Determining accumulated depreciation for rented rooms in my primary residence

[rob K]

Hi,

I rented out some rooms in my primary residence for a number of years through the end of 2024 but never "took" any depreciation on the sch E as i incorrectly assumed that depreciation was only applicable if the whole property was treated as a rental. 

In 2025 I sold  my home and  i  now understand  the need to factor in  this accumulated amount. I understand the the percentage of the space rented is used to determine the amount of business use and then flow to adjusting the basis  (value of iimprovements only as of date put in service ) in calculating taxable capital gain and and recapture. 

I waded into the rental screen and after choosing the "the proerty was sold "  it then asked me if the rental space was rented out partially or not at all for 2025.  The rented rooms were not rented out at all because i was getting the property reading to be put on the market so no income to declare.  I chose that option.  The program then  would not procede any further with the process.  If i do not say it was not rented at all  then it allows me to procede but i am concerned that it might be affecting the calculations.  Am i doing something wrong or out of sequence ?   Also, it asked for number of days of rental use versus personal use.  Since i had no rental activity at all, can this be ignored or do i have to input something?

Lastly, is there a correct order of first inputing the sale of residence  and the sale of the rental in the rent section or does it not matter and turbo tax will sort it all for me. 

This is all new to me and trying to get it right. 

[DianeW777]

No, you are not doing anything wrong technically. The information below will help you to walk through the steps you need to follow.

I will provide steps to enter your Sale of Home and Sale of Business Property. For any rental assets that were placed in service specifically for the rental area, if applicable. Assuming you add the assets now for depreciation as far as the house (no land) TurboTax will calculate all prior depreciation and the current year.

Also because you didn't take the depreciation through the rental room years, you have the option to use it for 2025 but you must use Form 3115 to be allowed to deduct the full amount on your Schedule E for 2025.

Because you have a rental space and you also used the rest of the space as your home, you will use:

1. Sale of Home 
2. Sale of a Business Asset. 
   • It's the way it must be reported so that all the correct gains home sale exclusion to calculate accurately

Next, you will split the sale by dividing the rental space by the total space (square feet) then use that result to multiply by the cost of the building only (not the land portion since that is part of the house and part of the home sale). The difference will be the sale of home and reported as indicated below.

• Note: If you have any other assets that are specifically rental space calculate the selling price if any for each of those using the rental portion of the cost above, adding the other assets to arrive at a combined total to use for the selling price for each business asset.

Home Sale with Rental Depreciation- Follow the steps here for the rental portion:

1. For any asset you might have in your rental activity. In your situation the sale should be reported as indicated above. This means that in the rental activity you must be sure to select in Property Info it was sold and when prompted select Yes for Special Handling (this stops TurboTax from looking for sale information in the rental).

Results:

1. The amount of depreciation that was allowed will be completely taxable up to the amount of gain received on the sale.
2. TurboTax will do all the calculations based on your entry

Steps to enter the Sale of Home in TurboTax: Wages and Income > Less Common Income > Sale of Home

1. On the screen Primary use of home select 'Yes'
2. Do not enter the number of days used as a rental (nonqualified use)
3. Continue to Depreciation after May 6, 1997 > Do not enter the total depreciation for rental (a separate sale for the rental room portion will be done below).

This will allow TurboTax to handle the sale with the correct amount of excluded home sale gain. 

Sale of Business Property:

1. Income and Expenses at the top
2. Scroll down to Other Business Situations
   • For TurboTax Desktop: Business Income and Expenses > Less Common Business Situations
3. Select Sale of Business Property
4. Select Sales of business or rental property that you haven't already reported.
5. Answer 'Yes' to Do all of the following apply...?
6. Enter your sales information: Only the rental room percentage of cost, selling expense and the full allowed depreciation (include the current year and total for all prior years based on the calculations after your enter the home in the rental asset section).
   1. Description of the Property
   2. Sales Price/Sales Expenses 
   3. Date acquired and date sold
   4. Cost
   5. Depreciation

Specific Rules for Form 3115: To file IRS Form 3115 for an automatic accounting method change, you must file in duplicate: 

1. attach the original, unsigned form to your timely filed federal tax return (including extensions), and
2. mail a signed copy to the IRS National Office or Ogden, UT office.
   • Form 3115 Instructions (page 2)

• You must use the TurboTax Desktop ‌ to complete this form. TurboTax doesn't 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 your tax return on time. The depreciation will not link from Form 3115 to your Schedule E. Be sure to get the total accumulated depreciation prior to 2025, and enter that number on your Schedule E under 'Any Miscellaneous Expenses' then use the description F3115 Section 481(a), then add the amount. Your depreciation schedule will maintain the information for each asset for future use.

You can change to TurboTax Desktop if you choose.

• How to switch from TurboTax Online to TurboTax Desktop?

[rob K]

Hi, thank you for the response. 

1) You stated that in the home sale section towards the end, not to input a depreciation amount as this will be done in the sale of business property section  to account for the room rental.   So this along with the AMT part should then be left  blank, yes?

2} You mentioned that if i wanted to use the depreciation for the tax year 2025, that a form 3115 must be used in order to do so.  

For clarification: If i dont want or care to use for 2025 and just calculate the cumulative depreciation.and use this figure on the sale of business property, is Form 3115 still required?

3)  In the rental section,  If i choose rental  property converted back to personal use and sold  (renter left at end of 2024 ) , will i still be able to input business use percentage, the date put in service,  improvement cost minus land for that data to calculate the total amount of depreciation - so that willl feed to schedule 4797?

[DianeW777]

Here are the answers to your questions:

1. Correct. In your situation, you didn't use your home for rental purposes. The home portion is a totally separate sale from the rental portion. For this reason you will not enter any depreciation in the home sale portion. You will also indicate it was not ever used for business or rental purposes.
2. No it's not required. If you don't use it, all depreciation, 'allowed or allowable' in tax language, means you will recapture it regardless if you ever used it as a deduction on your rental property. To summarize, you will use all depreciation for prior years and the current year which will be recaptured at the 25% maximum tax rate (lower if your overall income falls below that tax rate), to the extent of total gain on the sale.
3. Yes, you will enter the date placed in service and you will use the business percentage of the total cost and sales price as explained.  Write down all the depreciation for the rental (prior and current=total depreciation) as indicated in 2 above. If converted to personal use you will enter the rental home portion of the sale using the steps outlined above for Sale of Business Property (completely separate from the home sale). Once you convert it to personal use, no sale information will be handled in the rental activity. It will be a manual separate entry. Do not include the land with the rental sale, keep all land with your personal home sale. The home always owned the land and it's not depreciable. This portion of the sale will flow to the Form 4797, then to Schedule D.
   • Reminder - the instructions are explaining you are entering two completely separate sales in your tax return for accurate results.

@rob K