The title of a rental property was transferred to my daughter and my son

[gr3849]

We have a rental property with me, my daughter, and my son on the title before 2021. During a refinance in later 2021, I removed my name from the tile so the property is owned by my daughter and my son, who were already on the title. I realize this is gift from me to them. How do I report this in F709? Thank you for your help!

[KrisD15 · Accepted solution]

The gift  to each child would be 1/2 your "ADJUSTED" basis in the property. 

Your adjusted basis is your cost or Fair Market value when the rental was placed in service (whichever is less) plus any improvements less depreciation taken (or could/should have been taken).

(Your cost would be 1/3 the original cost or Fair Market value when the rental was placed in service (whichever was less)

So if you paid 300,000 TOTAL for the building and land, (100,000 cost for each) took 90,000 TOTAL  in depreciation (30,000 each) your gift to each child would be 35,000 (100,000 - 30,000 = 70,000 / 2 = 35,000.

Each child would now have adjusted basis of 105,000 and prior depreciation taken in the amount of 45,000. 

If they immediately sold for 400,000, they would each have 45,000 depreciation recapture (taxed as ordinary income) and 50,000 Long-Term Capital Gain 

The kids each assumes the depreciation from your portion, therefore they will claim deprecation recapture for ALL depreciation on the rental. (Had they inherited your portion, their basis would be stepped-up to Fair Market Value and your portion of depreciation would not carry forward to them.) 

[gr3849]

@KrisD15 Thank you so much for your answer. It is very clear for all parts. But I would like to get deeper about the depreciation part. After they hold the new title, they continued with the original depreciation schedule. Should I take the previous depreciation into account when I file the F709 I have transferred the ownership togather with the depreciation to them?

A somewhat related but different aspect of the situation here is this. Since the property was purchased in 2016, just my daughter and my son, only two of them were handling all the income, expenses, and take a 50% share each for the rental property for tax returns in the past years. We consulted through the phone call with  a TurboTax expert in the first year when we filed the tax return. The tax expert's opinion was that it is legal to handle it this way since financially I was not involved with income and expenses of the rental property. Your opinion will be greatly appreciated. Thanks

[MarilynG1]

Yes, your son and daughter can each report 50% of the rental income and expenses on their returns.

If they entered their Cost Basis in the Property Profile and Asset/Depreciation sections as their 50% amount, depreciation will be calculated for their share correctly, as well as other expenses.

@gr3849 

[gr3849]

MarilynG1 Thank you so much for your confirmation!

Can you also help with the question about the depreciation in the cost base? Is it OK to not adding my part of the previous depreciation to the adjusted cost base of the F709? I know that will be less advantages to me but it is not totally clear to me since it has been said here that when I gifted my portion of the property to them, the depreciation goes along with the gift.

Thanks

[KrisD15]

Yes, as @MarilynG1 stated above, the kids could claim half of the expenses and income, in which case they would report half the basis in the property, so each child would be claiming half the depreciation and you would claim none. 

In this scenario, the kids will still end up having to claim all the depreciation (when they sell)

If you are a 1/3 owner, the IRS might have a hard time accepting you making a special allocation and not taking 1/3 of the income or loss of the rental. I understand you say an expert said you could do it this way, but it's a grey area. The IRS doesn't want loss or income transferred to the return that most benefits from that income or loss. 

In your situation, you might consider reporting half of the contribution you made to purchase the property as your gift to each child. You would have been on the deed, but only as a technicality, thus eliminating the rental allocation issue.  (the kids could justify allocating 50% as they have been doing).

This will not make the amount of depreciation each kid would need to claim when sold any different. The kids would have each claimed 50% of the Depreciation on the rental and you would claim none rather than 1/3. The AMOUNT of depreciation would not change. 

Depreciation is claimed and is a factor when the asset is sold. There is no avoiding that unless an asset is inherited. 

Using the same example, say you purchased a 300,000 rental and you put 100,000 down. 

You could gift each child 50,000.

If they deprecated 90,000 and sold for 400,000 they would still report 45,000 deprecation recapture and 50,000 Capital Gain each. 

