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Hey guys,
Correct me if I'm wrong, but for paltry amounts there is no tax on inheritance, right? If someone's mom dies and left her three children her house, then they rent it out for a while, and now one of them is going to buy out the other two, the money these two receive is inheritance money and not taxable, right?
Thanks,
RB
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the money these two receive is inheritance money and not taxable, right?

It not that easy. What is awhile?

The estate was below the amount required to file an estate return and pay inheritance tax, that much is easy.

The inherited value of the property was established at the time of death.

If awhile started before 2012, tax returns have been filed for the rental income and depreciated. Which means that the cost basis of the property was determine to file income.

There are a number of possibilities: recaptured depreciation, and capital gain or loss.
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If someone's mom dies and left her three children her house, then they rent it out for a while, and now one of them is going to buy out the other two, the money these two receive is inheritance money and not taxable, right?

Wrong.

The inheritance was the 1/3 interest in the house. They are now selling their 1/3 interest to their sibling. Seeing as it was used for rental, it's business property, so any gain on the sale will be taxable. If there's a loss, it's going to be disallowed because the sale is to a related party.

--Peter
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If there's a loss, it's going to be disallowed because the sale is to a related party.

--Peter


Even if the property is sold at market value?
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It's been about 4 years since she died.
So whatever amount the house was depreciated as during the rental period needs to be added back to income to pay taxes on?
Then does this mean claiming depreciation on a rental is pointless in the LONG RUN? That all doing that does is DELAY tax liability?

Thanks,
RB
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Thanks Peter, that unfortunately makes sense.
Bummer about disallowing a loss, even if it's on the up and up, if it's to a related party. Can't they prove that the transaction was at FMV and thus not a scheme? I mean, I could see it if the price was absurdly low that they would disallow it, but if it's FMV then it seems legit. But the related party thing is set in stone?
Thanks,
RB
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Peter,
Just found out some more info. The ESTATE was renting the house, not the 3 siblings. The estate is going to be closed out and THEN the 2 siblings will sell their shares to the other.
So that could mean it's inheritance income, no?
Thanks,
RB
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It's been about 4 years since she died.
So whatever amount the house was depreciated as during the rental period needs to be added back to income to pay taxes on?
Then does this mean claiming depreciation on a rental is pointless in the LONG RUN? That all doing that does is DELAY tax liability?

Thanks,
RB


Depreciation is REQUIRED to be taken. It is still calculated, even if not deducted.

For appreciating assets, yes. Many assets that are depreciated are assets that lose value.
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So that could mean it's inheritance income, no?

No
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Even if the property is sold at market value?

Yes. The related party rules apply even if the transaction is at a market value.

--Peter
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It's been about 4 years since she died.
So whatever amount the house was depreciated as during the rental period needs to be added back to income to pay taxes on?


Sort of. Your basis in the property is it's FMV on the date of death. That basis will be decreased by the depreciation allowed (or allowable) over the last 4 years. You'll figure any gain or loss from that figure.

Then does this mean claiming depreciation on a rental is pointless in the LONG RUN? That all doing that does is DELAY tax liability?

Sort of. Usually, delaying income taxes is a good thing. You get to keep the tax money in your pocket and potentially use it to generate income.

In the case of real estate, there's another benefit. The depreciation is a deduction against ordinary income. That ordinary income will be taxed at rates up to 35% (or now 39.6% in 2013 any beyond). But when you pay taxes on any gain, the tax rate on the portion of the gain that is attributable to depreciation taken has a maximum tax rate of 25%. So you could potentially save upwards of 10% in taxes through depreciation.

--Peter
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So that could mean it's inheritance income, no?

Nope. Doesn't change a thing in my first post.

--Peter
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Have you been receiving annual K-1's from the estate?
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"Have you been receiving annual K-1's from the estate?"

