Author Topic: Any good resources (software, calculators, etc.) for figuring out depreciation?  (Read 2639 times)

OzzieandHarriet

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We just sold an investment property that was bought using a 1031 exchange. So there was a previous rental property that was depreciated before it was sold. On that property, we made a large profit; on the second property (the one we just sold), we had a loss.

I've been scratching my head over all the tax issues and calculations and have come to the conclusion that it's way too complicated for me. Two issues in particular:

1. Estimated tax: I've used TurboTax for the past two tax years (just filed 2013's last week), and their advice on how to figure estimated tax for 2014 was to enter the sales amount as estimated income for this year, which I did. I want to try to find out if this is in the ballpark (it seems high) before I start paying the quarterly installments.

2. Gathering info on depreciation taken and understanding cost basis: How do I do this? Until the past two years, we used accountants to do our taxes, so I'm not sure exactly what they did or how they calculated everything. Is there a simple way to find out what I need to know, or am I going to have to hire someone again? I do have all of our tax returns going back to the year we started renting out the first property.

Thanks for any suggestions.

secondcor521

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I'm not an expert by any means, but:

I believe you will owe capital gains taxes on the rental properties because they were not your primary residence (right?) in 2 of the last five years.  I believe the capital gains taxes will be long term because you owned them more than 12 months (right?).

You calculate your capital gain based on the sales price minus your adjusted basis.  Your adjusted basis is whatever you paid for the first rental property (or the FMV of the rental property when you put it into service as a rental) plus any capital improvements minus any depreciation that you have taken (or were entitled to take).  I believe a 1031 exchange is a tax free deal, so you don't have to concern yourself with how the gain or loss works out between the two properties.

Using made up numbers:

Let's say you bought rental #1 for $80K as your personal residence, and converted it to a rental when it was worth $100K.  You remodeled the bathroom for $10K.  Your taxes show that your accountant depreciated the property on a 10-year straight line depreciation, so $11K per year.  You deducted $11K per year for three years.  You then did the 1031 exchange for the second property which was worth $150K.  You depreciated that property for a year at $15K.  You then sold it for $140K and had $5K in selling costs.

So your basis would be $100K FMV +$10K capital improvement - $33K depreciation - $15K depreciation = $62K basis.  Your sales price would be $140K - $5K = $135K.  You would have a capital gain of $135K - $62K = $73K.  Let's say that's taxed at 15% LTCG rate - you'd be owing a tad under $11K in taxes that you would add into your quarterly payments.

Specifically, I don't think you should add the sales amount as ordinary income; I think you should add your capital gain as a capital gain.  The way that Turbotax suggests will have you overpaying I think.

I believe rental property is done on schedule C or E, so you should be able to find the depreciation amounts that your accountants or you took on those schedules on your past tax returns.  You'd want to add all the numbers up on all of those depreciation lines over the years (well, you won't want to, but that's the right thing to do :-) ).

For those of you who know how depreciation works, I know that real property isn't depreciated on a 10-year straight line schedule; I just chose that to make the math easier.  I think it's actually 27.5 years straight line or something, but I'm too lazy to look it up.

MDM

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We just sold an investment property that was bought using a 1031 exchange. So there was a previous rental property that was depreciated before it was sold. On that property, we made a large profit; on the second property (the one we just sold), we had a loss.
Based on the above, it appears the "previous" rental was sold before 2014, and the "second" was sold in 2014.  If so, and if (even accounting for depreciation) you had a loss on the 2014 sale:

1. Estimated tax: Your tax due, including the sale, will be less than without the sale.  So if your withholding is sufficient for your other income you won't need to pay any estimated tax.
2. Gathering info on depreciation taken and understanding cost basis: secondcor521 described it well.  Check Form 4797, Publication 523, etc.  Did you do this (or was done for you) and you have a prior year example from the "previous" rental?

Lots of ifs above, so if any aren't true then the conclusions won't be correct.  Good luck!
« Last Edit: March 28, 2014, 11:22:31 PM by MDM »

OzzieandHarriet

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Thanks for the replies. The reason I want to pay estimated tax is because we didn't have enough withheld in 2012 so had to pay estimated tax in 2013, and I want to avoid getting slapped with a penalty. Without including the real estate sale, we would not have had to pay estimated tax this year. (We got a small refund from federal.)

I do have all the tax returns, so I can look through and add up all the numbers.

Another thing I'm confused about: the second property (the one we just sold) was in a different state from our residence. Are the proceeds in any way considered income from that state?

Also: when I add up total depreciation, should I or should I not include depreciation of fixtures (e.g., appliances bought for and sold with the property)?

