The three items that will determine the gain or loss on the sale of rental property is the Adjusted Basis, Depreciation Taken to Date and the Selling Price.
The tax you pay after selling a rental property depends on your profit. The IRS taxes the profit in two ways. The first is a capital gains tax that is 0%, 15%, or 20%, depending on your taxable income and filing status. The second is a maximum depreciation recapture tax of 25%.
Adjusted Basis Assumption: Your wife’s basis is ½ of the purchase price plus ½ the cost of any improvements made up until the time of her mother’s death. It is assumed that her father gifted her ½ at the time of her mother’s death. To this amount is added ½ of the Fair Market Value at the time of her father’s death. The total of these two amounts is what you should be using for depreciation of the rental property and in the calculation of the gain or loss on the sale of the rental property.
If this was not the adjusted basis used for rental depreciation, a Form 3115 may be filed with 2024 tax return. The Form 3115 corrects the depreciation.
The Selling Price for tax purposes would be the Gross selling price less selling expenses such as commissions and other closing costs paid by the seller.
A simple example follows:
$200,000 Net Selling Price
$100,000 Adjusted Basis (135,000 less 35,000 of depreciation)
$100,000 Gain
< 35,000> Depreciation recapture taxed at ordinary income tax rates
$ 65,000 Capital gain, taxed at capital gain tax rate of 0%, 15%, 20%
If you are using TurboTax, the program will calculate the ordinary and capital gain on the sale of the rental. You will need to follow the prompts in entering the sale information. The sale information would be entered in the rental section of the program.
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