Sale of rental home to daughter

[origun]

A couple has had a rental home for several years which now has an adjusted basis of $250k. They are going to sell it to their daughter for their basis of $250k although the RMV of the property according to a professional appraisal is now $300k. My questions:
1. On their tax return is it just reported as a sale with no gain or loss--but with recapture of depreciation?
2. Do they file a gift tax return for 22k? ($50k minus $28k)
3. What is the daughter's basis in the property?

[Roland Slugg]

1. On their tax return is it just reported as a sale with no gain or loss?

When there is a transaction that is part gift, part sale ... typically to a relative ... gain is realized to the extent the price received exceeds the owner/seller's adjusted basis. (Regs §1.1001-1(e)) Be careful to calculate the property's adjusted basis accurately, taking into consideration the depreciation the parents will deduct for the portion of the year prior to the sale/gift. If you miscalculate, and there is actually a loss, the loss will not be deductible since the buyer is a related taxpayer. Code §267(a), 267(b)(1) and 267(c)(4)) (If that happens, however, the daughter will eventually be able to deduct the loss denied her parents if she later sells the property at a gain. (Code §267(d))

... but with recapture of depreciation?

There is no recapture of depreciation when real estate is sold. If depreciable real estate is sold at a gain, there is "Unrecaptured Section 1250 Gain," which may be taxed like ordinary income but at a tax rate no greater than 25%. Based in the facts in your post, however, there won't be any Unrecaptured §1250 Gain, because if the parents sell the property for a price equal to their basis, there won't be any gain at all.

2. Do they file a gift tax return for 22k? ($50k minus $28k)

No. They will need to file two gift tax returns ... one for each spouse ... reporting a gift of $25k on each one (using the amounts in your post). From that they can each deduct the annual exclusion of $14k, resulting in a net/taxable gift of $11k by each parent.

3. What is the daughter's basis in the property?

Whatever amount she pays her parents ... $250k based on the amounts in your post.

[kathyc2]

I think they are going to have to be careful as to how it is written up on the HUD-1. If may be tempting to make the contract 300K and then a 50K gift of equity for the daughter to meet the 20% down for PMI purposes. However, in that case the 1099S will also show gross proceeds as 300K.

It is my understanding that a gift on equity on HUD-1 would not increase the cost of sale on a related party, and I've also seen valid arguments both for and against counting as cost of sale on non-related transactions.

[origun]

Good information

Thank you both for your help. I particularly appreciate the info concerning the HUD-1 and 1099-S. What a difference that could make! I will pass on to client today. I'm so glad they talked to me (and that I used this forum) before finalizing things.

[Burke]

It is my understanding that a gift on equity on HUD-1 would not increase the cost of sale on a related party, and I've also seen valid arguments both for and against counting as cost of sale on non-related transactions.

How can it be considered a "cost of sale?"

[kathyc2]

How can it be considered a "cost of sale?"

It was from another forum a few years back. A person arguing that it was a cost of the sale used the rational that a rebate to an unrelated buyer would not be considered a gift as a gift is made out of feeling of love, affection, etc. and that if buyer and seller did not have a prior relationship that wouldn't apply.

[Burke]

It would not be a gift, but in my book, not a cost of sale either. Merely a reduction in the sale price.