Tax effects of an overseas real estate transaction

Jul 24, 2010 3 Replies
M

Hello All,



I would be grateful if you could help with the following question.



I inherited an apartment unit in India in 2005. At the time, the market value of the unit was $70,000 (all figures rounded for convenience). It was rented out at the time and has been so ever since. The way the ownership of the unit is structured is that a co- operative society owns the land and all the apartment units and I own a share in the society which entitles me to the specific unit and an undived 0.347% interest in the land. Current market value is $125,000.



The buildings are more that 30 years old and the society has now decided to demolish them, and to rebuild them in partnership with a developer. The developer would built more number of units than currently exists and can sell off the excess units. All existing shareholders will will be allotted one unit in the new building.



According to the agreement, I have to relinquish possession by



8/1/10 and will receive possession of the new apartment by 8/1/11. I will be paid $5,000 right away and $400 every month for the next 12 months. The $400 payment is in lieu of rental income that I would have received during the period. In total, $9,800 in cash. After the new buildings are completed, my undivided share in the land will reduce to 0.278% due to increase in the number of units.

I have been advised that according to Indian law, the $5,000 will be considered as long-term capital gains and $4,800 as ordinary income and I have to pay tax accordingly.



What is the tax effect of this transaction for US taxes?



Thanks in advance for all the answers.


- Manoj


Vote
Twitter Facebook LinkedIn
R

In previous years how did you report the income. Did you (a) file Schedule E reporting the rental income, deductions (mortgage if income, property tax, condo fees, electricity, maids, tax preparation fees for Schedule E, etc), and depreciation? Or is it more like (b) you own shares in a corporation which pays dividends, and those dividends are reported as ordinary income on Schedule E/B?

If you used method (b) then the I think the US reporting would follow the Indian reporting. Namely report 5000 in long term capital gains. Fill out a form 1116 to claim a foreign tax credit for tax paid to India. The US tax rate will be 15% (or lower if your tax bracket is lower). Then fill out a second form 1116 to claim the foreign tax credit on the rental income, which will have a higher US tax rate.

If you used method (a), then form 4797 might be needed, but am not sure how it would work. It's like you're selling one asset this year and acquiring another next year. Maybe it's a 1031 exchange.

Vote
Twitter Facebook LinkedIn
T

It looks like it might be an involuntary conversion where you are receiving a new property to replace the old one. Without doing research on this I'm at the same loss as to how to account for this as the previous poster. I wonder if the $5000 might be a reduction of basis, which would have the advantage of deferring tax until you actually sell the new unit. The $4800 would probably be Schedule E "other income" in lieu of rent, against which you may be able to take depreciation and other expenses.

Vote
Twitter Facebook LinkedIn
M

I reported it as rental income.

Vote
Twitter Facebook LinkedIn

Join the Discussion

Have something to add? Share your thoughts — no account required.

Didn't find your answer?

Ask the community — no account required