Selling real estate at a loss.

Posted by NadCixelsyd on October 27, 2009, 1:56 pm

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My sister purchased some property in Florida at the peak in 2005.
It's now worth about two thirds of what she paid for it. If she sells
it at a loss, she can't deduct the loss because it was for personal
use.

But suppose she rents for a while. When she depreciates the property,
can she depreciate it from her cost basis or from its current value?
How long must she rent it before it becomes "income" property that is
deductible when sold at a loss? Assuming she's owned it for four
years, but sells it two years from now, how much of the "loss" can be
deducted (or used to offset capital gains)?

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Posted by Arthur Kamlet on October 27, 2009, 2:16 pm

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>My sister purchased some property in Florida at the peak in 2005.

>It's now worth about two thirds of what she paid for it. If she sells

>it at a loss, she can't deduct the loss because it was for personal

>use.

>But suppose she rents for a while. When she depreciates the property,

>can she depreciate it from her cost basis or from its current value?

She determines her depreciable cost basis as the lower of FMV on
date it was placed into service as a rental, or adjusted cost basis.

Be sure she allocates between land which is not depreciable and the
building, which is depreciable, Straight Line, HY, 27.5 years.

I very much recommend anyone placing rental property into service
or disposing of rental property seek professional tax assistance.

>How long must she rent it before it becomes "income" property that is

>deductible when sold at a loss? Assuming she's owned it for four

>years, but sells it two years from now, how much of the "loss" can be

>deducted (or used to offset capital gains)?

While there is no specified term of rental use that changes
personal use property into rental property, many tax professionals
seem to accept 24 months of rental use as a practical dividing line.

--

ArtKamlet at a o l dot c o m Columbus OH K2PZH

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Posted by removeps-groups@yahoo.com on October 27, 2009, 5:56 pm

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> My sister purchased some property in Florida at the peak in 2005.

> It's now worth about two thirds of what she paid for it. If she sells

> it at a loss, she can't deduct the loss because it was for personal

> use.

> But suppose she rents for a while. When she depreciates the property,

> can she depreciate it from her cost basis or from its current value?

> How long must she rent it before it becomes "income" property that is

> deductible when sold at a loss? Assuming she's owned it for four

> years, but sells it two years from now, how much of the "loss" can be

> deducted (or used to offset capital gains)?

The gain/loss on sale of house will be based upon the depreciable
basis, which is the lower of cost or FMV. So if she purchased for 1M,
and it was worth 600k when she started renting it, and she sells it
for 750k 3 years later, she has a gain of 150k plus the recaptured
depreciation (about 600k/27.5=21.81k per year, or 65.45k over 3
years), so we're looking at 25% of 215.45k or 53.86k in tax. That's
federal tax only on the sale of business property, though the rate
could be lower than 25% in some cases. There's state tax too.
Florida has no personal income state tax, but if your sister lives in
CA, CA will want 9.55% of this 215.45k.

How much rental profit could she make in 3 years? From what I'm
seeing in the Bay Area, if one has a mortgage outstanding on 65% of
the original purchase price and the house was purchased a few years
ago during the boom, then with expenses excluding depreciation --
mortgage interest, property tax, condo fees, professional management
fees -- the rental is a net loss because the rent does not cover the
expenses. On the other hand if one has no mortgage there will likely
be a gain, but after depreciation there could still be a loss.
Suppose the rent is $4000 a month. Suppose no mortgage, property tax
$600 per month, condo fees $400 per month, management fees 6% of $4000
or $250. Net profit before depreciation is $2750. Depreciation is
600k/27.5=21.81k per year, or 1.8k per month, so net profit is $950
per month. Assuming 1/3 of that is used to pay federal tax, we have
to pay about $315 per month in federal taxes. Cash flow is $2750 per
month, minus the $315 in taxes, or $2435 net per month, which is a
little less than 90k over 3 years. About 60% of this 90k will be used
to pay the 25% of 215.45k tax noted above, which is tax on the sale of
business property.

Of course, rents will increase over the 3 year period that you're
renting it, but in our recession the increase will be slight or not at
all. And it's doubtful that the house would appreciate 25% in 3 years
(from 600k to 750k). So what I'm saying is that if you start renting
now and hold it for only 3 years, you'll likely lose even more through
the payment of taxes.

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Posted by Wallace on October 29, 2009, 4:26 pm

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>> My sister purchased some property in Florida at the peak in 2005.

>> It's now worth about two thirds of what she paid for it. If she sells

>> it at a loss, she can't deduct the loss because it was for personal

>> use.

>> But suppose she rents for a while. When she depreciates the property,

>> can she depreciate it from her cost basis or from its current value?

>> How long must she rent it before it becomes "income" property that is

>> deductible when sold at a loss? Assuming she's owned it for four

>> years, but sells it two years from now, how much of the "loss" can be

>> deducted (or used to offset capital gains)?

> The gain/loss on sale of house will be based upon the depreciable

> basis, which is the lower of cost or FMV. So if she purchased for 1M,

> and it was worth 600k when she started renting it, and she sells it

> for 750k 3 years later, she has a gain of 150k plus the recaptured

> depreciation (about 600k/27.5=21.81k per year, or 65.45k over 3

> years), so we're looking at 25% of 215.45k or 53.86k in tax.

Is this correct? At first blush it seems so wrong. At second blush, it
seems it might be right.

In either event, if you found yourself in this situation, what could you do
to reduce your tax exposure on a property you have a loss on? Convert back
to your personal residence? Anything else?

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Posted by Phil Marti on October 30, 2009, 5:31 am

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On Oct 29, 4:26 pm, "Wallace" wrote:

> > The gain/loss on sale of house will be based upon the depreciable

> > basis, which is the lower of cost or FMV. So if she purchased for 1M,

> > and it was worth 600k when she started renting it, and she sells it

> > for 750k 3 years later, she has a gain of 150k plus the recaptured

> > depreciation (about 600k/27.5=21.81k per year, or 65.45k over 3

> > years), so we're looking at 25% of 215.45k or 53.86k in tax.

> Is this correct? At first blush it seems so wrong. At second blush, it

> seems it might be right.

I would have worded it differently, but yes, it's right. When
property has been converted from personal use to rental the starting
point for depreciation is the lesser of adjusted basis or FMV at the
time of conversion. That makes it also the starting point for
determining the gain/loss upon ultimate sale of the property.

> In either event, if you found yourself in this situation, what could you do

> to reduce your tax exposure on a property you have a loss on? Convert back

> to your personal residence?

When our story began it was her personal residence and she was trying
to figure out a way to make tax use of a loss. If we're still at that
point, there is no tax exposure. If she does convert it to a rental
there will always be a recapture of depreciation when the property is
sold, even if she converts it back to a personal residence. The way
around it is to die without ever selling the property, in which case
the heirs get it with a basis equal to FMV and all that other stuff
goes to her grave with her.

Phil Marti
Clarksburg, MD

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<< The foregoing was not intended or written to be used, >>
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<< that may be imposed upon the taxpayer. >>
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