Should I use land value allocation at the time of purchase or sale?

[daweigedavid]

Hi,

When trying to allocate the sales price for rental properties, I have trouble finding the good reference about how to allocate the sales price of land vs improvement? Should I use the improvement/land breakdown from the tax assessor when I purchase the property or on the year sale?

For example:

When I purchase the property in 2010, the tax assessor has the following allocation:

Improvement: $75,000

Land: $25,000 (25% of total value)

When I sell the property in 2021, the tax assessor shows the following allocation:

Improvement: $140,000

Land: $6,000 (30% of total value)

House is sold for $250,000

How should I allocate the sales price of $250,000, should I use 25% as the land value (the allocation in 2010) or the 30% as the land value (allocation in 2021)?

Thank you!

[Critter-3]

OK ... you have already figured this % when you put the rental into service and started depreciating the property ... you will use the same ratio now.   Review your depreciation worksheet for this ratio and apply it accordingly.

If this is for estimating the tax liability for the 2022 tax return  AND  you have been depreciating the property correctly all these years then here is a basic blueprint to follow : 

Cost basis =  purchase price + cost to buy + improvements

Adjusted cost basis =  cost basis -  depreciation taken

Sales price - ( cost basis + cost to sell )  =  profit or loss

Profit - depreciation taken = cap gain 

Depreciation is taxed as ordinary income not to exceed 25%.

Cap gain taxed at no more than 20%.

Ok ... a simple example of ratios ...  if you have more assets than the example then you will have more lines.  Remember if you divide a big number into a littler number you get a % ...  thus 5000/100,000 = 5%

       original  cost basis          ratios                  Sales price             cost of sale 

home    80000                   80%                          160,000               8,000

land       15000                   15%                           30,000                 1,500

roof        5000                        5%                           10,000                   500 

totals     100,000                100%                        200,000               10,000

All you need to enter into the program is the % of sales price & % of cost of sale for each asset being sold and you will have to do the math yourself as the program will not do it for you if you have more than one asset (the land & building are considered 2 assets) . 

And if you have NOT been taking depreciation as required  then RUN to a local tax pro when you file this return to get this error fixed correctly so you do not pay more taxes than you are required to do ... the form 3115 you need is not supported in the TT program and it is NOT a DIY project. 

[daweigedavid]

Hi @Critter-3 I can't thank you enough for your detailed answer!

To recap, the ratio of land and improvement I should use is the one I chose to allocate for depreciation along the years, what the tax assessor says about the ratio of land/improvement at the point of sale does not matter. If you have made addition improvements throughout the years (such as new roof or new flooring),  we have to calculate the percentage of cost basis of each of the additional improvements using the following formula:

[ percentage of new roof ] = cost basis of new roof / (cost basis of the house + cost basis of the land + cost basis of the new roof).

Multiply the percentage of each additional improvements by the total sales price to get the sales price of the additional improvements, and the selling expense (such as agent fee) should be allocated using the same methodology.

Am I understand all of that correctly?

[Critter-3]

The ratio between land/house  never changes no matter how many years you had the property.

I gave you a simple example to follow ... if you have more assets you will simply have more lines in that chart. The Excel tool  works well  for this situation and will give you the spreadsheet you need to complete all the screens in the program.

[RTF1]

"The ratio between land/house  never changes no matter how many years you had the property."

Can you please tell me where I can find more information about this? Can't seem to find it anywhere in the IRS website. Thanks!

[AmeliesUncle]

You don't change the Basis or ratio for depreciation for the entire time of depreciation.

But when selling the house, you enter the sale based on the current prices/ratio.