Sale of rental property that was primary residence

[shsabnis]

I am using Turbo Tax Premier on Desktop (Windows). I need help in reporting the sale of rental property in 2021. Here are the details:

1. Bought the single family home (property 1) as primary property in 2006 for $400,000
2. Lived in the property (primary residence) through 2013. 
3. Bought a new primary residence in 2013. Put the previous house (property 1) for rent in 2013. FMV at the time of rental conversion was $325,000
4. Sold property 1 (now rental property) in 2021 for $500,000.
5. Closing costs were $30,000 and additional required updates were $26,000

I need help in TurboTax to report this sale of rental property. Could someone tell me where do I need to show this sale? Looking at similar questions on this community forums, I see some people recommending reporting the sale in the rental section using the asset and sale of property/depreciation section OR using the Sale of Business Property section.

I'd highly appreciate if someone walks me through the steps to show this sale of rental property.

[KrisD15]

 
I am assuming you have been reporting the rental on Schedule E and it has carried over in your TurboTax program. If not, you’ll have to enter it.

For the year the rental is sold, income, expenses, and the “depreciation for 2021 before the sale” needs to first be calculated. Select that it was sold and enter the date it was last used as a rental. Then enter the sale.

Go to Rental Properties and Royalties
Select YES to review
Continue to Rental and Royalty Summary and click EDIT (if you have more than one rental, click next to the location that was sold)
Enter any income and expenses you had for 2021
Scroll down to Sale of Property/ Depreciation 
Select YES to go asset summary
Here is where the building is listed and where any other assets added should be listed.
Click EDIT to report the sale. 
Clear any assets first, (such as appliances if applicable). It is easiest to allocate the selling proceeds to the remaining life of the asset. Then use the remaining sales proceeds and allocate between land and building. 

You should have entered the rental with a basis of 325,000.
Sales proceeds would be reported as 470,000 to account for the closing costs.
Additional updates would be added to the basis, if done after it stopped being a rental and before selling, or claimed as expenses.
If they were made while it was being used as a rental, they should have been entered or expensed the year they were made.

Continue through this interview.   

When you sell a business asset, like a rental, the depreciation is first "Recaptured" as ordinary income. (1040 Schedule 1)

Even if improperly reported the rental without claiming depreciation, you have to claim the depreciation you SHOULD HAVE claimed as recaptured in the year of sale.

Any profit left that is attributed to an increase in value is a Capital Gain. (Schedule D) 
 

[Carl]

@shsabnis  @KrisD15 you can not report this sale in the rental section of the program. That's because the cost basis used for depreciation is lower than your original purchase price. If you report this sale in the rental section of the program using the lower cost basis, then you will be paying more taxes on your gain than you are required to.

You need to convert this property to personal use, with a conversion date that is the closing date of the sale. This will allow you to get the total depreciation taken on the property and all it's assets, up to the date of the sale.

Then you will report the sale in the "Sale of Business Property" section using the "actual" cost basis of the property, which is what you paid for it when you originally purchased it.

[shsabnis]

@Carl @KrisD15 Thank you both for providing inputs to my query. However, I'm now really confused on which way to proceed. Since the cost basis at the time of rental ($325,000) was less than the original purchase price ($400,000), where do I report the correct cost basis, which would be $400,000? Moreover, where do I add the improvements and the commissions done during the sale?

@Carl Apologies but I don't quite understand what you mean by "You need to convert this property to personal use, with a conversion date that is the closing date of the sale. This will allow you to get the total depreciation taken on the property and all it's assets, up to the date of the sale.". How does one do this in TurboTax?

@KRIS9 @Carl One other thing I'd like to point out is that I found a similar scenario asked by someone here: 

1. https://ttlc.intuit.com/community/taxes/discussion/sale-of-rental-property-that-was-originally-prima.... In this case, the Tax Expert suggested that the sale be reported in the Rental section and the difference in original purchase price and FMV at the time of rental + any improvements + sales commissions and fees be added to the Sales Expenses (Business Portion only) field in the Sale of Property/Depreciation section under Rental.

2. and in this case: https://ttlc.intuit.com/community/investments-and-rental-properties/discussion/sale-of-rental-proper..., the best answer says to use the Sale of Business Property section to report the sale.

PLEASE HELP!

[DianeW777 · Accepted solution]

You can definitely enter it in the Sale of Business Property section.  The results will be the same for your tax return in both scenarios but the rental section is easier.

If you choose to enter it in the Sale of Business Property section the steps below will explain how to handle the rental section to arrive at the correct depreciation. To answer this question: "You need to convert this property to personal use, with a conversion date that is the closing date of the sale. This will allow you to get the total depreciation taken on the property and all it's assets, up to the date of the sale.". How does one do this in TurboTax? 

When you are in the rental activity for 2021, you must select the 'Assets' section, then in each asset you must go to the screen titled 'Tell Us More About This Rental Asset'. 

