Rental property converted back to primary residence after two failed sales

[jsm_tt25]

Hello Experts,

I have (had) a rental property (last tenants lease ended 3/31/24) that I decided to sell.  I did some work on the house to prep it for sale and listed it for sale on April 18, 2024.  I received two offers but both fell through for various reasons. After the second sale fell through I decided to move back in (September 5, 2024) and make it my primary residence again.   Here are my questions:

1.  When does the rental depreciation stop, 4/1/24 (after lease ended) or 4/18/24 when it was listed for sale or 9/5/24 when I moved back in (Pub 527 Idle Property and Retired from Service)

2. Can I deduct any expenses related to the sale prep since it never sold, would it still have been considered a rental during that time (Pub 527 Vacant while listed for sale)?  

3. I received due diligence money with each sale offer which the prospective buyers had to forfeit.  Is that money considered ordinary income or capital gains?

Thank you!

[MindyB]

The rental depreciation should stop on the day you decide to convert the investment property into a primary residence. ‌The date of move-in (9/5/24) is likely after the decision was made to cease seeking a buyer. 

Yes, you can deduct the expenses related to the sale preparation as it was still considered an investment property at that time. Keep in mind these expenses may be limited because of passive activity loss rules, and the fact that the property wasn't disposed of. ‌If you are in the situation where you have losses, I would suggest reviewing this article: IRS Form 8582: Calculating Passive Activity Losses for Real Estate.

The receipt of due diligence money is considered ordinary income. For this to be reportable as a capital gain on Schedule D, the rental home would need to be a capital asset. ‌The IRS specifically excludes depreciable property from its definition of a capital asset in Section 1221(a)(2). In order to report this in TurboTax, navigate to Federal; Wages & Income. Scroll to the bottom of the page and choose Less Common Income. Lastly, choose Other Reportable Income, then enter a brief description and the amount.