How do you enter the sale of a rental property with a stepped up basis from death of spouse who was joint owner, in state of Ohio, in the rental property asset summary?

[TurbUser102x]

My Father passed away in Nov 2017 and we did not update the basis on a rental property for FMV the date of his death for my Mother who is joint owner.  Now that the rental property sold last year, we need to update the basis to 1/2 of FMV on date of death from an appraisal we had and 1/2 of original basis plus any amount of depreciation from his date of death up to date of sale in 2020.  How do I enter this correctly in the asset summary of the rental property in Turbo Tax?  Trying to make 2 assets of 1/2 of values (original and new) does not seem to work and is making the tax taken out way higher than it should be with just the new basis.  How do I make it so the original asset for depreciation is taken out of service and replaced with a new asset with the correct basis for the sale?  I don't want it to show 2 sales happening on same property.  Need help please!

[AmyC]

Let's start  with the rental and work our way through.

Rental house belonged to your parents. It was being depreciated on their return based on values when it was put into place as a rental.

Your father died in 2017- I am very sorry for your loss.

Your mother continued to claim and depreciate the property as always. The only change is her basis in the house now has a stepped up basis for dad's half.

Mom sells in 2020.

Let's do an example:

1. Couple bought house for $100,000 in 2010 and began renting it out.
2. 2017 house has appreciated to $150,000 when Dad died.
3. Mom's basis in the house is her original $50,000 + $75,000 inherited value = $125,000
4. 2020 Sell house for $160,000
5. Pretend depreciation of $30,000 for 10 years

Gain is sale price - cost basis +depreciation

$160,000 - $125,000 + $30,000 

Gain of $65,000 on tax return

[Carl]

Enter the rental property a 2nd time in the assets/depreciation section with 1/2 of the values for cost and cost of land. Take note that if the property remained a rental after one owner passed, then this should have been done in the year of their passing (2017 I presume) and depreciated accordingly. If that was not done and depreciation was not taken in 2017, 18 and 19, then the only way to correctly fix this is with IRS Form 3115. While the program does include that form, it's not simple by any stretch and requires professional help. So you may need to seek professional help this year for filing the 2020 taxes, correctly reporting the sale, and accounting for the depreciation that should have been taken in the increased basis.

Professional help is especially called for if your state taxes personal income, and I know that Ohio does. So having not taken depreciation on the stepped up basis can (and will) be a double whammy. So seek professional help to help keep the cost of that "whammy" down. Paying for professional help will be significantly cheaper in the long run.

[TurbUser102x]

Thank you Amy!  My follow up question to your post is regarding the depreciation.  In our situation, the house was fully depreciated even before my Father passed away.  I thought the only depreciation that had to be recaptured was the new depreciation taken from DOD to the Date of sale on the new basis.  Lots of other posts in Turbo Tax Forum seemed to suggest that the prior depreciation is irrelevant?!  Originally I thought it all had to be recaptured until I read up on the stepped up basis.  In your example, you are saying that all prior depreciation of $30k for the 10 years until sale has to be recaptured.  Is that correct?  If everything else is done by 1/2, why not only 1/2 of the prior depreciation?  So I guess my question now is how much of the depreciation is recaptured, and will Turbo Tax calculate it correctly in the asset summary when I fill it out with old and new asset?  I'm still unclear on exactly how to change the assets in the asset summary because I tried amending the original to 1/2 and adding the new to 1/2 FMV and letting it calculate the depreciation, which I checked, and it seemed the tax was way off what it should have been or perhaps was counting/calculating it twice as 2 sales.  Still need help on that end of it... and if you just report the sale on both assets or just new?!

[TurbUser102x]

Thanks Carl.  The stepped up basis did not occur in 2017, so we are in process of fixing that.  Although in my mind, Turbo Tax would have calculated the depreciation on the "new asset" with the new basis in the asset summary when you enter it in with 1/2 FMV and 1/2 land etc... The issue would have been that we simply did not take the depreciation that we should have, so shame on us and our loss/government's gain.  It's like the rule where the IRS basically tells you that if you don't take depreciation on a rental, they will just assume you did regardless when they tax you on a sale of it in the end.  I will have to look into help for the IRS 3115 form, but initially I was prepared to simply take the hit of not taking advantage of the depreciation in the 2018-2020 time frame because we screwed up.  Again, our loss for not taking it, but it would be in place for when a future sale takes place on another rental etc... How does one even begin the process of using Turbo Tax with IRS form 3115?  Would a CPA or tax specialist even know how to do this with Turbo Tax?