1. Once you reach this screen for each asset, you must select 'This item was sold, retired, stolen, destroyed, disposed of, converted to personal use....' 
2. Next enter the date you stopped using the asset for rental purposes (date of sale). 
3. And answer 'Yes' you always used this asset 100% of the time for business. (The percentage of use doesn't change until after conversion from rental to personal use.)
4. Select 'Yes' for Special Handling due to 'You converted the asset to 100% personal use'.
5. Write down all the information you will need for the sale:
   1. The date acquired
   2. The total depreciation for prior years and the amount for the current year (will be shown on the screens)
   3. Be prepared to enter sale with the building & land original cost, add the capital improvements, and the selling expenses
6. Next enter your Sale of Business Property - Include the actual cost of the rental building including land and the capital improvements. Add the selling expenses. 
   1. Other Business Situations > Sale of Business Property >Start or Revisit > Enter your sale

@shsabnis

[Rick19744 · Accepted solution]

@shsabnis I will provide some commentary:

• Having been on this forum for a long time, I would tend to follow the advice of TaxGuyBill (which is the same as @Carl in how to handle this).  Appears that @DianeW777 provided some guidance on handling this area
• I also wanted to provide some benchmarks for you once you input your data; regardless of which method you eventually choose.
• You don't provide sufficient facts to determine the depreciation taken, so for my example I will be using $90,000
• Using your facts and my depreciation:
  • Selling price is $500,000 (you most likely received a 1099-S so we want the selling price to match the 1099-S figure)
  • Cost basis is the original $400,000, plus closing costs of $30,000, plus improvements of $26,000, less depreciation of $90,000 to equal a cost basis of $366,000
  • Your gain should be $134,000
  • The system will also generate unrecaptured Section 1250 depreciation of $90,000.  This amount will be taxed at a maximum of 25% depending on all other factors in your tax return
• Edit: Just as an FYI, TaxGuyBill does not participate in this forum anymore, so tagging him is not beneficial.

[Carl]

You can definitely enter it in the Sale of Business Property section.  The results will be the same for your tax return in both scenarios but the rental section is easier.

That's mathematically impossible with the current program design. It's also wrong.

In the rental section, the cost basis on the property is 325,000. That was the correct cost basis to use for depreciation only. It is not the correct cost basis to use for reporting the sale. If you report the sale there with a sale price of $500,000, then simple math indicates you'll be taxed on roughly a $175,000 gain.

If you report the sale in the Sale of Business Property section, then you can use the original cost basis (which is what you are supposed to use when selling at a gain) of $400,000 and you're taxed on a $100,000 gain.

So it's up to you. You want to pay taxes on $175,000? Or would you rather pay taxes on $100,000? Your call.

[shsabnis]

@Rick19744 @Carl @DianeW777 @TaxGuyBill Based on all your advice, I've decided to go with the route of showing the sale in the Sale of Business Property section using the steps outlined by @DianeW777 @Carl and @Rick19744 . Thank you all very much. I just have few final questions on this topic:

1. Under Assets, in addition to the rental property itself, I've couple of other assets like Water Heater and Furnace/AC that were installed fairly recently. What do I do to those assets? Do I need to mark them as sold just like the rental property asset and add date of sale as the same as the sale of the rental property OR do I delete them?

2. On the screen for the main rental property asset, it shows prior year depreciation of $92k and then 2021 depreciation of additional $10k, which means on the Sale of Business Property page, I should be including a total depreciation of $102k. Is that right?

3. What do I do with the depreciation of the HVAC and Water Heater? Do I need to add them to the depreciation of the rental property on the Sale of Business Property page?

4. Lastly, over the years that we have lived in the house (when it was NOT a rental until), we made several improvements such as adding new flooring, adding patio at the back, adding a new fence and walkway, etc. Could I add these improvements cost to the total cost basis (along with the sales/legal fees)?

Thank you all for your help. Users like me highly appreciate your guidance and makes using TurboTax even smoother than it already is. THANK YOU!

[Carl]

1. Under Assets, in addition to the rental property itself, I've couple of other assets like Water Heater and Furnace/AC that were installed fairly recently.

You must work through each individual asset one at a time.

1. On the screen for "I stopped using this asset in 2021" click YES. 

2. Then enter the closing date of the sale and continue.

3. On the "Special Handling Required?" screen, click YES. If you click NO, you will be "forced" to enter sales information. Since it's not correct to the report the sale in this section, click YES.

4. On the summary screen for that asset, write down the prior year's depreciation and current year's depreciation and add those two numbers together to get the total depreciation taken on that specific asset.

Perform steps 1-4 for each individual asset listed.  When done, add together the depreciation amounts you wrote down to get the total depreciation taken on all assets. You will need that figure for correct reporting in the Sale of Business Property section.

