Rental Questions

[geekgirldany]

Hope someone can help. I have several tax questions I'm going to post for one customer.

1. Customer started renting their home in 2004. Here are the circumstances..They moved into their house in July 02 then they moved into their new home in Nov/Dec 03. Customers say they got their old home ready to rent for the months of Nov-Dec 03. They did not rent until Jan 04. Former CPA prepared a Schedule E reporting rental income and expenses but did not depreciate the old house/rental house.

My questions are:
They do not seem to meet the two out of five year test. So basically the Exclusion on the Gain on the sale of the rental house... if it ever happens.. is gone. They didn't live there for two years so it is gone. Correct? There are not special circumstances that I know of that made them have to move. But I will double check.

Next question. The CPA did not depreicate the Rental House. Was there some reasoning behind this? I always thought that it needs to be depreciated. If it is not then if/when the house is sold depreciation recpature will have to be done and any gain attrbuted to this will be taxed as a Section 1250 Property at a max rate of 25%. Is this correct? Should I go back and amended 2004 tax return and include the depreciation?

Thank you for any help. I know it was a long post. I have two more I am going to post about this customer.

Danyelle

[sea-tax]

Yes I would recommend to the client that you go back and amend the 2004 return to add the proper depreciation. It will make you look like a hero to.

[jainen]

Depreciation is mandatory

Depreciation is mandatory, so you should amend for 2004 as the first year placed in service. Basis for depreciation will be the lower of original basis or FMV at conversion, with an allocation between land and improvements.

Exceptions to the 2-out-of-5 years rule depend on the reasons for selling, not the reasons for moving.

There will be no recapture of depreciation when the real estate is sold, since it is all straight line. The 25% capital gains rate only applies if they use the Section 125 exclusion.

[Unregistered]

The 25% capital gains rate only applies if they use the Section 125 exclusion.

Its never to late to correct...Don't you mean §121?

[jainen]

As usual

As usual, I hardly know WHAT I mean.

[geekgirldany]

Thank you guys. I got a little confused on the recaptured depreciation. I read this I found on Google:

http://www.frascona.com/resource/pal801taxcons.htm

Goofy me didn't read the whole article just what Google highlilghted. So I got mixed. So I see what you are talking about now on the 121 exclusion.

I'm going to type So one more time... because I am So tired

Thank you guys again. Such good help.

[Unregistered]

Re: the possible 25% rate for depreciation recapture - I think Jainen's typo that should have referenced section 1245 property.

New York Enrolled Agent

[jainen]

This question was about real estate

This question was about real estate used as a home, not Section 1245 property. If the taxpayer excludes gain under Section 121, the exclusion will not apply to gain caused by depreciation having lowered the adjusted basis. This is sometimes erroneously called recapture, but such gain is taxed as capital gain with a maximum rate of 25%.

[Unregistered]

Sorry Jainen, my error!!
NYEA

[jainen]

your excellent post

I'm sure no apology is needed. It wasn't like an insult. I made a dumb goof myself earlier in this same thread. Besides, I am in an especially tolerant mood this morning because of your excellent post about the unified definition!