Sale of Rental Property that was converted to personal use (second home)

[SuzyQ727]

I retired my rental property from business use and converted it to personal/second home use in 2010, and I sold it in 2025. When I work on the "Sales of Business or Rental Property" section, it says: ...If you used the property partly for personal purposes, be sure to compute the amounts of your sales price and this property's cost that relate to the business portion only." Then, it further defines Business Portion as, "

Business Portion

If you used the asset 100% for this business, enter total amounts here. If you used the asset for any other purposes, you must allocate the total amount to the percentage of use for this business.

For example, if you used this asset an average of 75% for business over the course of your ownership, and you sold the asset for $1,000, you would allocate the net sales price as follows:

$1,000 X 75% = $750

Allocate your cost or basis in the same manner."

This is confusing to me as I used it BOTH as business and personal property "over the course of my ownership." Did TT really mean, "over the course of the business"? Should I assume that this particular statement does not apply to me, as I never used the property for personal purposes until the rental property was retired from business use? Or, must I figure the percentage of business use from the time that I placed the property in service until I retired it from service? (That would help lower my capital gain, but I don't think that the IRS intended that to be the case! Also, how would I justify that in TT?)

[AmyC]

The whole time you owned the house. From the purchase to the sale is really what it means. When you own stock, it is taxed for the entire ownership period.

Reporting process:

1. The house was a rental property and was depreciated. Since it was a rental property, that portion of the sale is calculated and reported as sale of business property on Form 4797.
2. The business portion is deducted. The remaining portion is listed  on the Sch D as the sale of a second home. 

The program is trying to help you through the reporting process so you will need to determine your rental portion and may want to use your old tax records to help.

[SuzyQ727]

Well, you are the first "Expert" to tell me this! I have asked the same question of 3 other Experts who told me 3 different things. One said to report all of the sale on Schedule D, and I quote: "Since you have not used the property in business in the last year and it was converted to personal use 15 years ago, you generally do not need to file Form 4797. Instead, report the sale on Schedule D as a capital gain. Form 4797 is typically for property used in business during the last year." So, needless to say, I am very confused. I'm having serious anxiety about using TT, because I fear being audited 3 years down the road and having to pay penalties and interest.

So, I know how to fill out the Schedule D, as I already did that under Less Common Income > Sale of home (gain or loss) and I assume that the Form 4797 will be generated by populating Other Business Situations > Sale of Business Property, correct? And, how will the IRS "understand" that 62.5% of the sale is reported on Schedule D and 37.5% is reported on Form 4797? By the disclosure of the property sale address? One more question: wouldn't my tax be the same as if I reported all of it as Sale of Business Property where I pay normal tax on the depreciation recapture and capital gains tax on the remainder?

[DianeW777 · Accepted solution]

The rental period allowed depreciation expense which reduced your income for tax purposes. This also reduced your cost basis for any future sale. Depreciation is required to be recaptured at the point of any sale in the future regardless of timeframe. The tax law is clear and is not new.

The simplest way to report your sale is to use the total days rented divided by the total days you owned the property. This will allow you to arrive at the percentage that should be allocated to the purchase price and selling price for each sale (personal second home and rental property). The depreciation does not change and must be used to reduce your cost basis on the rental portion of this sale.  It is like you are selling two separate properties and is the correct action.

Sale of Business Property:

1. Income and Expenses at the top
2. Scroll down to Other Business Situations
   • For TurboTax Desktop: Business Income and Expenses > Less Common Business Situations
3. Select Sale of Business Property
4. Select Sales of business or rental property that you haven't already reported.
5. Answer 'Yes' to Do all of the following apply...?
6. Enter your sales information:
   1. Description of the Property (Machine Type)
   2. Sales Price/Sales Expenses 
   3. Date acquired and date sold
   4. Cost
   5. Depreciation

Next sell your personal portion as a second home sale as a sale of investment property which will go to Schedule D:

To enter your second home sale in TurboTax, follow these steps. 

1. Open or continue your return.
2. Navigate to the investment sales section:
   • TurboTax Online/Mobile: Go to Investment Sales. If using this application, make sure it is open
   • TurboTax Desktop: Search for investment sales and then select the Jump to link.
     • Or Personal Tab > Continue > I'll choose what I work on > Scroll to Investment Income > Select Stocks, Cryptocurrency, Mutual Funds, Bonds, Other
3. Answer Yes to the question Did you sell any of these investments in 2025? 
   • If you land on  the Investment sales summary or Your investments and savings screen, select Add More Sales or Add investments.
   • Click this link for more information. Where do I enter Investment Sales?

• @SuzyQ727 

[SuzyQ727]

Diane, Thank you. I have a question, first some background: I figured out the Business Use percentage and the Personal Use percentage. The property was completely depreciated in 2003 using the FMV of the building (not the land) at the time of purchase in 1984, so it is a relatively small amount, although it was the ONLY allowable depreciation during the entire period of Business Use. I retired the property from Business Use in 2009. After transferring to Personal Use, I began renovating the building as it was in sorry shape. I replaced the roof and shored up rafters, replaced all the windows and exterior doors, stripped the main floor down to the joists, replaced rotted joists, installed sub-flooring and all new wood flooring, replaced the heating system and replaced the kitchen cabinets, which were torn out when the floors were replaced. This amounted to more than $30,000.

Do I add these Capital Improvements to the total Cost of Property (or Tax Basis) Plus Expenses of Sale and allocate them according to percentage Business Use (Form 4797) and percentage Personal Use (Schedule D/8949?), or do I allocate them to 100% Personal Use cost ONLY, since the improvements were clearly made during the period of Personal Use and not to the period of Business Use? I know that I cannot view the final forms without advancing to my Expert Assist Review and I would rather understand what I'm supposed to do prior to Final Review with my Expert.

[DaveF1006 · Accepted solution]

You should allocate the capital improvements based on the property’s status at the time the work was performed. Since you retired the property from business use in 2009 and performed these $30,000+ renovations during its 100% personal use phase, those costs belong to the Personal Use side of the basis. 

You will need to enter the depreciation amount you took up to year 2003. The depreciation is now captured and reported in your 2025 return.

1. You will report this as a home sale. When the software asks if you ever used it for business or took depreciation, you say Yes. You will then enter the total depreciation you took from 1984–2003.
2. What will happen is that there is no 4797 generated. Instead it will be reported on Schedule D and form 8949 as a captial gain. The depreciation will reduce your original basis in the house thus increasing your captial gain because of the depreciation recapture.