2. On the screen for the main rental property asset, it shows prior year depreciation of $92k and then 2021 depreciation of additional $10k, which means on the Sale of Business Property page, I should be including a total depreciation of $102k. Is that right?

This is somewhat answered above. You will need not just the total depreciation for the property itself, but the total depreciation for "ALL" assets in the assets/depreciation section.

3. What do I do with the depreciation of the HVAC and Water Heater? Do I need to add them to the depreciation of the rental property on the Sale of Business Property page?

Yes, as already clarified, as you are required to recapture "ALL" depreciation taken on "ALL" assets.

Lastly, over the years that we have lived in the house (when it was NOT a rental until), we made several improvements such as adding new flooring, adding patio at the back, adding a new fence and walkway, etc. Could I add these improvements cost to the total cost basis (along with the sales/legal fees)?

Ignore your sales fees "for now" as the program will specifically and explicitly ask you for "sales expenses", and you will include those costs in the sales expenses.  But your costs for property improvements (patio, fence, walkway, etc) are added to your "ORIGINAL" cost basis when you report this in the sale of business property section.  Technically, these items should have been listed as separate assets in the SCH E section and depreciated separately from the property. But I realize it's perfectly possible that property improvements done before you converted the property to rental may very well have already been included in your cost basis when figuring the value to use for depreciation purposes. So I'll go with that assumption.

[shsabnis]

@Carl @Rick19744 @DianeW777 Thanks a lot for all your help. I'm almost done with my taxes. Just have one final question. The rental property was sold on Nov 15, 2021. It was continuously rented from Jan 1st through Sep 30th (273 days), after which it was put up for rent or for sale. Since we got a good offer for the sale of the property, we decided to sell it instead of continuing to rent it. Before putting it up for sale/rent, it was painted and few upgrades were done. A major change was requested by the health department in order to get the Certificate of Continued Occupancy (CCO), which was done after it was put up for sale. At no point was the property used for "personal use".  So, my question is:

Do I need to show that the property was changed to personal use at any point in 2021? The property was rented through end of Sept (273 days) and was vacant from Oct 1st - Nov 15th (46 days).

[DianeW777]

Yes. The reason you are indicating it was changed to personal use is so that TurboTax calculates the correct depreciation for you. Then you can enter the Sale of Business Property after you you have completed those steps in the asset section only.

In the Sale of Business Property section you will not enter any personal days or use.  As indicated in the steps earlier in the thread you must do the following for each asset you have for this property:

1. And answer 'Yes' you always used this asset 100% of the time for business. (The percentage of use doesn't change until after conversion from rental to personal use.)
2. Select 'Yes' for Special Handling due to 'You converted the asset to 100% personal use'.
3. Write down all the information you will need for the sale:
   1. The date acquired
   2. The total depreciation for prior years and the amount for the current year (will be shown on the screens)
   3. Be prepared to enter sale with the building & land original cost, add the capital improvements, and the selling expenses
4. Next enter your Sale of Business Property - Include the actual cost of the rental building including land and the capital improvements. Add the selling expenses. 
   1. Other Business Situations > Sale of Business Property >Start or Revisit > Enter your sale

[Carl]

I disagree with @DianeW777 as I get the impression they did not read your post in it's entirety. (I myself am guilty of that at times too.)

Do I need to show that the property was changed to personal use at any point in 2021?

No. You were quite clear with no room for misinterpretation with your statement, " It was continuously rented from Jan 1st through Sep 30th (273 days), after which it was put up for rent or for sale. "

The property was rented through end of Sept (273 days) and was vacant from Oct 1st - Nov 15th (46 days).

You may (If you want) indicate it was rented "the whole year".  With no personal use days, either way you chose to work it will result in the same "exact" amount of depreciation anyway. The program will stop depreciation on the closing date of the sale, either way.

[viveks45]

Hi Guys - I have a same situation as others here - trying to report the sale of a rental property in 2022 that was previously purchased as a primary home in 2006 (converted to rental in 2017). 

on my income summary page in Turbo Tax, I see a negative number against the sale of business property (even though my sale price was higher than the eventual cost basis and I have also entered the total depreciation taken in previous years). 

any idea what mistake I am making here? Is this a valid situation in any way (due to operational losses in some of the previous years)?

[Carl]

It is common for rental property to operate at ever increasing losses each and every year it's a rental. Losses not used in the current year are carried over to the next year. So with each passing year your carry over losses grow.

You can "realize" those losses in the tax year you sell the property. In that year, those losses will help offset and reduce the taxability of any gain realized on the sale.

If you report the sale in the SCH E section of the program, then the program will take care of this "for you", if you have in fact, been using the TTX program every single year the property was a rental so the program could do the carryovers for you.

[snallini]

I sold the rental property on June 10th 2022. It was a duplex,one unit was rented and another unit was a primary residence where I lived two and a half years.

How to show depreciation recapture in Turbotax