Rental Property Depreciation Recapture

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boston-robb
Posts: 3
Joined: Tue Mar 06, 2012 9:25 am

Rental Property Depreciation Recapture

Post by boston-robb » Tue Mar 06, 2012 10:03 am

First time landlord...read all sorts of IRS publications but difficult to weed through the minutia, and interested in some advice (in parallel with seeing a CPA).
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Tax Situation:
  • - We own single family home (permanent residence), and purchased a second home in 2011, which we rent ~9mo and use ourselves ~3mo as vaca home. We anticipate continuing this process for ~15yrs, then selling main home, moving in to the vacation home. Although no intention of selling 2nd home....I want to do some pre-planning should that become the case 2yrs or 25yrs from now!
    - We purchased second home for $347K in May 2011. The 2011 assessment showed $277 (Land) + $161K (Building) for total of $438K. *This is Newport RI where land is expensive.
    - We enjoyed it as vaca home Summer of 2011, while also fixing it up prior to renting (~$35K in improvements such as roof, HVAC, etc). We begin renting it in Sept 2011 for fair market price.
    - The house (in my estimate) is now likely worth $385K. New town assessment (effective Dec 2011) shows $373K ($152K Building Value).
    - Without going into all the details, the annual rental income roughly offsets the "expenses", NOT INCLUDING depreciation expenses.
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This is where my questions begin:
  • - Our AGI is >$150K, so its unlikely ever going to be able to take advantage of current year tax deductions due to "rental losses". Assuming the Building Value + Improvements = $150K for now, spread over 27.5 years, that means I'll be assigning ~$5K in depreciation each year which will be reducing my basis and I'll be paying taxes on it if/when I go to sell it.
    - When I did my taxes for 2011 (myself using turbotax), I assigned the building value of $70K because I took the purchase price of $345K and deducted the $277K in land value. This is perhaps artificially low, but I'm thinking may have ended up being a good thing to keep my depcreciation lower?
    - I segmented out the ~$35K in improvements to be depreciated over shorter time frames (5-15yrs). I'm thinking this was a mistake because I'd rather push that out as far as possible, so perhaps I should have lumped this entire value into the building value at time of putting the rental in service to spread it out over 27.5yrs?
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Open to comments from those experienced landlords in similar situations and/or those knowledgeable in these types of things!

travellight
Posts: 2781
Joined: Tue Aug 12, 2008 5:52 pm
Location: San Diego

Re: Rental Property Depreciation Recapture

Post by travellight » Tue Mar 06, 2012 11:43 am

I am not knowledgeable on the tax/depreciation but just wanted to say that I think the second home purchase and plan to retire to it is a great way to go. I did the same thing and didn't even do it as smartly in that I did not rent it out during the ten years I took to pay it off. You will then have a wonderful place to live in that is paid off and your primary residence which is usually more expensive will be a great nest egg to cash in.

It sounds like you are preparing for minimizing capital gains on the second home in case you change your plan and sell it instead. I'm sure you know, but one way to avoid or minimize that tax is to move into the home for two years before you sell.

azb
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Joined: Sat Sep 17, 2011 3:58 pm

Re: Rental Property Depreciation Recapture

Post by azb » Tue Mar 06, 2012 11:58 am

We just sold our prior residence after renting it out for a few years. I don't pretend to be a tax expert, but did learn the following from that experience:
while your losses are capped due to your income, when you actually sell the home in the future, you will be able--in that tax year--declare all the accumulated annual losses that you were not able to deduct in priot years. If your depreciation is about the same as your losses, this should largely offset the depreciation recapture.

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damjam
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Re: Rental Property Depreciation Recapture

Post by damjam » Tue Mar 06, 2012 12:02 pm

boston-robb wrote: When I did my taxes for 2011 (myself using turbotax), I assigned the building value of $70K because I took the purchase price of $345K and deducted the $277K in land value. This is perhaps artificially low, but I'm thinking may have ended up being a good thing to keep my depcreciation lower?
The IRS pub 527:
You should claim the correct amount of depreciation each tax year. If you did not claim all the depreciation you were entitled to deduct, you must still reduce your basis in the property by the full amount of depreciation that you could have deducted. For more information, see Depreciation under Decreases to Basis in Publication 551.

boston-robb
Posts: 3
Joined: Tue Mar 06, 2012 9:25 am

Re: Rental Property Depreciation Recapture

Post by boston-robb » Tue Mar 06, 2012 12:18 pm

Thank you AZB and others for responding! AZB's comment (which I'm hoping is true) indicates that if indeed I sell this vaca/rental property in the future, I'll be able to declare (use to offset any gain as explained below) accumulated annual rental losses that I was not able to deduct in the years that I was renting the property.

If so, my mind is put at ease as I don't really care if I have a ton of "allowed", but "unused" depreciation in earlier tax years because the accumulated losses will somehow help offset the gap between "realized sales value" and the "adjusted basis" (taking into improvements, less depreciation) in the year I sell the house? *We would hope to live in the house for 2yrs prior to selling it (can't always predict the future), but even if that's the case the depreciation recapture is still factored in, hence my worry. Open to hear from any others with similar situations or who are just knowlegeable in these things!

travellight
Posts: 2781
Joined: Tue Aug 12, 2008 5:52 pm
Location: San Diego

Re: Rental Property Depreciation Recapture

Post by travellight » Tue Mar 06, 2012 1:10 pm

I am in the same situation with a big multiplier. I have a second home as you do, but also have 7 other homes that are rented out. I have income over 150K so no active write-offs. I am counting on these deferred losses to mitigate against capital gains tax in the future when I go to sell them; which I don't plan to do for 20+ years. I may move into them sequentially for two years each when I retire if needed. Just confirming that my understanding is the same as yours.

porcupine
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Re: Rental Property Depreciation Recapture

Post by porcupine » Tue Mar 06, 2012 1:17 pm

travellight wrote:I am in the same situation with a big multiplier. I have a second home as you do, but also have 7 other homes that are rented out. I have income over 150K so no active write-offs. I am counting on these deferred losses to mitigate against capital gains tax in the future when I go to sell them; which I don't plan to do for 20+ years. I may move into them sequentially for two years each when I retire if needed. Just confirming that my understanding is the same as yours.
I vaguely remember that there are some rules about whether the property was used as a primary residence first when you bought it, or as an investment property (maybe they were discussed here a few days or weeks ago). That said, who knows what the laws will be when y'all sell?!

- Porcupine

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