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Old 09-05-2013, 03:46 PM
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Cost basis of rental house converted from investment property

Hi All members,

I have a client who owned an investment house in his FLP. He converted it into rental house in 2012. I understand that basis of the house for depreciation purpose will be lower of adjusted basis or FMV at the time of renting the house. So in this case, basis is FMV as it is lower by around 15K than adjusted basis.

The question is related to books here. What would I do with that remaining basis in the cash basis books? The tax return will show FMV for depreciation and books has historic basis + improvements.

Thanks,

Sammie



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Old 09-05-2013, 05:29 PM
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Originally Posted by Sammie View Post

#1; I understand that basis of the house for depreciation purpose will be lower of adjusted basis or FMV at the time of renting the house.


#2;So in this case, basis is FMV as it is lower by around 15K than adjusted basis.

#3;The question is related to books here. What would I do with that remaining basis in the cash basis books? The tax return will show FMV for depreciation and books has historic basis + improvements.
#1;Agreed; as you said, the basis of a rental property is the value of the property that is used to calculate your depreciation deduction on your federal income taxes. The IRS defines the tax basis of a rental property as the lower of fair market value or the adjusted basis of the property. You can calculate the tax basis of a rental property by calculating the fair market value of the property and then comparing it to the adjusted basis of the property.NOTE: to determine the basis you need several pieces of data: original basis in the property; the dollar amount of any improvements made while you occupied it as your residence; the FMV of the property when you converted it to rental use; the value of the land both when you bought the property and when you converted it to rental use.

For original basis and the dollar amount of any improvements ,your records will suffice. FMV of th epty and the value of the land should be backed up with professional appraisals to avoid any hassles with the IRS down the road. The IRS may not question your depreciation deductions year in and year out but they can still challenge what should have been allowable depreciation 20 years down the road when you sell. Having weak proof of your position at that time could be catastrophically expensive for you! "Point in Time" appraisals

#2;Correct as long as FMV is lower by around 15K than adjusted basis. As mentioned previously, the basis of a rental property is the value of the property that is used to calculate your depreciation deduction on your federal income taxes. The IRS defines the tax basis of a rental property as the lower of FMV or the AB of the property. You can calculate the tax basis of a rental property by calculating the FMV of the property and then comparing it to the AB of the property. Also remember when you dispose of it as rental pty(or as residence) in the future you must recapture unrecaptured depreciation taken previously on your return and pay the ordinary income tax of 25% on the recaptured depre.as long as the cash received is greater than the pty’s book value, then,the difference is recorded as a gain.. Then, you need to calculate the gain or loss on the sale of the pty, you compare the amount of cash received for the asset to the asset's book (carrying) value at the time of sale.

#3; Once you have your depreciable value , in this case the FMV of the pty converted to rental use,you need to depreciate it on a straight-line basis for a 27.5 year term.



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Old 09-05-2013, 08:45 PM
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Thanks for your response.

So to summarize:

1) Tax return federal asset register will show FMV for depreciation over 27.5 years.
2) Tax Return Form 1065, page 5 of Balance Sheet will show the historic basis + improvements.
3) Difference of Book & Tax depreciation will be M-1 adjustment on 1065, page 5 on Schedule M-1.
4) My books will have AB for the property.
5) So is it ok if my book assets totals will not match with federal asset report of tax return by difference in AB and FMV of the rental house which is 15K?

Thanks,

Sammie



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Old 09-05-2013, 10:04 PM
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Originally Posted by Sammie View Post
#1;1) Tax return federal asset register will show FMV for depreciation over 27.5 years.
2) Tax Return Form 1065, page 5 of Balance Sheet will show the historic basis + improvements.
3) Difference of Book & Tax depreciation will be M-1 adjustment on 1065, page 5 on Schedule M-1.


#2;4) My books will have AB for the property.
5) So is it ok if my book assets totals will not match with federal asset report of tax return by difference in AB and FMV of the rental house which is 15K?

#1;Correct; as your AB>FMV, you need to add the difference of annual Book & Tax depreciation to your income per book as defered tax assets(since book depre>tax depre).

#2;I guess so as long s you keep the record of the AB with you in your book, Sch L.



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