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New Member

Depreciation of improvements made before conversion

We purchased a vacation condo in 2016 and made substantial improvements over 3 years in view of a future part-time rental....furniture, flooring, permanent lighting, replace water heater, air conditioner, and washer/dryer. In 2019 we rented it for 3 months.

 

A long-time TurboTax user, I did not trust myself on the rental so I went to a CPA for 2019 tax return. She depreciated the condo itself but not the improvements. She said the improvements could not be depreciated because they were made prior to renting the condo. I would appreciate some help in understanding how this should have been handled. I may want to file a corrected return.

5 Replies
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Level 15

Depreciation of improvements made before conversion

The following is the rule when you convert property from personal use to rental (income-producing) use:

 

Property changed from personal use.

If you held property for personal use and later use it in your business or income-producing activity, your depreciable basis is the lesser of the following.

  1. The fair market value (FMV) of the property on the date of the change in use.

  2. Your original cost or other basis adjusted as follows.

    1. Increased by the cost of any permanent improvements or additions and other costs that must be added to basis.

    2. Decreased by any deductions you claimed for casualty and theft losses and other items that reduced your basis.

     

     

     

    See https://www.irs.gov/publications/p946#en_US_2019_publink1000107373

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Level 15

Depreciation of improvements made before conversion


@Hornman wrote:

We purchased a vacation condo in 2016 and made substantial improvements over 3 years in view of a future part-time rental....furniture, flooring, permanent lighting, replace water heater, air conditioner, and washer/dryer. In 2019 we rented it for 3 months.

 

A long-time TurboTax user, I did not trust myself on the rental so I went to a CPA for 2019 tax return. She depreciated the condo itself but not the improvements. She said the improvements could not be depreciated because they were made prior to renting the condo. I would appreciate some help in understanding how this should have been handled. I may want to file a corrected return.


Your adjusted cost basis should have included any permanent improvements to the fixed structure.  (Real estate or real property is land plus permanent attachments.)  That would include flooring, lighting, A/C and water heater, but not furniture or the washer/dryer, and not repairs.  (Repairs are different from improvements, we can discuss that if you need more information.)

 

Then, as stated in the other answer, the basis for depreciation is either your adjusted cost basis or the fair market value, whichever is lower at the time you placed the property in service.  

*Answers are correct to the best of my ability but do not constitute legal or tax advice.*
**If a post answers your question, choose it by clicking on "Mark as Best Answer".**
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Level 15

Depreciation of improvements made before conversion

If that's really what the CPA told you, fire them yesterday if not sooner. If they "really" told you that, then they have no clue what they're talking about.

However, I am more suspicious of a serious lack of communication between you and that CPA - as I find it unfathomable that a CPA would actually tell you that - unless they're not really a "certified" CPA, or they did not fully understand and comprehend the information you provided them concerning your property improvements.

 

Since your property improvements were done before you ever rented it, all you have to do is add the cost of those property improvements to your cost basis of the *STRUCTURE*. THe cost basis of the land *will* *not* *change*.  However, of the property improvements you listed, not all of them are "a permanent part of" the structure. So they "have" to be depreciated separately.

flooring, permanent lighting, replace water heater and air conditioner (only if central air, and not a window unit) are "a permanent part of" the structure. So add your cost for those improvements to your cost basis of the structure. Now you might "think" the hot water heater would be depreciated over 5 years as an appliance. But that's not the case because that HW header is "a permanent part of" the plumbing system, which is already "a permanent part of" the structure. So the HW heater gets classified as "residential rental real estate" and depreciated over 27.5 years.

 

As for the washer/dryer, I personally would not bother with it because it's not worth it in the long run. Under the safe harbor act if you purchased the washer/dryer in 2019 then you can just expense those items "IF" you paid less than $2,500 for them. (I can't see you paying more than that for a washer/dryer in rental property, and if you did pay more than that, then you most certainly would not have left them there when you moved out.)

 

Finally, take special note that if you intended to only rent this property for 3-4 months a year converting it to rental and back to personal use each year, be aware that the TurboTax program *CAN* *NOT* handle this situation correctly year to year.

 

The washer/dryer is clssified as furniture/equipment and gets depreciated over 5 years.

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New Member

Depreciation of improvements made before conversion

Thank you very much for the detailed reply. This was a big mess. Despite the July 15 extension she waited till the last minute to do my return. I had to review a PDF at the last minute and agreed to file because I didn't know enough to question it. When I met with her this week, she did in fact tell me the improvements could not be depreciated because they were made before conversion, but we could start depreciating them on the 2020 return. She was covering for the fact she did not even look at my Quicken report on improvements and didn't want to redo my return. 

 

By going to the CPA I had hoped to understand better what goes in the buckets of capital improvements and expenses. I understand now from these responses that improvements to the structure add to the basis but you said other items would need to be depreciated separately. The "other items" is what I still don't understand. We had to stock the condo from scratch so we bought couches, chairs, beds and bedding, big screen TV, decor, dishes, cookware, silverware, lamps, etc. What of these types of things would be in the category of "other items" for depreciation? Or is it really worth depreciating anything other than the structural improvements? Thanks for your response.

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Level 3

Depreciation of improvements made before conversion

If you could take the roof off your condo, then pick up the unit and turn it upside down, everything that would fall to the ground is personal property.  Personal property is not an integral part of the dwelling structure and is depreciated on a five year schedule. 

 

Reading between the lines, you bought the property in 2016 and furnished it for your personal use.  In 2019, you converted the property to a rental.  What is not clear is whether your rental use was only for three months and the property is now held for your personal use once again.   If the property is still in service as a rental, you are allowed to depreciate the personal property using its depreciated value (or thrift shop value) as your depreciation basis. 

 

You can't use your cost because after three years of personal use, the value of that property has declined through age and wear.  In this instance, I would not bother with the personal property depreciation until it had to be replaced.  At that time, depreciation to full cost of the replacement personal property item or expense if one of the safe harbor rules apply.