Sale of foreign property (part if it from inheritance)

[Ice888]

Hi,

I would like to get help regarding a sale of foreign property.

I co-owned the property with my parents initially, (owned 40%), and then I inherited the 30% when my dad (a foreign person) passed. So my total ownership was 70% when the property was sold in 2024

I’m trying to see if my understanding is correct below. For tax filing next year, I should report the sale as two transactions.

1) sale of 40% initial ownership, since the initial cost was low, this part would have a high capital gain. My husband and I have lived in here for over 2years in the 5years leading to the sale. So we can claim the $500k exclusion? Is this correct? Say after taking the exclusion, the capital gain is 200k

2) sale of the inheritance portion (30%)

I can use the step-up basis when inheriting the property as the cost basis ? Then it will result in a capital loss 100k.

So the capital loss should offset part of the gain ? And the total capital gain is 100k from the above? 

I also paid significant amount of foreign tax on the transaction, about 100k. So I can use the foreign tax credit ? But that would not be a one on one deduction on the tax I owe but based on the proportion of the foreign income to my total income? 

Is my understanding correct with the statement above ? I’d appreciate any input!!

Thank you!

[M-MTax]

     Lived and owned for 2 out of 5 and you qualify.

     Don't report as 2 separate sales but use your TOTAL basis for ONE sale. 

     Basis is FMV at date of death....can be higher or lower than cost basis but can't deduct a loss on personal use property.

[Ice888]

Thanks for your quick reply.

so I should report as one sale, calculate the total cost basis - use actual cost when purchase for the portion i initially owned and FMV when inherit as the basis for the inheritance ?

Say if actual cost to purchase is 500k and FMV at inheritance is 2.5mil

then my total cost basis for this transaction will be

500k*0.4 + 2.5mil * 0.3 = 950k ?

Am I understanding this correctly?

Could you elaborate a little bit on deduction not allowed for personal use property ? 

thank you!

[Opus 17]

One property, one sale.

Also note that, if you are a US person subject to US tax law, you calculate the capital gain according to US tax law, even if the gains calculation in the property's location is different.

You need to calculate your cost basis.  If you purchased the property with your parents originally, and you paid 40% of the cost, then your basis starts there.  If the purchase price is $500,000 and you paid $200,000, then your cost basis starts out at $200,000.

You inherited 30% of the property when your parent died.  Under US law, you receive a stepped-up basis equal to the fair market value on the date they died.  You give that value as $2.5M, so the 30% you inherited has a basis of $750,000.  So your current total basis is $950,000.

(However, you can also claim a basis adjustment for any permanent improvements to the property, such as remodeling a kitchen or bathroom.  If the work happened when you were a 40% owner, you can add 40% of the cost to that part of your basis.  The stepped up basis on the inherited part doesn't change.)

What is the selling price?   Suppose it is also $2.5 million.  Your 70% share is $1.75 million, so your taxable capital gain is $800,000.  If you lived in the home as your main home for at least 731 days of the past 5 years (does not have to be consecutive), then you can exclude $250,000 of gain from tax, or $500,000 if married filing jointly, and then you pay capital gains tax on the remaining gain.

The point about a loss is not really relevant since you are likely not selling at a loss.  Since your basis on 70% is $950,000, you would only have a loss if the property sold for less than $1.35 million.  If that unfortunately did happen, you can't claim a deductible capital loss since this was personal property.

You need to report and pay the capital gains tax on your US tax return.  If you also paid capital gains tax where the property is located, you can claim a deduction or credit on your US tax return for the foreign taxes that were paid on the same income.  

[Ice888]

Thank you so much for your comprehensive reply. 

I am a little confused about how to apply the foreign tax credit. The taxes i paid in the foreign country regarding the sale of my portion (70%) is about 100k. Suppose my income from U.S. will be 150k in 2024. And the only source of foreign income is the sales proceeds from the property say $1.75mil. Then how much would that 100k foreign tax credit get to reduce the tax I need to pay in the U.S. 

Based on the number in your reply, if my capital gain is $300k (after applying 500k exclusion for married couple). Then my long-term capital gain tax on that gain would be $300k * 0.15 = $45k.

I understand only a portion of the 100k foreign tax i paid would be applied to reduce my tax in U.S. But I can't figure out how to calculate it. Could you point me to the right direction ? 

Thanks so much again!

[pk]

@Ice888 , agreeing with my colleagues @M-MTax  and @Opus 17 , that this should be viewed as One transaction and that ( and using the example that you provided )

(a)  your own basis would be 0.4 *500,000 + 0.3 * 2,500,000  ( FMV being 2,500,000  for the whole [property )  for US tax purposes. ( i.e. 950,000).

(b) Your share of the sales price ( assuming no transfer tax and /or commission etc. generally included in the sales expenses ) is 0.7*2,500,000.  thus it is  1,750,000.

(c) Your portion of capital gain ( assuming that the property was not rented and/or depreciated ) is  LESS 975,000 i.e. . 800,000

(d)   You and your spouse having meant the  ownership and  use clauses, you can exclude 500,000 of this  gain from taxable income i.e. your taxable gain is 300,000.

(e) You having paid 100,000   and for purposes of form 1116 ( foreign tax credit ), your foreign source income   that is being taxed by both US and the "other country" is 300,000.

I am assuming here that  (1.) that US has a tax treaty with the country where the property was situated  and the gain being taxed by that country under its  tax laws and (2) the 100,000 is  your portion of the foreign tax i.e. allocated to your 70% of the asset ,(3) you & your spouse have not used this exclusion during the last two preceding years and (4) you are both US persons ( citizen/ GreenCard / Resident for Tax Purposes ) during those two years of ownership and usage.

Does this make sense ?  Is there  more I can do for you ?