Thanks again. I have always found this depreciation thing confusing.

Cheddar Stacker

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We just sold an investment property that was bought using a 1031 exchange. So there was a previous rental property that was depreciated before it was sold. On that property, we made a large profit; on the second property (the one we just sold), we had a loss.
1. Estimated tax: Your tax due, including the sale, will be less than without the sale.  So if your withholding if sufficient for your other income you won't need to pay any estimated tax.

The above bold statement is very likely not true. I understand why MDM would say it based on the facts presented, but (s)he's likely either not familiar with 1031 exchanges or one of us isn't understanding your facts properly. 1031 exchanges are complex, so I'm not surprised.

I've dealt with a dozen or so of these in my time preparing tax returns, so I have some experience but I'm certainly not an expert in the area. Here is an example, which should help explain why you will likely owe some tax:

Property 1 - Purchase Price = $200,000 in 1995. Sale price = 300,000 in 2006. Due to 11 years of depreciation, the cost basis of #1 is about $115,000. This means you have a gain of $185,000, but you did a 1031 exchange (like kind exchange) which means this gain was tax free and rolled into the new deal.

Property 2 - Purchase Price = $500,000 in 2006, but you rolled the $185,000 gain into this deal, so now your tax cost basis is only $315,000. You then depreciate this $315,000 for another 8 years, so your basis is roughly $225,000. Now you say you sold property 2 at a loss, but you likely mean you sold it for less than what you paid for it right? So let's assume you sold it for $450,000 which looks like a $50,000 loss, but for tax purposes it's actually a gain of $225,000.

So Ozzie, the answer to your question of figuring out depreciation is to look at the tax return from 2 years ago prepared by a professional. If they were kind enough to include depreciation schedules you will need to follow whatever they say. Hopefully when doing your return for the last 2 years you followed the same treatment.

The listed purchase price of property 2 (net of 1031 exchange gain), less accumulated depreciation since the purchase, is your cost basis. The difference between the sale price of property 2 and your cost basis is a gain. Some of it might be taxed as a capital gain, but it's more likely that a large part is subject to depreciation recapture, which means it will be taxed at ordinary rates.

If you're worried about not paying penalties and interest, just pay 110% of your 2013 tax via withholdings and quarterly estimates during 2014. This won't prevent a large balance due in April 2015, but it will at least keep the total cost as low as possible. If you're more interested in paying in quarterly tax estimates to cover the entire gain, you need to calculate the gain first (don't just add the sale price as income as TurboTax suggested). Either way, for 2014 I suggest you hire a professional. This is not something you should DIY. I'm all for most people preparing their own return, but this is complex and the IRS might audit the transaction due to the complexity. Play it safe and pay someone $500-1,000 to get this done properly. The peace of mind will be worth the money.

Cheddar Stacker

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Another thing I'm confused about: the second property (the one we just sold) was in a different state from our residence. Are the proceeds in any way considered income from that state?

YES. You should have been filing an income tax return in that state from the moment you purchased that property. The gain will be taxable there.

MDM

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The above bold statement is very likely not true. I understand why MDM would say it based on the facts presented, but (s)he's likely either not familiar with 1031 exchanges or one of us isn't understanding your facts properly. 1031 exchanges are complex, so I'm not surprised.

I do agree with Cheddar Stacker's caveats, and the example provided is great.  As noted, "Lots of ifs above, so if any aren't true then the conclusions won't be correct."  If you do have a loss on this year's sale (the way the IRS figures it) you won't need estimated tax (based on your withholding statement) - but if you have a gain (the way the IRS figures it) you might need estimated tax.

You have a year to figure this out.  If you want to learn enough about depreciation and rental sales, you probably could.  If you have better things to do, then there's no shame in having a CPA do your taxes again.

OzzieandHarriet

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Another thing I'm confused about: the second property (the one we just sold) was in a different state from our residence. Are the proceeds in any way considered income from that state?

YES. You should have been filing an income tax return in that state from the moment you purchased that property. The gain will be taxable there.

We have been filing returns from that state since we bought the property, so we have been paying income tax on the rental income.

Thanks for validating my feeling that I need to hire someone to do this. We had been using an accountant we liked for about 10 years, but then she retired and the firm she referred us to was much more expensive so I did the taxes myself the past two years since TurboTax seemed to work (i.e., the results were comparable to what the accountant had been doing).

The total estimated tax suggested by TT was roughly what I was thinking we would owe. The main part that confused me was the state tax estimate.

OzzieandHarriet

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I found this:

http://www.ambarfinancial.com/calc.php

It came up with the number for federal that I had figured. Probably not precise, but gives an idea, at least.