Yes. Oddly, the first ones had no taxable income and now the one for 2012 does. I plan on calling the CPA to find out why. Personally, I don't think he knows exactly what he is doing!
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Yes. Oddly, the first ones had no taxable income and now the one for 2012 does. I plan on calling the CPA to find out why. Personally, I don't think he knows exactly what he is doing!

Just because taxable income is different doesn't mean that the CPA doesn't know what he is doing.

The simplest explanation maybe that the rent has increased. There may have been repairs or other non-reoccuring expenses that aren't depreciated.
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Yes. Oddly, the first ones had no taxable income and now the one for 2012 does. I plan on calling the CPA to find out why. Personally, I don't think he knows exactly what he is doing!

Just because taxable income is different doesn't mean that the CPA doesn't know what he is doing.

The simplest explanation maybe that the rent has increased. There may have been repairs or other non-reoccuring expenses that aren't depreciated.


That's not the simplest explanation. An Estate is not a pass-through entity. It only issues K-1s when there is a distribution of cash or property to the beneficiary and/or in the final year of the Estate.

If the executor elected not distribute anything to the beneficiary, any income would be taxed at the Estate level. In years when distributions occur, the income is distribtued to the beneficary to the extent that cash/property was received and taxed at the beneficiary level.

Ira
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If the executor elected not distribute anything to the beneficiary, any income would be taxed at the Estate level. In years when distributions occur, the income is distribtued to the beneficary to the extent that cash/property was received and taxed at the beneficiary level.

Ira


Your explanation is a better reason.
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I plan on calling the CPA to find out why. Personally, I don't think he knows exactly what he is doing!

Being a CPA doesn't guarantee that he knows taxes, but there is nothing that you have said that gives the impression he doesn't know what he is doing.

As you are finding out, estates aren't trivial to handle.
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The inheritance was the 1/3 interest in the house. They are now selling their 1/3 interest to their sibling. Seeing as it was used for rental, it's business property, so any gain on the sale will be taxable. If there's a loss, it's going to be disallowed because the sale is to a related party.

--Peter


Does this apply if the house was not rented? Having a bear of a time selling Dad's house. He died over a year ago. Unfortunately, the value it was inherited at is less than what he paid for it.

IP
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Does this apply if the house was not rented? Having a bear of a time selling Dad's house. He died over a year ago. Unfortunately, the value it was inherited at is less than what he paid for it.

The related party rules take precedence. It doesn't matter what the property was used for. Note, however, that the comparison is between the value at the date of death and the sale price. The price that Dad paid for the house is no longer relevant.

Ira
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Does this apply if the house was not rented? Having a bear of a time selling Dad's house. He died over a year ago. Unfortunately, the value it was inherited at is less than what he paid for it.

IP


Loss on a personal residence isn't deductible.
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Note, however, that the comparison is between the value at the date of death and the sale price. The price that Dad paid for the house is no longer relevant.

Yes, which will actually be a potentially negative impact for us. Step down in basis this time around.

IP
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Loss on a personal residence isn't deductible.

Sorry I wasn't clear. We may wind up "making" money on the sale of asset only because of a step down in basis. Or we may lose more. Who knows. I'm just wondering what the impact of the sale of Dad's house dragging out endlessly will be. The executrix has been making noises about renting the place, but it sounds as thought that would be an issue on so many fronts. Wondering how much I should object.

IP
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Does this apply if the house was not rented? Having a bear of a time selling Dad's house. He died over a year ago. Unfortunately, the value it was inherited at is less than what he paid for it.

IP

Loss on a personal residence isn't deductible.


Yes, but if the house was inherited and not used by the beneficiary (or family member) as a principal/secondary residence, I would argue that the house is investment property. If sold to an unrelated party, a loss would be a deductible long-term capital loss.

Ira
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Yes, but if the house was inherited and not used by the beneficiary (or family member) as a principal/secondary residence, I would argue that the house is investment property. If sold to an unrelated party, a loss would be a deductible long-term capital loss.

Ira


Thanks Ira!

