 2020.  TP understated cost so depreciation was understated in prior years.  since the property was sold in 2020 the 3115 will allow immediate deduction of the missed depreciation this will in turn increase the section 1250 recapture by a like amount.  however, since this will all be in 2020 unless TP underpaid the minimum required tax payments, I don't see where there will be any penalties.

did you really understate the depreciable cost?  when converted to rental, the proper cost for depreciation purposes was the lower of actual cost or Fair Market Value on the date of conversion. was the proper amount allocated to non-depreciable land?   

[AmeliesUncle]

Unfortunately, this is NOT a situation that qualifies for Form 3115.  You can only amend the 'open' years to correct the missed depreciation.

For your current year return, you just edit the assent and change it to the correct Basis.  And for the "prior depreciation", you need to enter what you SHOULD have claimed for the prior depreciation.

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@jcon95482 wrote:

when it was converted to a rental property. 

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When you converted it, you needed to use the LOWER of (1) the Basis at that time (usually purchase price, plus cost of improvements, minus any depreciation such as from a Home Office) or (2) the Fair Market Value at that time of conversion.

Is that possibly what the discrepancy is?  Was the Fair Market Value lower than the Basis?

If your situation required you to use the Fair Market Value amount, TurboTax is NOT set up for that situation and you should consider a good tax professional.

[jcon95482]

Thank you, all! I now realize the discrepancy was that I used the FMV at the time because it was lower than the purchase price (as TT obviously instructed me to do). Also, land/home was allocated properly (taken from the property tax statement).

So my thinking now is that my depreciation has been correct all along and no adjustment is actually necessary.

Regarding the sale of the property and reporting it on my 2020 return, I believe I would use the purchase price when reporting the disposal of this asset to calculate any gains, right? After the depreciation, there is a very small gain that I will have to pay taxes on and I am withholding that amount for CA on form 593. I will also make an estimated payment via 1040ES for the Fed. I'm hoping it shouldn't matter that the depreciation schedule used a lower amount than what the actual purchase price was since that was the correct way to do it. My main concern was that the amount on the depreciation schedule was less than the purchase price and for the life of me I could not figure out why I would have done that 10 years ago (until reading your responses). Phew.