Sale of home at loss - home office depreciation

[ttbtaxes]

Client has taken about $20,000 over the years in depreciation of a home office. The house is now sold at a loss factoring in depreciation. Is there a taxable event?

Cost $300,000 less depreciation taken $20,000 = Basis $280,000. Sold for $270,000. Clearly there is a loss.

Does the $20,000 depreciation get recaptured as income regardless of whether there is a gain or loss?

[kathyc2]

Does the $20,000 depreciation get recaptured as income regardless of whether there is a gain or loss?

If the HO is not a separate structure, no recapture. If the HO is a separate structure it needs to be reported as if 2 sales, which may lead you to different numbers.

[ttbtaxes]

The home office is within the home structure.

Clearly, if the home were sold at a gain, there would be recapture income to report. I can't find any information about what happens when it is sold at a loss.

[Nashville]

My answer allows the loss

Unless there is a code/reg section to the contrary, I don't know why this can't be reported as a loss on the disposition of business property. After all, they insist on reporting a gain if that happens. The portion of the home is for all other purposes is treated as business property.

If there is a true loss (after allowing for depreciation), I don't know that recapture is a factor. The structure of Form 4797 reports depreciation recapture only on Part III which is only to be filled in if there is a gain. Losses are reported on Parts I or II, and although depreciation is factored into the calculation, there is no separation of character as occurs when there is a gain.

The loss on a personal residence is not deductible, so the portion attributable to the office needs to be carefully observed. The original post is giving amounts uncharacteristically large for an office in most areas of the country.

If there is a disallowance of such a loss on sale of OIH in the code/regs, please cite and I will admit I am wrong in the above logic.

[kathyc2]

The home office is within the home structure.

Clearly, if the home were sold at a gain, there would be recapture income to report. I can't find any information about what happens when it is sold at a loss.

From Pub 544: "Unrecaptured section 1250 gain. Generally, this is the part of any long-term capital gain on section 1250 property (real property) that is due to depreciation. Unrecaptured section 1250 gain cannot be more than the net section 1231 gain or include any gain otherwise treated as ordinary income. Use the worksheet in the Schedule D instructions to figure your unrecaptured section 1250 gain. For more information about section 1250 property and net section 1231 gain, see chapter 3."

No gain=no recapture.

[kathyc2]

After all, they insist on reporting a gain if that happens.

For quite a number of years the taxable gain from the home office portion of house has been limited to depreciation taken. If the property increased in value, to allow both the 121 exclusion and non-recaptured depreciation would essentially amount to double dipping.

[TaxGuyBill]

The home office is within the home structure.

Clearly, if the home were sold at a gain, there would be recapture income to report. I can't find any information about what happens when it is sold at a loss.

The proper term for paying tax on the depreciation for real estate is "Unrecaptured Section 1250 Gain". If there isn't a gain, the tax on the depreciation does not need to be paid.

Unless there is a code/reg section to the contrary, I don't know why this can't be reported as a loss on the disposition of business property. After all, they insist on reporting a gain if that happens. The portion of the home is for all other purposes is treated as business property.

If there is a true loss (after allowing for depreciation), I don't know that recapture is a factor. The structure of Form 4797 reports depreciation recapture only on Part III which is only to be filled in if there is a gain. Losses are reported on Parts I or II, and although depreciation is factored into the calculation, there is no separation of character as occurs when there is a gain.

The loss on a personal residence is not deductible, so the portion attributable to the office needs to be carefully observed. The original post is giving amounts uncharacteristically large for an office in most areas of the country.

If there is a disallowance of such a loss on sale of OIH in the code/regs, please cite and I will admit I am wrong in the above logic.

Interesting thought. I don't have time right now to look deeply into it, but here is a thought to consider:

The home office space is eligible for the $250,000/$500,000 exclusion under §1.121-1(e). If the gain is considered to be part of a taxpayer's residence, I would infer that the loss would also be considered as part of the taxpayer's residence (which is non-deductible under §1.165-9). That's obviously not definitive, but that is my first thought.

https://www.law.cornell.edu/cfr/text/26/1.121-1

https://www.law.cornell.edu/cfr/text/26/1.165-9

Edit: Kathy beat me to it. :-)

[ttbtaxes]

No gain = no recapture is what I think as well.

[Roland Slugg]

I can't find any information about what happens when it is sold at a loss.

See Code §121(d)(6). The exclusion doesn't apply to gain attributable to post-May 6, 1997 depreciation claimed for rental or business use of a principal residence.

Using the amounts in your OP, the house would have to sell for more than $280k in order for there to be any taxable gain. If it sold for more than that, the first $20k of gain would be taxable, and the rest of the gain would qualify for the $250k/$500k exclusion if all the requirements were met. If a portion of that $20k was pre-May 7, 1997 depreciation, the potential gain related to depreciation of the OIH would be even less than the full $20k.