Selling a rental property falls under different taxation rules than selling your primary home. When you sell a rental property, it is considered the sale of a business asset and treated differently. You must report the sale to the IRS, and it is critical to know what to report and where to report it.
What to Report
Rental properties are considered investments or business assets. It is treated like the sale of stocks, ETFs, or business equipment. You must pay capital gains taxes on the property sale.
You must report two types of income gains from your property sale. The first is capital gains from the actual sale. To calculate this, you must determine the cost or basis of the property at the time you purchased it. Then you must subtract this from the sale price. You can deduct any expenses for improvements and depreciation of certain items from the amount owed. In some cases, you might have lost money and record a capital loss.
Another item you will need to report is depreciation recapture. When you owned the property, you received depreciation. This allowed you to spread the costs of purchasing or improving the property over its useful life. Depreciation reduced your tax burden in previous years. When you sell the property, you must repay this benefit. Depreciation recapture is typically taxed at 25%.
Where to Report Gains or Losses
Knowing where to report capital gains or losses on your rental property might not be as straightforward as other types of income. You have several choices of where to report capital gains and depreciation recapture from the sale of your rental property. You can report it on Form 4797, which is for the sale of business property. You can also use Form 8949, which is for the sale and other disposition of capital assets. You can also use Schedule D on Form 1040, which is for capital gains and losses. The business form determines which one applies to you. Some treat it as personal income, while others operate it as a separate business.
The rate at which capital gains and depreciation recapture will be taxed depends on your income tax bracket. The rate of taxation for capital gains also depends on whether you held the property for over or under a year. Short-term capital gains are taxed differently than long-term ones. Short-term capital gains are on assets that are held for less than a year, while long-term capital gains are on assets held for more than a year.
Many factors determine the tax burden for rental property sales and where to report it. Before you sell, it is important to understand how it will affect your tax burden. It is always good advice to seek the help of a tax professional who specializes in business taxes to ensure that you reduce your burden as much as possible and make sure you have met all the reporting requirements.
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice, meeting the particular investment needs of any investor. Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation.
