Depreciation recapture vs. suspended losses on sale of property

[Anonymous]

I have an investment property where I am taking a slight loss every month. I can't deduct the passive losses from my W-2 income, so there are no tax advantages right now. I need to sell within the next year if I want to avoid capital gains on the sale, because it was previously a residential property.

Interest rates are so low that I can refinance and actually come out cash-flow positive on a month-to-month basis and start a savings fund for repairs, and maybe take a little each month to pay off my primary mortgage, which seems like an attractive option.

If I hold on to the property past the time where I would have to pay capital gains on the sale can somebody please explain to me what I can use the suspended losses to offset? Can I offset the depreciation recapture (taxed at 25%) or can I only use it to offset capital gains (taxed at 15% for me). My current tax bracket is 24%.

My accountant's office is closed today, and the lender is going to call me to schedule an appraisal soon, so I would like to get this figured out.

[Anonymous]

I don’t think you can offset the depreciation recapture in any case.

[Anonymous]

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

[Anonymous]

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It isn’t that much tax though. 25% of depreciation claimed. A fraction of a fraction.

I wouldn’t worry about Biden. Carryover basis is too hard to administer. I could see a mark-to-market requirement becoming law for non-real estate assets, though, and would support that 100%.

[Anonymous]

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It's in close-in NOVA, about a 15-minute commute from the Pentagon. It has appreciated about $40k in the last two years, but who knows if that will continue. I don't know that I could stomach putting all that money in the market, though, so I think a ton of it would just sit in my bank account.

[Anonymous]

I am on a condo board. When rentals sell often cash deals. And weird prices. For instance a unit worth 330k sold for $139,500 cash. What happens is folks take the max amount they can without triggering cap gains. That amount is for title purposes.

In the $139,500 case later found seller had other debts. Offer code words furniture for sale is clue.

Buyer gets a discount, no realtor fee and often has balls to grieve RE taxes.

IRS tries to bust on this

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It isn’t that much tax though. 25% of depreciation claimed. A fraction of a fraction.

I wouldn’t worry about Biden. Carryover basis is too hard to administer. I could see a mark-to-market requirement becoming law for non-real estate assets, though, and would support that 100%.

Carryover basis wouldn't be any more difficult to administer than stepped up basis. Property sales are permanent public records. The price of the property on purchase, even back in 1968 or whatever, would be easier to establish than value on the date of death. If someone wants to claim improvements were made, the IRS would require receipts. For stepped up basis, you need appraisals, comparables, etc for value on the date of death, which is why the IRS will just accept the sale price if the heirs sell within a small window. However, wait too long and you could have a fight on your hands with the IRS.

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It isn’t that much tax though. 25% of depreciation claimed. A fraction of a fraction.

I wouldn’t worry about Biden. Carryover basis is too hard to administer. I could see a mark-to-market requirement becoming law for non-real estate assets, though, and would support that 100%.

But if the house has appreciated in value, and OP waits, they will pay capitol gains on the appreciation over their lower depreciated basis vs. only paying taxes on profits over $500k (if married) over their original, non-depreciated basis. If the house is in the DC area, that tax would be significant. If OP is losing $$ on the house on a month to month basis that they can't deduct on their annual taxes, that's a very bad investment decision.

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It's in close-in NOVA, about a 15-minute commute from the Pentagon. It has appreciated about $40k in the last two years, but who knows if that will continue. I don't know that I could stomach putting all that money in the market, though, so I think a ton of it would just sit in my bank account.

Just do the math and see. If you sell now, you will pay zero tax on the $40k. Run a time value of money calculator at some interest value that corresponds to a interest rate you'd get in a CD or some safe investment (although I don't think it's smart to stay out of the market). If you can refinance and rent will cover all rental expenses plus produce some income, calculate taxes on that income (you have to pay taxes on it, even though they won't let you deduct losses), and calculate the amount of interest you save by paying down your primary mortgage with the net income. Make sure to allow for some time when the house isn't rented (painting, etc in between renters). Then calculate the depreciation on the house over time and calculate what your taxes would be when you sell. Remember, it's not a guarantee that real estate prices always go up. Particularly in Arlington, it is possible that the bulk of the appreciation has already happened. Prices could even go down.

When I did this math, it was basically a wash. The hassle of renting and maintaining a home wasn't worth it. Particularly when you consider how illiquid real estate is as an investment. Just like there's no guarantee that real estate prices always go up, there's no guarantee that houses always sell quickly if you need the cash.

[Anonymous]

Anonymous wrote:I am on a condo board. When rentals sell often cash deals. And weird prices. For instance a unit worth 330k sold for $139,500 cash. What happens is folks take the max amount they can without triggering cap gains. That amount is for title purposes.

