Selling a depreciated house requires making several calculations and applying different tax rates to portions of the sale’s proceeds. This is only an issue for homes that were used for business purposes, such as rental properties. These are the only homes that can be depreciated. To accurately calculate the tax implications of the house, you need to determine the total depreciation deductions you have taken while owning the house, your basis in the house, and the total gain or loss from the transaction.
Depreciation can only be taken on an asset that has a useful life of more than a year, is owned by the taxpayer, and is used for a business or income-generating purpose. Homes used solely for personal use are not depreciable. Homes which have a split use, such as a duplex where half is rented, can be partially depreciated. Homes that started as personal residences but were converted to a rental purpose can begin to depreciate when placed on the rental market.
Basis of Homes
To calculate your after-tax investment in the house, begin by calculating its original basis, which is what the owner originally paid for the home. In addition to the “sticker price” attached to the home, you can also include in the home’s basis any settlement fees and closing costs associated with completing the deal, such as legal fees. Then you adjust the basis by subtracting the depreciation deductions claimed during your ownership of the home. What remains is your adjusted basis in the home.
Calculating Gain or Loss
Calculating gain or loss from the sale begins with the sale price. The selling price includes the value of all cash and property received as well as any liabilities you are discharged from as a result of the sale. For example, if the purchaser assumes liability for the mortgage on the sold home, the value of the mortgage is included in the sale price. From that sales price, subtract the costs you assumed from the sale. This includes advertising expenses, legal fees and commissions. This equals the amount realized from the sale. From the amount realized subtract your adjusted basis. If what remains is a positive number, that is a gain. If the result is negative, that is a loss.
Character of Home
Generally the sale of a house is a capital exchange. Any gain recognized from the sale of a house held for longer than a year would be taxed at the lower 15 percent tax rate. Since the asset was depreciated however, a portion of any gain recognized may be taxed at the higher ordinary income rate. A home used for a business purpose is classified as section 1250 property which means any excessive depreciation taken is treated as ordinary income. Excessive depreciation is calculated by subtracting the amount of depreciation you would take under the “straight-line” method from actual depreciation deductions claimed. To calculate straight-line depreciation generated during your ownership, divide your original basis by the useful life of the house and multiply that amount by the number of years you owned the house. If you do not have any excessive depreciation, the entirety of any gain should be treated as capital gains.
Tips and Disclaimer
When selling a property, consult with a licensed attorney to ensure that you comply with all legal requirements. Also, consider using a certified public accountant to ensure that the returns are correctly filed. While every effort has been taken to ensure that this article’s completeness and accuracy, it is not intended to be legal advice.