If I sold a rental property but used as personal residence for 2 years, what do I need to report?

[GeorgeM777]

The reason you saw posts indicating that the start date for depreciation begins when the rental property is placed in service is because such approach is consistent with IRS guidance on the issue.  Here is an example from IRS Publication 527, Residential Rental Property that is relevant to your question:

Example 2.

On April 6, you purchased a house to use as residential rental property. You made extensive repairs to the house and had it ready for rent on July 5. You began to advertise the house for rent in July and actually rented it beginning September 1. The house is considered placed in service in July when it was ready and available for rent. You can begin to depreciate the house in July.

IRS Publication 527

@Tax2019Pay

[RobertB4444]

The date should be Jan 2, 2016, in your example, the date the property was available to rent.  

If you think of your rental property as a business then your business is open when you unlock the door and put out the open sign.  You don't count it as open after the first customer buys something.

@Tax2019Pay 

[DianeW777]

Yes, when you sell a property where the fair market value (FMV) was used as the cost basis when it was placed in service to rent, then at the time of sale you include the actual cost to determine gain or loss.  Add the additional expense as part of the selling expenses for the condo itself and this will factor the correct gain.  This appears to be what you are asking.  

Please update if you have more questions.

@Tax2019Pay 

[Tax2019Pay]

Hi. Diane:

Thanks.  

TurboTax used fair market value - purchase price for the depreciation starting in 2016, the total of prior year depreciation was $X.  

With the sale of the rental in 2022, for the cost of the condo, if I were to add the purchase expense and renovation expense (note renovation was completed before the start of rental) to the purchase cost now, TurboTax will calculate to give a different total prior year depreciation = $X + purchase expense + renovation expense.  Should I correct the TurboTax calculation and change the calculated total prior year depreciation to $X?

I wonder if it may be better to just leave the cost base as the purchase price and keep the actual depreciation at $X to stay consistent with prior years' tax return reporting, the difference in Federal and State Tax is only about $100.

Your thought?

[AmyC]

Some closing expenses can be added to the basis. Can I deduct mortgage closing costs states: 

You can add other settlement fees or closing costs to the basis of your property. This way you’ll get credit for those costs when you sell the home. These base adjustments include:

• Abstract fees
• Charges for installing utility services
• Legal fees
• Recording fees
• Surveys
• Transfer taxes
• Title insurance
• Any amounts the seller owes that you agree to pay, such as back taxes or interest, recording or mortgage fees, charges for improvements or repairs, and sales commissions

See Pub 551 for more help with the basis.

@Tax2019Pay 

[Tax2019Pay]

Thanks Amy. 

[RobertB4444]

I do dig staying consistent with prior year returns but at the same time the correct amount is the correct amount.

I would adjust prior years depreciation to what it actually was while making sure that the basis for the sale has been corrected to include every penny that I could prove I had spent.  This is the fair and actual calculation that should be done and it is the way your tax return should show it.

@Tax2019Pay 

[Tax2019Pay]

Hi Robert:

Just a follow-up.  If one adds the purchase expense and renovation expense back to the cost of the rental property, TurboTax would automatically recalculate the total depreciation taken over the years of rental.  Note that when the property became rental property, TurboTax chose the purchase price as the depreciation base.  Would you recommend that the depreciation base as auto-calculated by TurboTax be corrected to reflect the actual depreciation taken over the years?  

Another question: How should one handle the seller credit and broker credit received at the time of the home purchase?  Should these credits be deducted from the purchase price for cost base purpose?

[DianeW777]

Here's the bottom line.  Based on what you have explained, and because this was a conversion from personal use to rental use, when you started renting this property the fair market value (FMV) was lesser than your actual cost when you added the renovations (and other expenses of purchase).  Under the tax law you must use the lesser amount (FMV vs cost) and you are not allowed any additional depreciation for those years for the reason stated.  

Now you come to the sale of your condo.  The sale, under tax law, allows you to use your actual cost to arrive at the correct gain.  In your case it's handled differently because you cannot adjust your depreciable basis to make this adjustment. Do not alter your depreciable basis for 2022 or any prior year.

The easiest way to handle it now, in the software, is to figure out the cost basis that you were not able to use as part of your cost basis on the depreciation for the condo.  

Add that figure to your selling expenses and keep a record of how you arrived at that amount. The gain or loss will be reflected accurately when you take this approach.  The depreciation that was used will be accounted for accurately as well.  The credits should also be reflected in the selling expense which will reduce the selling expenses (increase gain since this is a negative adjustment to the purchase price). 

You can feel confident to go forward with the information provided. 

@Tax2019Pay 

[AmeliesUncle]

I agree with Diane, but that is assuming you sold it at a gain.  If you sold for less than your Cost, then there are other factors that need to be considered.