Follow up on the asset summary... so you leave the original asset summary alone - full basis, full depreciation (rental was fully depreciated), full land value etc... and then mark it as "sold" on the sale date or Date of Death of owner?  I don't think it let me put the date of death as it was in the past?  If I take it "out of service" for personal use, it will still recapture all the depreciation or no?  I added a new asset at the 1/2 value and put in service as DoD and then sold as date of sale.  It automatically calculates the depreciation that should have been taken such that it takes it out of the basis from what I see.  So I'm still confused as to what to do the original "old" asset in the asset summary because it looks like it is taxing twice for a sale, twice.  If I just do the sale from the original asset, the tax owed is coming out way less than if I try to split the assets.  So I guess I just need to understand first how to handle the original vs new asset in terms of dates and designations of what is happening with the asset in the Turbo Tax software.  

Thanks for any further insight you can give!

[Carl]

Follow up on the asset summary... so you leave the original asset summary alone - full basis, full depreciation (rental was fully depreciated), full land value etc... and then mark it as "sold" on the sale date or Date of Death of owner?

If this was 2017 taxes we were dealing with, you'd basically leave it alone. The step-up of 50% of the basis in 2017 would have basically "wiped out" 50% of the depreciation already taken prior to his passing. If the property was already fully depreciated prior to his passing, then you'd only be depreciating the stepped up basis, with depreciation starting on that stepped up basis in 2017.

We could have handled on this on the 2017 tax return - albiet with TTX it would require us to "go around our elbow to get to our thumb". But it could have been done. Unfortunately at this point, it's just not doable with TurboTax unless you are a tax professional yourself and know the ins and outs of the form 3115. The program provides practically no help for that form, because it can be used to "fix" so many things. That's why I recommend professional help for the 2020 taxes this year. (Mistakes made in the process of fixing a mistake, can be significantly more costly in the long run.)

Just remember, make sure the tax pro provides you with a complete printout of your 2020 tax returns that includes all calculation forms and worksheets. You will need them to "come back" to TurboTax for the 2021 taxes, if that's what you desire.

You should also provide the tax pro complete copies of your 2017 through 2019 tax returns and all the forms and worksheets with it, if possible. That way, they have no excuse for not fixing things right for you on both the federal and state return for 2020.

But overall, a majority of tax pros know what they're doing and will get things right the first time. It's the few "bad apples" out there you gotta watch for.

[TurbUser102x]

Thanks Carl.  I understand the depreciation the way you do.  Since it was fully depreciated before my Dad's passing, the only recapture on the depreciation is the new depreciation taken from date of death in Nov 2017 to date of sale in 2020.   From what I see, Turbo Tax calculates that depreciation when I enter in the 1/2 new asset etc... and report as sale.  So it seems like the only advantage to going back to fix the depreciation from previous years is to take the depreciation off the tax bills for those years.  If I wave the white flag and give that up, why bother with the 3115 form for accounting change?  I guess my question put simply is if there is a way to just do the sale in Turbo Tax for 2020 in such a way that it will calculate the tax owed, correctly, with the new depreciation from the new basis.  It looks like TT's calculations will recapture the depreciation in the sale anyway on the new basis.

I'll likely get a tax expert to review and go forward, but it's going to be hard to find someone this late and this was a late finding on our end.  

[Carl]

the only recapture on the depreciation is the new depreciation taken from date of death in Nov 2017 to date of sale in 2020.

Nope. You also have to recapture mom's 1/2 of the depreciation taken before dad passed. Dad's half taken before he passed is all that "disappears".  Because this wasn't dealt with on the 2017 tax return, the TurboTax program flat out can not deal with the situation correctly, no matter what you do.

Amending prior year's tax return is not an option, because you failed to take (or not take) the proper depreciation for more than two tax years.

In the end, you're gonna do whatever you want, and that's fine. Typically the IRS catches up to this stuff anywhere from 24 to 36 months after the return which shows the sale or other disposition of the property is filed. All I can do is ensure you're well informed, and at this point I've done that. So you might want to consider paying for audit protection for the 2020 tax return. It won't keep you from paying any additional taxes or fines if an audit bears that out. But it will get you representation if/when the IRS catches up to it.

[TurbUser102x]

Thanks Carl - totally understand.  Needs to be fixed.  I was playing around in TT though with the old and new asset of each being 50% of basis (original and new FMV), 50% land, and 50% of full amount of depreciation for original asset (to match it being fully depreciated of the new 50% basis amount), and when you go to enter a sale it does calculate the new asset/basis's depreciation that we should have taken for recapture purposes on the new asset for the shorter period of time.  So while we didn't take it in the past 2 years, it will still be taxed as if we did.  If you put in 50% of all the values and then put in 50% of the sale price for each, I wonder if the math works out correctly.  Likely not, but was worth a shot in messing with the software to see.  Logically, it would seem to make sense because the original asset was fully depreciated, so nothing you put in will change the fact that there is nothing left to depreciate.

Just some thoughts... appreciate the help.