Turbotax has never allowed me to take depreciation deductions. Rental Home Depreciation = $269,818. CapGain = $182,400. PLCarryover = -228,194. Are taxes owed on sale?

[floryba]

I'm really worried now.  I have a rental home I bought in 2005 and want to sell it.  Upon reviewing all my tax forms, I've noticed that TurboTax has always calculated the depreciation, but never allowed me to take it as an offset to income.  I assumed it was because I always had about a 20K/yr loss on the property.  But now I'm not sure.  If realized the total depreciation over the 14 years I've owned it would be $269,818.  That would be a large bill if I had to pay 25% tax on that, especially when I never benefited from the depreciation.  Additional information would be my projected Capital Gain amount at sale ($182,400), and my Passive Loss Carryover amount (-$228,194).  I'd appreciate any help you can provide.  Will I have to pay taxes on this sale and if so, how much?  This will determine whether I can outright sell the property or do a 1031 exchange instead.

[ChrystalM]

You can fully deduct these suspended passive losses when you sell your rental property in a qualifying disposition.

Under IRC § 469(g), a “qualifying disposition” requires three criteria:

1. Disposition of an entire interest (or substantially all)

2. In a fully taxable event (where all gain/loss is realized and recognized).

3. To an unrelated party.

In order to release the suspended losses, there must be a complete disposition to an unrelated party in which all gain or loss realized is recognized. In other words, the gain or loss must be recognized, but not necessarily included in gross income.

[floryba]

Thank you for your quick response.  I understand that I can deduct my passive loss carryover amounts upon the sale of my rental property.  What I'm concerned about is if I will have to pay 25% taxes on the unrealized depreciation amount which TurboTax never allowed me to deduct.  That is an entirely different question than whether I can deduct passive losses.  I don't believe that unrealized depreciation would be considered a loss; potentially a gain perhaps, but not a loss.

[ChrystalM]

Where do you see that TurboTax calculated the depreciation? Was it on the Sch E?

[ChrystalM]

Another similar question was answered here <a rel="nofollow" target="_blank" href="https://ttlc.intuit.com/questions/4493980-am-i-required-to-pay-recapture-tax-on-the-amount-of-unreal...>

[floryba]

Yes, the depreciation is calculated on FORM 4562 and that total amount is entered on my Sch E.  The loss amount on Schedule E is quite a bit higher than the Deductible renal real estate loss.  So I see what you are saying... the depreciation amount gets folded into the passive loss carryover amount.  Correct?  So I'd have to pay 25% on the depreciation, 20% on the capital gains, then offset it with the passive loss carryover amount.  Did I get that right?

[ChrystalM]

Your understanding of your tax situation, as you laid it out in your question, is correct. The capital gain that you realized upon the sale of your rental property would be $182,400, which would be taxed at a rate of either 0 percent, 15 percent, or 20 percent, depending upon your federal income tax bracket. The portion of the gain attributable to depreciation is taxed at a rate of 25 percent.

Any rental losses that had been previously disallowed because of the passive activity loss rules will now be allowable because you have completely disposed of the rental activity. Accordingly, you will be able to deduct your suspended losses of $228,194, and these will offset your other ordinary income, such as your wages, interest and dividends, etc.