Consultant’s Corner: Tax Issues from Selling a Rental Property

Question: I’m selling a rental property. What kind of tax issues should I be preparing to deal with?

The taxable, or recognized, gain on the sale of a property will be the difference between the amount you realize on the sale and the adjusted basis in the property.

The amount you realize on the sale is the selling price less any selling expenses, like real estate commissions, for example.

Your adjusted basis in the property is your original basis, usually the acquisition cost, plus or minus any adjustments that increase or decrease basis. For example, certain settlement costs when property is acquired or sold and the cost of any property improvements, like additions, remodeling, landscaping, new roof, etc., are additions to basis. Costs that you have previously deducted as rental expenses are not additions to basis. Any depreciation expense claimed on the property decreases basis. Read IRS Publication 551 for details on Basis of Assets.

Gain recognized on depreciable investment real estate property held for one year or less are taxed at ordinary income tax rates for both federal and state tax purposes, which vary depending on taxable income. Gain recognized on depreciable investment real estate property held for more than one year is taxed for federal tax purposes at a 25% rate on any gain representing depreciation recapture, referred to as “unrecaptured Section 1250 gain,” and a maximum 20% long-term capital gains rate (based on the taxpayer’s marginal tax bracket) on any gain not attributable to depreciation recapture, referred to as “Section 1231 gain.” Also, gain recognized on investment real estate property may be subject to the 3.8% tax on investment income for federal tax purposes. The 3.8% tax on investment income is in addition to the ordinary income and long-term capital gains taxes. Long-term capital gains are also taxed on the state level at varying rates.

Learn more about Capital Gains and Losses from the IRS.

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