Split Sale of Rental Between House and Land

[Jim S]

I've got a stumper for you...

A client has rental property that will be sold at a gain with unrecaptured section 1250 gain. The problem is, the house was trashed by previous renters and will probably be demolished by any person buying the property. The gain is solely as a result of the appreciation in land prices in the area. If the sale price is figured on the house and land as one price, prior depreciation claimed gets taxed at 25% as unrecaptured section 1250 gain. But if the sale price were split between the house and land based on true market value, there would be no gain on the house because the house is worth less than its basis minus prior depreciation. Thus no unrecaptured section 1250 gain. The gain is all shifted over to section 1231 gain, taxed at 15%.

Can the sale be structured like this, shifting all income to capital gain? Citations would be appreciated.

[Mark Goldberg]

Yes

When real property is sold we are supossed to show it as two sales, land and building. As you are aware most of us do not do this. So just follow the rules and show two sales on Form 4797. Land goes in Part I, I believe, and the building in Part III. If there is no gain on the building there is no section 1250 recapture.

[Matt Sova]

Gain recapture

That is technically correct, however, you cannot just put down any old number you please and expect it fly. You should get appraisals done on, at the very least, the value of the land without a structure on it.

Matt