Parents' rental sold; received portion of proceeds, how to file?

[shine3]

My parents added my sister and me to the title/deed to their home that they subsequently rented out.  I am a co-signer on the mortgage.  My father passed away in 2019 and my mother sold the rental property in 2020.

My sister and I each received 25% of the proceeds from the sale (less mortgage pay off).

For my taxes, how do I account for the receipt of these proceeds?  My parents claimed the rental income/schedule E on their taxes.  I never claimed anything.  Do I add it under "Stocks, MFs, Bonds, Other"?

If so, what do I claim as the sale proceeds and cost basis?  Just my portion?  Since it was a rental house, do I have to account for depreciation that they've taken in their schedule E as part of the basis?

I see that there is a check box for "some (or all) of the proceeds from this dale do not belong to me."  Reading that, I should file the sale as in it's entirety and check that box and deduct 75% of the proceeds, I'm assuming?

Am I better off logging this as inheritance instead of 25% real estate sale?  I'm not sure how to do that though.  I live in WA state so at least we don't have state income tax.

Any help is greatly appreciated.

[shine3]

I should also note that I received the proceeds from the sale directly at closing, and they withheld Maryland income tax since I do not live in the state.  I'm hoping that I can file MD taxes and get those funds back?

Lastly, my mom sold their primary residence in Jan 2021 with the same split (25%, 25%, 50%).  I assume that I would file this the same way?

I also have to file her income taxes, so any help is greatly appreciated!

[DianeW777]

The rental house would create a sale for you, your sister and your mother. Because this was a gift, your cost basis would be the same as your mother's cost basis split between you.  Mortgage payoff is not significant on the tax return.  The mortgage interest and property taxes would be part of the rental activity on the tax return, however not part of the sale.

The original purchase price of the rental house would have been used for depreciation, so any payoff is not a consideration.

Cost basis is what was paid for the rental house, plus purchase expenses, plus capital improvements, minus any depreciation that was allowed (whether or not deducted) on the property while it was available for rent.  This is how you would arrive at the full cost basis (review the next paragraph as well for possible inherited value portion).

Easiest & Logical method: Your mother could choose to report the entire sale on her tax return since that is where the rental activity has taken place. This would be the simplest and each of you could pay your portion of the tax bill to her if you choose to do that. She technically inherited half the house when your father died assuming it was jointly owned while he was alive. This means she would have a cost basis on the date of death of half the fair market value on that day and then her actual cost basis (shown above) for the other half.  In TurboTax you could add this value difference in the sales expense to account for the reduced gain. 

If each of you reports the sale equally, the cost basis and depreciation would need to be reflective on your mother's return which is more labor intensive for her to report only her portion. 

If the property was located in Maryland (MD) and that is not your resident state, you must file a nonresident return for MD,  They will want the tax dollars for the gain received on the sale of property in their state.  It's not likely it will be refunded to you. Since Washington (WA) doesn't have income tax, there is no return to file for your resident state.

This is NOT an inheritance and  inheritance rules for sale will not be used since the properties are placed in your names (you and your sister) before her death.

The home sale, for her will be a sale of her primary residence assuming she meets the eligibility requirements.  For both you and your sister it would be a sale of an investment if neither of you lived in this house as your personal residence. 

• IRS Topic 701: Sale of Home

The house would likely belong to your mother automatically after your father's death. Your portion again is a gift if the house was put into your names (not just profit splitting), after the death of your father.  It seems you are saying that this event took place after the death of your father.

There are questions such as whether a gift tax return was filed or if the value was high enough to meet the filing requirements. This pertains to both houses. And gift tax is beyond the scope of this forum.

Please update here is you  have more questions.

[Edited: 03/28/2021 | 8:09a PST]

[shine3]

Thank you so much, Diane!!  This is very useful information.

For my mother's taxes, I think I understand that half her basis is market value, the other half would be based on cost plus improvements minus depreciation.  If we use the "easiest and logical method" (which I'm all for doing), then this would be her basis on her taxes.  But what do my sister and I do then?  Do we report the same sale/cost basis (without the market value step up?) and then deduct 75%, or do we not report it at all given that my mother is reporting it?  If that is the case, how do I file my MD tax since funds were withheld?  Or do I report it and say that 100% of the proceeds was my mothers?  I think I may be confusing myself.

The same applies to my parents' primary residence - we were all on the deed prior to my father's passing.

I assume that both do not count as gifts/inheritance then.

Again, really appreciate the help!

[DianeW777]

You are correct.  If your mother reports the entire sale of the rental property, then you and your sister do not report any sale. Do not duplicate the sale.

For the Maryland (MD) return, you should file for a refund, however your mother will file for the entire sale on the MD return just like the federal. It's important to be consistent on both returns. The refund should be automatic, however they may require an explanation so you should be prepared to show and explain that your mother filed for the sale since she is technically the owner with your names listed as a convenience.

The primary residence, because it was placed in your names before death would be considered a gift (no inheritance rules apply).  It's important to follow through with the gift tax return by checking with an estate attorney.  The home sale has different ramifications because of the home sale exclusion. 

Since the home is in three names then the cost basis will have to be split three ways, the sales proceeds and sales expenses would also have to be split.  In this scenario the sale would be reported by each of you because only your mother would be entitled to the home sale exclusion. You and your sister would pay tax on any capital gain.

Gifts Holding Period— Your holding period includes the time the person who gave you the gift held it. 

• Who must file a gift tax return? (scroll to this section)