Changing Basis at Sale of Rental Property

[ajkrause]

How do I correct basis error when selling rental property?  2006-purchased SFR for $250,000 and put in $55,000 of improvements.  2015-put in service as rental and used county figure of $235,000 as basis and have been depreciating based on that number.  2019-sold property for $350,000.   It appears that I should have used $305,000 as basis in 2015 when putting into service as a rental (or fair market value), but exactly how in TT do I account for a higher basis so I can reduce capital gains as compared to the $350,000 selling price?

[maglib]

@ajkrause You won't like my answer.  According to the IRS, “If you were entitled to take depreciation deductions b you cannot exclude the part of your gain equal to any depreciation allowed or allowable as a deduction for periods after May 6, 1997.” https://www.irs.gov/faqs/sale-or-trade-of-business-depreciation-rentals/sales-trades-exchanges/sales...

Easiest but, not correct method is to apply for a change in accounting methods using IRS Form 3115 * and take the catch up depreciation this year.  the truth is it's not a change, just an error though but, easiest method  You’re changing from a depreciation method that’s not allowed to one that’s allowed...

OR

The really correct method is You would have to go back and amend all prior year tax returns.

The IRS says All allowed or allowable depreciation must be considered at the time of sale. So even if you did not take depreciation in the past, it was allowable, so you can't just adjust this year. 

How to amend in TT https://ttlc.intuit.com/community/amending/help/how-to-amend-change-or-correct-a-return-you-already-...

I don't work for TT. Just trying to help.

Hope this was helpful.

*

To file a Form 3115 in TurboTax program, you would need a TurboTax desktop version to complete the entries.  You cannot use the online version, unfortunately.  If you are currently using the online edition, please follow the instructions below in TurboTax online edition to switch to the desktop:

1. After sign into your account, select Take me to my return 

2.  At the right upper corner, in the search box, type in 3115 and Enter 

3.  Select Jump to Form 3115 

4.  On the screen, Change in Accounting Method, select CD/Download version of TurboTax to continue

5.  Once you are in the CD/Download version, use Forms View to enter Form 3115.

• At the right upper corner, select Forms 
• Under Forms mode, at the left upper corner, select Open Form, type in 3115 to open form to enter information

[Anonymous]

here's another viewpoint

Amended Returns:

You claimed the incorrect amount because of a mathematical error made in any year.
You claimed the incorrect amount because of a posting error made in any year.
You claimed the incorrect amount on property placed in service by you in tax years ending before the statute of limitations has expired.
You are changing the amount of Section 179 claimed or not claimed.
Election to apply the $2,500/$5,000 de minimis safe harbor rules (within its own time period requirements of return due date plus extension).
Election not to claim bonus depreciation under 168k (within its own time period requirements of return due date plus extension).
Amending returns will only correct depreciation errors that have occurred in the last three years. Errors that have occurred before that cannot be “caught up” on current or amended returns and will only be “caught up” when the asset is sold using a Form 3115 and Code 107 

[ajkrause]

Thank you for suggestions on adjusting for depreciation.  Form 3115 looks a little daunting.  A CPA friend suggested that at the sale of the rental, I should not use the $235K basis I used for depreciation when putting into use as a rental.  Instead I should use the original purchase price $250K + capital improvements $55K -claimed depreciation $22K = $283K as basis at time of sale.  If so, then I don’t know how to enter that into TT.  Thank you.

[AmeliesUncle · Accepted solution]

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@ajkrause wrote:

nstead I should use the original purchase price $250K + capital improvements $55K -claimed depreciation $22K = $283K as basis at time of sale.  If so, then I don’t know how to enter that into TT.  Thank you.

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The first part is correct, the second part is wrong.  You use your actual Basis ($305k), but you need to use the depreciation that you COULD have taken.

For how to report it, just go in and edit the "asset" and enter the correct information ($305).  But you need to be sure to use the correct "prior depreciation" by entering that you COULD have claimed.

Then just continue in that "asset" and indicate it was sold.

Because you need to reduce the Basis of the depreciation that you COULD have claimed, you may consider amending prior tax returns to correct things and actually claim the proper amount of depreciation.

[Carl]

How do I correct basis error when selling rental property? 2006-purchased SFR for $250,000 and put in $55,000 of improvements.

Your cost basis for depreciation is $305,000 minus the value of the land. Period.

2015-put in service as rental and used county figure of $235,000 as basis

That was flat out wrong. You can not use the county tax assessor's basis for depreciation. The county tax assessor only determines the tax value - not the Fair Market Value (FMV). In fact, the county tax assessor never steps one foot inside the house. So it's impossible for them to assess the FMV. Typically, the tax value assessed will be 30% or more below the fair market value. Therefore, you can not use the tax value for depreciation.

I should have used $305,000 as basis in 2015 when putting into service as a rental (or fair market value), but exactly how in TT do I account for a higher basis so I can reduce capital gains as compared to the $350,000 selling price?

Bottom line is, to fix this correctly you can't use TurboTax. You need to file IRS Form 3115 with your return to correct your error, since your error is more than 3 years back. While the TurboTax program does include the IRS Form 3115, this form is *NOT* simple by any stretch of the imagination. So if you are not a qualified professional tax preparer, then you need to seek professional help to report the sale and fix your error.  This would be especially true if your state taxes personal income, because you're going to be penalized by your state also, for not having correctly depreciated the property.

A professional tax preparer that has been formally trained and educated in these matters will more than likely be able to reduce the fines and penalties you pay, without "raising eyebrows" at the IRS (as well as the state) that could result in a potential audit.

Please seek professional help and just accept the fact that if you haven't filed an extension by now, you are going to pay late filing fees. (late filing fees do not apply if you are due a refund. But I woule expect potential fines and penalties for your depreciation error to eat up a portion of any refund you may be due, and possibly all of it, plus more.)