IP
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I'm finally back at a computer and see you've pretty much got your answer. For the record, I agree with Ira - if no one has used the house since the date of death, I'll treat it as investment property and take a loss.

Often, that loss is roughly the selling expenses, particularly when the house is sold promptly. (Which, I realize, isn't your situation.)

--Peter
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Sorry I wasn't clear. We may wind up "making" money on the sale of asset only because of a step down in basis. Or we may lose more. Who knows. I'm just wondering what the impact of the sale of Dad's house dragging out endlessly will be. The executrix has been making noises about renting the place, but it sounds as thought that would be an issue on so many fronts. Wondering how much I should object.

IP


It may be time for a heart to heart talk with the executrix. There are areas where property is difficult to sell. Unless it is in a very hard hit area, it should sell.

You may have posted your relationship with the executrix, but I don't remember. It is likely she is a close relative. The emotion of selling the property for less than your father paid for it maybe keeping the property from being realistically priced. Property from estates can have a worn look and not show well. Property that has been on the market too long gets a bad reputation.

What is selling in the area? zillow.com may give you that information.

Has the property been cleaned and staged?

Is the pricing realistic for market and condition?

Do you need a different real estate agent?
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The limited amount of money we might see from the house is not worth wrangling over the property with Sis. It was like pulling teeth to get her to get liability insurance on the property, which was not worth wrangling over for us after all. Allstate tells me our umbrella policy would cover us, though my other siblings were not. The property is quite rural, quite small, but in decent shape. The area is very depressed. I am not even tempted by it.

I just don't need her actions to place us in a tax position that will impact us negatively. I also need to get her off of our will if something happens to us before the boys are old enough to handle their own funds. Guess I'll have to hire a lawyer to deal with the estate and their funds.

IP
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The property is quite rural, quite small, but in decent shape. The area is very depressed. I am not even tempted by it.

IP


Would it be possible to just disclaim your interest in the property and walk away?
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Would it be possible to just disclaim your interest in the property and walk away?

I guess, but that would certainly cost me more money than any taxes imposed on me by handling the disposal of the house in a less than optimal way.
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"Just because taxable income is different doesn't mean that the CPA doesn't know what he is doing."

Update: here's what he's telling us now. The Estate is selling the house to the one sibling and then the estate is passing on the sale funds to the other two siblings. Thus they can take a loss on the sale of the house even though it is being sold to a relation.

I could be wrong, but I just get a gut feeling this guy is shooting from the hip just to help his client (the sibling being sold the house). The sibling is selling it to his brother and sister at a certain price and part of his pricing of the house is convincing his brother and sister that it's better than it sounds because they can take a big loss.

But if the ESTATE is selling the house, then why would they get to take a loss at all since THEY are not selling the house? Is the Estate passing the loss through?

Also, the CPA has "valued" the house at a price that we think is terribly inflated. I put "valued" in quotes because I suspect another seat of the pants shenanigans and not an actual appraiser. They supposedly have a document of some kind, which I'm going to insist on seeing. Does it HAVE to be from an appraiser, or are other methods allowable?

I'll call the CPA on Monday and talk to him directly.

RB
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Also, the CPA has "valued" the house at a price that we think is terribly inflated. I put "valued" in quotes because I suspect another seat of the pants shenanigans and not an actual appraiser. They supposedly have a document of some kind, which I'm going to insist on seeing. Does it HAVE to be from an appraiser, or are other methods allowable?

I'll call the CPA on Monday and talk to him directly.

RB


His office might not be open on Monday. It is a federal holiday.

I don't know about the Estate being a separate entity. To me it doesn't pass the sniff test, but that is only a personal opinion.

Asking to see what the appraisel is based is reasonable, and you should have a copy.

Is the sale price acceptable to you? If it isn't, then that should be addressed separately from the value for the estate.

If it is, you can ignore the tax advice from the CPA. You don't have to take the deduction. It would be 2013 transaction. You have time to decide how much if any of the "loss" to deduct.
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