HERE is a link to answers to a question similar to yours. 

[gr3849]

@KrisD15

Thank you. I think there are two things I need to deal with here. One is that if it was totally OK to have kids been claiming 50% of income and expenses for their tax returns from 2016 (purchase date) to 2021 (ownership transfer date) since I was not involved financially for maintaining the  property. I could take your advice to treat my portion of the initial down pay as a gift to them. But this would involve filing a late F709 for year 2016 when I had f709 filed for a few other years since then, which will become inaccurate as a result of 2016 f709 filing.

Another thing is about the F709 filing for 2021 when the title was transfered, my original question. It seems like I should not claim 1/3 of the depreciation for the previous years (2016 to 2021) since kids had been claiming 50% each in their tax returns and I have been claiming ZERO of the depreciation for those years.

[KrisD15]

This is the thing- SOMEBODY  claimed depreciation, whether you and your kids or just your kids, it makes no difference. 

Depreciation would be taken on the total value of the rental. The rental was never 2/3 where each kid claimed 1/3, it was 100% rental, so it was depreciated on 100% of it's value. 

So again, say the cost was 300,000. Depreciation would be based on 300,000 (there is an adjustment for the land, but let's keep it simple) 

IF THE KIDS CLAIMED EVERYTHING, they each would claim half the deprecation. They would NOT just claim 1/3 each. 

Ok, so if the depreciation was 90,000, the remaining value of the rental is now only 210,000 and your 1/3 share that you gifted would be 70,000, and the depreciation keeps going until the kids sell.

Again, if they sold the next day for 400,00, they would owe the same, each claim 45,000 depreciation recapture and 50,000 Capital Gain. 

If you don't want to stick the kids with your share of the depreciation, you would need to sell to each kid half your portion at Fair Market Value. Then you could gift them that same amount in cash. YOU would then claim the depreciation attached to your portion as Ordinary Income. 
So, let's say the property has a Fair Market Value of 400,000 and was depreciated 90,000, your portion has a Fair Market Value of 133,333. They each would buy your portion for 66,667 each. Your adjusted basis is 70,000 (100,000 - 30,000 depreciation) so you would claim 30,000 depreciation recapture as ordinary income and 33,333 as long-term capital gain. 

The basis for each kid is now 166,667 (100,000 original plus 66,667 for your portion, and they each have 30,000 depreciation to recapture some day. You already captured the other 30,000 in depreciation. 

If you went this route, it would be a chore to adjust for the rental in TurboTax. 

Assuming the kids now each claim half (not just 1/3,) the kids would need to convert the rental and add it in as new or add the additional value (66,667 each) as a new asset naming it "Dad's portion" and depreciate over 27.5 years, 

They would also need to adjust the depreciation when they sell to subtract the 30,000 you claimed. 

[gr3849]

All your notes and answers make sense!

I have another question regarding to the F709 Schedule A. The column H only take consideration of the FMV of the gift and it is used for the calculations in F709. The "Donor’s adjusted basis of gift, Column D" is not used anywhere else in F709. Is it only be used when kids sell the property later on? Thanks

[gr3849]

Which is the actual gift in this case? the donor's adjusted base or the FMV? Thanks

[DaveF1006]

The actual gift is the donor's adjusted basis or the FMV at the time of gift. It depends on which value is lower. The lower value of the two is the amount of the gift.

@gr3849

[gr3849]

Thank you, your statement is right. But when I fill the schedule A,  Column F is the FMV and Column H which is used for computations on 709 form, only relate to the Column F. Column D, the adjusted based, is never used. That's what is confusing me.

[DMarkM1]

For gift tax purposes the value of the gift is the FMV on the date of the gift.  The basis of the gift comes into play when the property is sold.  When the gift is disposed/sold the basis depends on whether the property is sold at a loss or a gain.  

If the property is sold for a gain, the basis is the donor's adjusted basis plus a share of any gift tax paid plus any improvements over the years since the gift date.  

If the property is sold at a loss then the basis is the "Lower" of FMV or donor adjusted basis plus the adjustments as noted above (gift tax paid, improvements).  

[gr3849]

Thank you so much, now I understand.