another rent house question

[Savoir Faire-Demogague in NJ]

One tax related item is your cost basis will be lower due to depreciating the property. So when you sell you have a bigger gain.

I defer to MW though.

[mwcpa]

horatio...
yes, there are future tax consequences....

the basis in the property is reduced by the depreciation that was allowed or allowable....that's referred to as adjusted cost basis (please note there are other items that can reduce basis, but I want to keep this simple)

when you sell the property, gain or loss is computed by comparing the selling price to the adjusted cost basis....

if there is gain, the depreciation claimed in the past is taxable income (the 250/500K exclusion does not offset this), the tax is at a maximum tax rate for federal purposes of 25% (today's rate, which can change)

in addition, depending when it was rented, you could have a situation where gain is allocated to the non qualified use period (for periods starting 1-1-09).... headache!!!!

let's do an example..... you bought a home on 1/1/00.... you rented it until 12/31/10.... you lived in it 1/1/11 until 1/1/14.... you are married

between 1/1/00 and 12/31/10 you claimed depreciation of 50,000. the original cost of the property, including land was 500,000, no improvement were ever made.

the home is sold on 1/1/14 for 750,000.

You have a gain of 300,000..... (750,000 selling price, less 450,000 adjusted basis - 500,000 cost less depreciation 50,000 = 450,000 -)
of the gain, 50,000 is subject to tax at 25%

In addition, since part of the property was used in a non qualified use 1-1-09 to 12-31-10... 2 years... part of the overall gain is taxable....
Here... total ownership 2000-2014 or 14 years
2 year were non qualified
so 2/14 = 14.28% of the gain available for exclusion is taxable (not eligible for the exclusion)

the overall gain is 300,000 less 50,000 the amount attributable to prior depreciation leaving 250,000 available for the exclusion. BUT of the 250,000, $35,700 is taxable (long term capital gain)....leaving only 212,500 "exlcuded" from income.

So, the taxable income in my example is $85,700.

This is a tax increase passed by Mr. Bush for those interested.

horatio.... see a pro.... this can get messy....

[taxref]

I wouldn't go so far as to say you should never move back into the house based on tax considerations. Its just that now one must do some extra planning when moving into former rental properties.

Before the rule change MWCPA discussed above, one could move into a formal rental property and make it their primary residence. After living there 2 years, they could then sell the property and take the full 121 exclusion (ie: the exclusion of up to $500K on gain on sale of ones residence). They could then move into another former rental property and do it again, and again, and again.

That new rule changes that. One can no longer simply move into a former rental property, and expect to sell it tax-free after 2 years. Crunching numbers at sale time is needed to make sure tax will not be owed.

I would add that my explanation is very basic, and leaves out a number of details. It should, however, illustrate the basic concept.