@Sam123 , please pardon me for explaining something first and perhaps then answer to your question would be self-evident:
1. Tax on rental/ income property is reported on Schedule-E and if you look at that form you will see that your gross rental income ( even if zero ) is offset by allowable expenses and allowable depreciation. Thus in your particular case , the net taxable income from this would be negative. This negative income is limited by Passive Activity Loss Limitation (PAL) rule --- generally up to $25,000 per year ( depends on your filing status, your other passive incomes/losses and your Modified AGI ) If you enter the details into TurboTax, it will compute this for you. Un-allowed losses ( i.e. beyond the PAL ) is suspended losses that is used up in future years or at the time of sale of the property.
2. The accumulated depreciation is used to reduce your basis ( acquisition cost plus cost of allowable improvements ) and thus increase your gain at the time of sale. So while depreciation helps during operational life, it hinders by raising gain at disposal.
3. On sale , that portion of the gain that is caused by accumulated depreciation is taxed as ordinary income , the rest is eligible for capital rate taxation. Thus if you had 500,000 gain and $20,000 was due to accumulated depreciation, then the first 20,000 would be taxed at your marginal rate ( depreciation recapture ) , the rest i.e. 480,000, would be eligible for capital gain treatment at your capital gain rate.
4. In the example above, only the amount after depreciation recapture ( 480,000 ) would be eligible for exclusion from taxation if and only if you meet the 2 + 2 rule --- for a joint filer one of you must have owned the property for a least 2 years and each of you must have used this property as you main residence for at least 730 days total with a look back of five years from the date of sale of the property . Another rule is that you must not have taken this exclusion in the last two years.
So does this help ?
