Can I specify 0 depreciation on a rental property that I sold in 2019, if no depreciation was taken in prior years?

[yp66]

I bought a home in 2006, lived in it till 2007 and then moved away and started renting it.  I sold it in 2019.  It was consistently rented for the period between 2007 and 2019.

I have been using TurboTax since 2006 and have been keeping track of all my income/expenses.  Since the rent income never covered all my expenses, a have a huge chunk of passive activity losses that have carried through to now.

However, no depreciation expense was taken during any of the tax years 2007-2018.  Not sure why, but my question now is what is the best way to handle this.  When I enter the sale information, in the screen titled "Confirm your Prior Depreciation", can I simply correct the amount from what TurboTax puts as default based on having taken depreciation with a value of 0 ?  The reason I am asking is because the difference in my refund is very large (to the tune of $35,000) and since I did not claim the depreciation, I don't want to lose the tax benefit.

[Carl]

No, you are required by federal law to depreciate rental property. Since you may not have done that for more than 3 years back, you can not use TurboTax to fix your error and correctly report the sale. But first, confirm beyond any doubt that you ahve "in fact" not depreciated the property.

Since you've been using TurboTax for the entire time it was a rental, more than likely you have been taking depreciation as required by federal law, and just don't realize it. The TTX program takes care of depreciation "for you" in the background, *provided* you set up things correctly in the program in the tax year you converted it to a rental.

Open the PDF copy of your 2018 tax return and look for the two IRS Form 4562's. Both forms will print in landscape format. One is titled "Depreciation and Amortization Report" and the other is "Alternative Minimum Tax Depreciation". You want to check the first one.

If you have the property itself along with all property improvements you may have done since converting it to a rental listed there, and there is a positive amount in the "prior year's depr" column showing the total of all depreciation taken before 2018, along with a positive amount in the "current year depr" column showing depreication for 2018, then you're good.

You can also check this in the 2019 TurboTax program *IF* you imported your data from the 2018 return.

In the rental property section for that specific property, elect to start/update the assets/depreication section. Then work through any assets listed there. A few screens in will show you prior year's depreciation already taken, and the last screen will show you the depreciation for 2019.

So confirm "beyond" "any" "doubt" that you did not depreciate the property. It's highly probable you did, and don't even realize it.

[tagteam · Accepted solution]

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@yp66 wrote:

...When I enter the sale information, in the screen titled "Confirm your Prior Depreciation", can I simply correct the amount from what TurboTax puts as default based on having taken depreciation with a value of 0 ? 

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No, you cannot. The problem is you have to reduce your basis by the amount of depreciation allowed or allowable. Therefore, even if you took no depreciation deductions in prior years, your basis will be reduced by the amount that was allowable as deductions, in total, on your prior returns.

You can, however, correct this situation to your benefit but it will involve filing Form 3115 and making a 481(a) adjustment for the depreciation that you did not take in prior years.

See https://www.irs.gov/instructions/i3115#idm140516453730544

Professional guidance and/or income tax return preparation is highly recommended if Form 3115 needs to  filed.

[yp66]

Thank you for the response. 

I am fairly certain there was no depreciation in the past years.  In fact, I have a foreign property that I started renting in 2015 and that one has been properly depreciating so I can see what it looks like when done properly.  Also, as part of a consulting business, I'm depreciating a vehicle.  So when I look in my 2018, Schedule E, line 18 "Depreciation expense or depletion", I see an amount of column B (the foreign rental property) but nothing on column A (the subject rental property).  In addition, I have been keeping track of all my expenses so in Schedule E, I would have seen the depreciation expense but the totals only reflect the actual expenses associated with the rental.  It's my fault for not catching this but I was just "answering the questions"!

As per your suggestion, I also searched for form 4562.  In 2018, there are a total of 4 forms, 2 for the vehicle, and two for the foreign property but nothing for the property I sold in 2019.  Same in 2017 (no Schedule E, line 18 amount, no 4562 forms).  In fact, I looked through all my tax returns back till 2008 and there has never been depreciation.  In 2010 and back, Schedule E has the depreciation at line 20 of Schedule E (as opposed to 18).  

One thing I also realized is that in 2007, my taxes were done by an outfit that will remain unnamed (not sure if they are still in business) and that's when the property went into being a rental; no depreciation then either.  When I started doing it myself in 2008 using TT, the rental wasn't new so maybe this is why it did not trigger TT to begin depreciating and it just stayed that way.  Frankly, I can't even run the 2008 TT version anymore - I only have the PDF records.

