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daryldean91
New Member

How much gain will be taxable assuming no depreciation or upgrades?.... Home purchased in 1995 for 135K then in 2002 used it as a rental thru 2018. Then sold for $250k

How is fair market value calculated in 2002 when the property became a rental property?

1 Best answer

Accepted Solutions
DanielV01
Expert Alumni

How much gain will be taxable assuming no depreciation or upgrades?.... Home purchased in 1995 for 135K then in 2002 used it as a rental thru 2018. Then sold for $250k

It's a layered answer.  The original basis in the home is the purchase price: $135K.  The depreciable basis will be either the $135K or the Fair Market Value of the home at the time you began to rent, whichever is less.  That depreciable basis establishes the "depreciation allowed or allowable" that factors in to the sale price. (Hopefully you have been claiming your depreciation).

If the sale were of a second home that you did not rent, then the calculation would be fairly simple:  You sold the home for $250,000, and you bought the home for $135,000.  For arguments and simplicity sake, you had 7,500 of closing expenses when you bought the home, 7,500 at closing, and 50,000 of improvements on the home.  This adjusts your basis to 200,000, meaning your capital gain (provided the home doesn't qualify for the exclusion) is 50,000.  FMV doesn't come into play.

But with a rental it's different.  Let's assume all of the same numbers, except that this time we'll say that 1/2 of the improvements were made before the rental began.  Your attributable basis for depreciation would be $167,500 ($135,000 for the home plus $7,500 adjustment plus $25,000 of improvements).  However, in 2002, even with the improvements, the FMV of the home was $150,000.  This is what you would use for depreciation.  For arguments sake, we'll say that the depreciation allowed or allowable since 2002 was $90,000 (pretty close for a 15-year rental), and the remainder of the improvements and the closing costs are the same.  Here's how this would work:

Adjusted basis for the sale:  167,500 (adjusted basis at the time of rental, regardless of FMV)-90,000 for depreciation taken or allowable.  The tentative adjusted basis is 77,500.  You then add the additional 25,000 of remodeling and 7,500 of closing costs to come to the total adjusted basis of $110,000.

This sale nets $140,000.  However, 90,000 of the gain is depreciation recapture that is taxed as ordinary income.   The remaining 50,000 will still be taxed at long-term capital gains rates.

Hopefully, the example can help you to prepare tax-wise for the sale and what to expect on your return.

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3 Replies
DanielV01
Expert Alumni

How much gain will be taxable assuming no depreciation or upgrades?.... Home purchased in 1995 for 135K then in 2002 used it as a rental thru 2018. Then sold for $250k

The one issue in the question is that depreciation is calculated in even if you didn't take it.  The IRS forces you to recapture depreciation "allowed or allowable", so unfortunately the question can't be answered legitimately without factoring in depreciation.
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daryldean91
New Member

How much gain will be taxable assuming no depreciation or upgrades?.... Home purchased in 1995 for 135K then in 2002 used it as a rental thru 2018. Then sold for $250k

thanks, then  how would the baseline FMV be calculated for a property in 2002 before adjusting with depreciation and upgrades?
DanielV01
Expert Alumni

How much gain will be taxable assuming no depreciation or upgrades?.... Home purchased in 1995 for 135K then in 2002 used it as a rental thru 2018. Then sold for $250k

It's a layered answer.  The original basis in the home is the purchase price: $135K.  The depreciable basis will be either the $135K or the Fair Market Value of the home at the time you began to rent, whichever is less.  That depreciable basis establishes the "depreciation allowed or allowable" that factors in to the sale price. (Hopefully you have been claiming your depreciation).

If the sale were of a second home that you did not rent, then the calculation would be fairly simple:  You sold the home for $250,000, and you bought the home for $135,000.  For arguments and simplicity sake, you had 7,500 of closing expenses when you bought the home, 7,500 at closing, and 50,000 of improvements on the home.  This adjusts your basis to 200,000, meaning your capital gain (provided the home doesn't qualify for the exclusion) is 50,000.  FMV doesn't come into play.

But with a rental it's different.  Let's assume all of the same numbers, except that this time we'll say that 1/2 of the improvements were made before the rental began.  Your attributable basis for depreciation would be $167,500 ($135,000 for the home plus $7,500 adjustment plus $25,000 of improvements).  However, in 2002, even with the improvements, the FMV of the home was $150,000.  This is what you would use for depreciation.  For arguments sake, we'll say that the depreciation allowed or allowable since 2002 was $90,000 (pretty close for a 15-year rental), and the remainder of the improvements and the closing costs are the same.  Here's how this would work:

Adjusted basis for the sale:  167,500 (adjusted basis at the time of rental, regardless of FMV)-90,000 for depreciation taken or allowable.  The tentative adjusted basis is 77,500.  You then add the additional 25,000 of remodeling and 7,500 of closing costs to come to the total adjusted basis of $110,000.

This sale nets $140,000.  However, 90,000 of the gain is depreciation recapture that is taxed as ordinary income.   The remaining 50,000 will still be taxed at long-term capital gains rates.

Hopefully, the example can help you to prepare tax-wise for the sale and what to expect on your return.

**Say "Thanks" by clicking the thumb icon in a post
**Mark the post that answers your question by clicking on "Mark as Best Answer"

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