What is the correct way to calculate depreciation for rental property with personal use days?

[taxguyjames]

I'm not sure whether TurboTax Home and Business is giving me the correct calculations for a vacation home (Dwelling Unit Used as a Home as per pub 527) with both rental and personal days.

I will use an extreme example to illustrate the problem.

Say the home was purchased on 01/01/2000 for $120k with a land value of $20k. It was put in service on 01/01/2000 and used 100% for business between 2000-2017 (no personal use during this time).

Cost basis: $100k

Prior depreciation: $65,302

Now let's say that this property was rented at fair market value for 100 days, and used for personal use for 100 days in 2018 (assume it was available for rent but not rented for the remaining 165 days). So the business use is 50% for 2018.

If I enter this data into TT, it calculates $0 depreciation for 2018 because it uses a cost basis of $50k and the prior depreciation is already more than this.

I think it should be calculated as follows:

Cost basis: $100,000

Prior depreciation: $65,302

Adjusted cost basis: $34,698

2018 depreciation: $34,698 * 1/(27.5-17-11.5/12) * 0.5 = $1,818

I think the cost basis should remain as $100k and the 50% ratio should be applied after doing the normal calculation for depreciation.

I would be interested to hear other people's opinions on this because I can't find any definite answer.

[tagteam]

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@taxguyjames wrote:

I think the cost basis should remain as $100k and the 50% ratio should be applied after doing the normal calculation for depreciation.

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Others may be able to state authoritatively or have a different opinion, but I agree with you. In your hypothetical, if you enter 50% business use for the asset and also 100 rental days and 100 personal use days, then it appears as if TurboTax is dividing depreciation twice (using half of the original basis as a starting point and then dividing it in half again as a result of 100/100 rental to personal days of use).

Since the Asset Entry Worksheets are primarily generic forms (i.e., in TurboTax, they can be used for a wide variety of assets), I would change the Percentage of business use to 100% in Forms Mode (you can probably do this in Step-by-Step). Doing so will preserve your original basis for depreciation (as reflected in the Depreciation and Amortization Report) and also ensure you get the carryforward to the next tax year.

The foregoing notwithstanding, it would be ill-advised to blindly use TurboTax calculations for this scenario. You should follow the Worksheet in Publication 527. See https://www.irs.gov/publications/p527#en_US_2018_publink1000285479

Clearly, a vacation home rental is one area TurboTax does not handle well; adjustments may have to be made manually.

[taxguyjames]

It's not doing the calculation twice. It automatically fills in the business percentage use based on the numbers of rental/personal days. It just does the calculation once, but it applies the 50% ratio to the cost basis instead of using the full cost basis and then applying the 50% after calculating full depreciation.

I'm not sure which  method is correct. The worksheet is pub 527 is not much help. It just says:

"Enter the rental portion of depreciation of the dwelling unit."

But it doesn't explain how to calculate the rental portion of depreciation. Whether to apply the rental portion to the cost basis and then calculate as normal (using the formula method, not the tables) as TurboTax does. Or whether to calculate the deprecation as normal with full cost basis and then apply the rental portion to the final calculation.

[tagteam]

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@taxguyjames wrote:

Whether to apply the rental portion to the cost basis and then calculate as normal (using the formula method, not the tables) as TurboTax does. Or whether to calculate the deprecation as normal with full cost basis and then apply the rental portion to the final calculation.

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When I did a test (based on your hypothetical figures) and entered personal and business use days and also entered 50 as the percentage used for business, I got the wrong result (the calculation by the program was exactly half of what I calculated manually).

Regardless, I think the publication is fairly clear in the sense that you simply apply the percentage allocated to the rental portion (in the hypo that would be 50%) to the amount of calculated depreciation for the tax year (on the cost basis of $100k).