In the $139,500 case later found seller had other debts. Offer code words furniture for sale is clue.

Buyer gets a discount, no realtor fee and often has balls to grieve RE taxes.

IRS tries to bust on this

This makes zero sense and isn’t how the tax laws work. At all.

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It isn’t that much tax though. 25% of depreciation claimed. A fraction of a fraction.

I wouldn’t worry about Biden. Carryover basis is too hard to administer. I could see a mark-to-market requirement becoming law for non-real estate assets, though, and would support that 100%.

But if the house has appreciated in value, and OP waits, they will pay capitol gains on the appreciation over their lower depreciated basis vs. only paying taxes on profits over $500k (if married) over their original, non-depreciated basis. If the house is in the DC area, that tax would be significant. If OP is losing $$ on the house on a month to month basis that they can't deduct on their annual taxes, that's a very bad investment decision.

This isn’t how it works and you are confusing two things.

If OP needs to sell because of the residency requirement to claim the exclusion from capital gains taxes (capital with an A, like money; not capitol with an O, like a building in which legislation is drafted), that’s one thing. Say basis is $300,000 and house is now worth $800,000 and they meet the residency test, sell it with no capital gains tax (federally— some states have have one) and just pay the 25% tax on whatever depreciation value was claimed during its time as a rental. It wouldn’t be that much.

A 1031 like-kind exchange is also a possibility but results in only tax deferral.

Also note that even if they hang on to it, they pay both the capital gains tax and the depreciation recapture.

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It's in close-in NOVA, about a 15-minute commute from the Pentagon. It has appreciated about $40k in the last two years, but who knows if that will continue. I don't know that I could stomach putting all that money in the market, though, so I think a ton of it would just sit in my bank account.

Just do the math and see. If you sell now, you will pay zero tax on the $40k. Run a time value of money calculator at some interest value that corresponds to a interest rate you'd get in a CD or some safe investment (although I don't think it's smart to stay out of the market). If you can refinance and rent will cover all rental expenses plus produce some income, calculate taxes on that income (you have to pay taxes on it, even though they won't let you deduct losses), and calculate the amount of interest you save by paying down your primary mortgage with the net income. Make sure to allow for some time when the house isn't rented (painting, etc in between renters). Then calculate the depreciation on the house over time and calculate what your taxes would be when you sell. Remember, it's not a guarantee that real estate prices always go up. Particularly in Arlington, it is possible that the bulk of the appreciation has already happened. Prices could even go down.

When I did this math, it was basically a wash. The hassle of renting and maintaining a home wasn't worth it. Particularly when you consider how illiquid real estate is as an investment. Just like there's no guarantee that real estate prices always go up, there's no guarantee that houses always sell quickly if you need the cash.

Thanks for this. It’s in West Alexandria which I feel like still has some room for price appreciation (maybe like 20k?) in the next few years. Refi will allow rent to cover all expenses, but not be enough that we will pay income taxes on it right now with depreciation.

I was doing some research and suspended losses including depreciation can be used to offset W2 income. I will run the calculations you suggested above. I also kind of like the idea of keeping it in case something happens with either of our jobs so that we have a cheaper place to live.

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It isn’t that much tax though. 25% of depreciation claimed. A fraction of a fraction.

I wouldn’t worry about Biden. Carryover basis is too hard to administer. I could see a mark-to-market requirement becoming law for non-real estate assets, though, and would support that 100%.

But if the house has appreciated in value, and OP waits, they will pay capitol gains on the appreciation over their lower depreciated basis vs. only paying taxes on profits over $500k (if married) over their original, non-depreciated basis. If the house is in the DC area, that tax would be significant. If OP is losing $$ on the house on a month to month basis that they can't deduct on their annual taxes, that's a very bad investment decision.

This isn’t how it works and you are confusing two things.

If OP needs to sell because of the residency requirement to claim the exclusion from capital gains taxes (capital with an A, like money; not capitol with an O, like a building in which legislation is drafted), that’s one thing. Say basis is $300,000 and house is now worth $800,000 and they meet the residency test, sell it with no capital gains tax (federally— some states have have one) and just pay the 25% tax on whatever depreciation value was claimed during its time as a rental. It wouldn’t be that much.

A 1031 like-kind exchange is also a possibility but results in only tax deferral.

Also note that even if they hang on to it, they pay both the capital gains tax and the depreciation recapture.

Nice snark about spelling (I know the difference — spell check got me). But you’re missing the point. That’s what OP is asking — the window is about to close on the ability to claim the exclusion due to the residency requirement. Should they sell now or keep the house and rent into the future, knowing they’ll lose the exclusion?

