I bought a condo for $130k five years ago. For the past three years I rented it out and just sold it for $130k ( after expenses for realtor fee). During the three years I claimed around $10k in depreciation. So do I basically owe tax on $10k only since I broke even on the sale? Do I file this next year by April 15 with my Schedule E?
And what happens if I just don't do anything? My guess is most people are ignorant they have to pay tax on the depreciation they claimed. How does the IRS track this?
I'll answer your last question first - the IRS "should" notice that you've dropped the rental schedule from your personal return. Without a change of address (presumably to the rental address - which they ask for on the Schedule E) the IRS should ask what happened to the rental. That's the trigger for them catching the sale, at least in theory.
To calculate the gain or loss from the sale, you have to use Form 4797 - this is where you report sales of assets used in a trade or business. The calculations are convoluted, but aren't severely complex - of course, being in the biz for 30 years that may just be my perspective. Essentially -
1 - subtract your depreciation from your original cost, plus improvements, to get your adjusted tax basis;
2 - ADD to that number your settlement costs - to get your adjusted selling basis;
3 - subtract that number from the contract sales price - to get your gain or loss. IF you have a gain;
4 - allocated the gain between recapture of depreciation, taxed at 25%, and gain from appreciation, taxed at regular capital gain rates.
You'll not be able to use the tax tables to calc the tax, you'll need the more convoluted Schedule D Tax Worksheet.
You may find it beneficial to use a pro for this return, even if you've done your returns yourself in the past. A decent pro will make sure you don't miss anything you're entitled to. And in my UNSUPPORTED opinion, I think using a pro for a return where a business or the sale of a business asset is reported can help lower your audit risk. Even if the computer kicks your return, a real live "classifier" looks it over. If they see the return was prepared a licensed tax pro they will consider that when looking at the schedules.
Most likely there would be a 1099-S form issued, informing the IRS of the gross sales proceeds.
With a rental, remember in addition the building there is land (yes, even with a condo), and usually some appliances (stove, refrigerator) involved in the sale as well. Each receives different treatment for depreciation and on the Form 4797 -- another reason to use a professional.
If I'm not mistaken, the condo itself is section 1250 property. So you don't recapture depreciation on it at 25%. Instead, it lowers your cost basis, so you end up paying capital gains tax at 15% on the profit.
There should be different depreciation for the items in the rental, like fridge, stove, dishwasher. I think built in cabinets, toilets, bath tubs are considered part of the house itself. The appliances are
1245 property. You have to recapture the depreciation on these items at 25% (or less if your tax bracket is less), but if you sell them at a loss, that might negate the recaptured gain.
BTW, on most appliances you can take accelerated depreciation (where you write off the asset quickly in the first years), bonus depreciation (where you write off half of the cost in the year your purchase it), section 179 (where you write the whole thing off at once). If you're in AMT and have state tax, it could get more complicated. Accelerated or bonus depreciation is not allowed in CA, section 179 limits may be different for federal and state (so it may be allowed for federal but not for state), or maybe the state will let you choose if you want to use bonus and 179 for the state even though it differs from federal. I think accelerated depreciation is not allowed under AMT either. Good software takes care of these details.
The whole topic is confusing for me, and I could be wrong on some things, so see a pro.
If you filed the depreciation form 4562 in the past, then when they receive a 1099-S, they expect a form 4797. The system will probably send you an automated letter if 4797 is missing, and they will probably assume the 1245 and 1250 depreciation based on past records.
Residential rental property held for more than one year and sold at a gain gets reported in Part III (sec. 1250) of Form 4797. The gain gets posted to Line 6 on the front of the 4797. As residential rental property is straight line depreciation, you just put a zero on Line 26g. Based on the data provided, it appears that the gain in this case is going to be the allowed or allowable depreciation for three years. Note, that whether the taxpayer actually claimed the depreciation on the 3 years of Schedule E is not relevant.
If it had been sold at a loss, the loss would be reported in Part I.... basically it's treated as Sec. 1231 property.
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