All in all, you are confirming my suspicion that this is beyond doing it myself with TT.  It is tempting to just file like that, but the difference in the refund if having the depreciation versus not having it is pretty large so I will file for an extension and hire a pro to file form 3115 and hopefully clean this up. 

[Carl]

I am fairly certain there was no depreciation in the past years.

That's not good enough. Prove it using the guidance I provided earlier.

Once you prove beyond any doubt (not rasonable doubt, but "ANY" doubt) that you did not depreciate the property, that confirms you will need to seek professional help for your 2019 tax return. While the program does include the IRS Form 3115, it is not simple by any stretch of the imagination. You screw up the 3115 in your attempt to "fix" the issue yourself, and you'll find yourself in a never ending nightmare with the IRS from which you may never awaken. The cost of professional help is a pittance in comparison.

[ld4runner]

I'm having this same issue for 2023. I never depreciated my rental property because I thought it was an option and then I wouldn't have to depreciate when I sold. Can I just use the amount that turbo tax calculated for me or do I have to amend prior years returns? 

[DavidD66]

The rule for calculating your gain and depreciation recapture requires you to included depreciation taken or eligible to be taken.  If started renting the property within the last couple of years, filing amended returns would not be a bad option.  There is a better one, and that is to file Form 3115 - Application for Change in Accounting Method with your 2023 return.  However, Form 3115 is complicated.  I don't recommend you do it yourself.  I would seek the help of a tax professional.  You can use TurboTax Live  , or find a local tax practioner with experience filing Form 3115.  For more information on TurboTax Live go to Live Full Service

[ld4runner]

So it's safe to assume the amount that turbo tax calculated for prior year depreciation was the amount eligible to be taken if I proceed without amending prior years or changing accounting method? If I do decide to file form 3115 do I have to file it again to change the accounting method back? The reason I'm asking is because I actually had 2 rentals, I sold one of them but I didn't depreciate on the other one either. I'll start depreciating on this current return unless the form 3115 always me to continuing doing it the way I have been.  And one last question, how is the depreciation calculated? What amounts did turbo tax use to calculate the eligible amount?

Thank you so much for your help.

[DianeW777]

Yes, you can count on TurboTax calculations for your prior depreciation.  Keep track of it because whether you use it or lose it, it will be part of the sale in the future.

I will reiterate what @DavidD66 stated in regards to doing an amendment for the couple of years you have rented it and did not take depreciation.  That's your easiest option and you can complete 2023 as if you had taken prior depreciation, it will not change 2023 tax return regardless of what you do.  

You will be able to access and file an amended return now (Form 1040-X).  Be sure to read all the instructions carefully, before you begin, so that TurboTax knows the original numbers and the changed numbers for your amendment.

• How to amend (change or correct) a return already filed?
• What is the deadline for filing an amended return?
• How to file an amended return with the IRS

If you do decide to use Form 3115, you only use it once and there is no need to file it again once you have calculated the depreciation for the entire period.

Depreciation on the rental property itself will be depreciated using the straight line method, with a mid-month convention over 27.5 years.  This simply means the property has an even monthly amount for the life of the property (27.5 years) with the exception of the first and last month which is calculated at a half month (mid-month).  A quick calculation for a full year is the cost basis x .03636. See the chart below.

Form 3115 Instruction: By including this with the current year tax return, you can complete everything on the 2023 tax return.

1. Adopt a change in accounting method: This option allows you to go back as far as you need. Make the adjustment on your current year tax return to expense the missing depreciation.
   • Why am I adopting a change in accounting method? Not claiming depreciation in two or more years indicates that you've chosen an accounting method without depreciation. In this case, you must now elect to change your accounting method to include depreciation.
2. You must use the TurboTax CD/Download version to complete this form. TurboTax does not help you with this form. And your return must be mailed because this form is not supported through e-file.

This must be completed and filed with the return on time.

You can change to TurboTax CD/Download if you choose.

• How to switch from TurboTax Online to TurboTax CD/Download?

@ld4runner 

                                          

[tagteam]

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@ld4runner wrote:

.....if I proceed without amending prior years or changing accounting method......

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One final note about foregone depreciation deductions and amending prior returns is that you must file Form 3115 (and make a 481(a) adjustment for missed deductions) if you filed returns where you missed those deductions for two consecutive tax years (e.g., if you missed depreciation deductions on your 2021 and 2022 returns).

See https://www.irs.gov/publications/p946#en_US_2023_publink1000107386

Adoption of accounting method defined.

Generally, you adopt a method of accounting for depreciation by using a permissible method of determining depreciation when you file your first tax return, or by using the same impermissible method of determining depreciation in two or more consecutively filed tax returns.