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It's in close-in NOVA, about a 15-minute commute from the Pentagon. It has appreciated about $40k in the last two years, but who knows if that will continue. I don't know that I could stomach putting all that money in the market, though, so I think a ton of it would just sit in my bank account.

Just do the math and see. If you sell now, you will pay zero tax on the $40k. Run a time value of money calculator at some interest value that corresponds to a interest rate you'd get in a CD or some safe investment (although I don't think it's smart to stay out of the market). If you can refinance and rent will cover all rental expenses plus produce some income, calculate taxes on that income (you have to pay taxes on it, even though they won't let you deduct losses), and calculate the amount of interest you save by paying down your primary mortgage with the net income. Make sure to allow for some time when the house isn't rented (painting, etc in between renters). Then calculate the depreciation on the house over time and calculate what your taxes would be when you sell. Remember, it's not a guarantee that real estate prices always go up. Particularly in Arlington, it is possible that the bulk of the appreciation has already happened. Prices could even go down.

When I did this math, it was basically a wash. The hassle of renting and maintaining a home wasn't worth it. Particularly when you consider how illiquid real estate is as an investment. Just like there's no guarantee that real estate prices always go up, there's no guarantee that houses always sell quickly if you need the cash.

Thanks for this. It’s in West Alexandria which I feel like still has some room for price appreciation (maybe like 20k?) in the next few years. Refi will allow rent to cover all expenses, but not be enough that we will pay income taxes on it right now with depreciation.

I was doing some research and suspended losses including depreciation can be used to offset W2 income. I will run the calculations you suggested above. I also kind of like the idea of keeping it in case something happens with either of our jobs so that we have a cheaper place to live.

I would check with your cpa about this. That is not my understanding, unless you make less than $100k a year (you can deduct a limited amount) or you are the “real estate business” (owner of one house is unlikely to qualify).

https://www.nolo.com/legal-encyclopedia/can-you-deduct-your-rental-losses.html

[Anonymous]

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:

Anonymous wrote:I don’t think you can offset the depreciation recapture in any case.

This is my understanding. This is why we sold our house vs. renting it out. You can't offset the losses with w-2 income (unless you're in the "business of real estate," but the depreciation continues to reduce your basis, and you lose the residence "safe harbor," so you get hammered on taxes when you sell. The only way it makes sense is if you plan to keep the house forever and let your kids inherit it, and then they get the stepped up basis (Biden has the elimination of stepped up basis in his platform, fyi). However, in the meantime, you have the hassles and expense of maintenance (which you also can't deduct). Unless you're in a market that has a ton of room for appreciation, it makes more sense to put your money in a the market.

It's in close-in NOVA, about a 15-minute commute from the Pentagon. It has appreciated about $40k in the last two years, but who knows if that will continue. I don't know that I could stomach putting all that money in the market, though, so I think a ton of it would just sit in my bank account.

Just do the math and see. If you sell now, you will pay zero tax on the $40k. Run a time value of money calculator at some interest value that corresponds to a interest rate you'd get in a CD or some safe investment (although I don't think it's smart to stay out of the market). If you can refinance and rent will cover all rental expenses plus produce some income, calculate taxes on that income (you have to pay taxes on it, even though they won't let you deduct losses), and calculate the amount of interest you save by paying down your primary mortgage with the net income. Make sure to allow for some time when the house isn't rented (painting, etc in between renters). Then calculate the depreciation on the house over time and calculate what your taxes would be when you sell. Remember, it's not a guarantee that real estate prices always go up. Particularly in Arlington, it is possible that the bulk of the appreciation has already happened. Prices could even go down.

When I did this math, it was basically a wash. The hassle of renting and maintaining a home wasn't worth it. Particularly when you consider how illiquid real estate is as an investment. Just like there's no guarantee that real estate prices always go up, there's no guarantee that houses always sell quickly if you need the cash.

Thanks for this. It’s in West Alexandria which I feel like still has some room for price appreciation (maybe like 20k?) in the next few years. Refi will allow rent to cover all expenses, but not be enough that we will pay income taxes on it right now with depreciation.

I was doing some research and suspended losses including depreciation can be used to offset W2 income. I will run the calculations you suggested above. I also kind of like the idea of keeping it in case something happens with either of our jobs so that we have a cheaper place to live.

I would check with your cpa about this. That is not my understanding, unless you make less than $100k a year (you can deduct a limited amount) or you are the “real estate business” (owner of one house is unlikely to qualify).

https://www.nolo.com/legal-encyclopedia/can-you-deduct-your-rental-losses.html

You can offset W2 income with suspended losses the year you sell. I’m not talking about ongoing deductions.