From a reader:

Subject: Q Sale of principal residence in 2013 which was rental property from 1986 t0 2002 – Do we have to recapture depreciation and pay capital gain on depreciation

Hello Mr. Kerstetter:

We have recently moved to a new area after the sale of our principal residence. Not knowing a lot of people in this area, I have tried to find someone who knows for sure if we will owe capital gains on the sale of our single family home, which we occupied from 2003 thru 2013. The home was a single family rental from 1986 to 2002, on which we took S/L depreciation.

I have asked potential tax preparers if they know the answer, and they have given a variety of answers, from “you will owe nothing as you sold for under $250,000 and you lived in it for 2 out of 5 recent years”, etc. Others indicate they will have to research the answer. As you are the tax guru, we would appreciate your view since we want to file tax return correctly by April 15th.

Thank you for your anticipated reply.

My reply:

Actually, the law is fairly explicit on this issue.

Any depreciation you claimed after May 6, 1997 will have to be recaptured and reported as income on your tax return.
The rest of the gain will be tax free.

Good luck.  I hope this info helps.

Follow-Up 1:

Mr. Kerstetter:

Thank you for your quick reply. From what I had read, I thought this might be the answer, but could not get a definitive answer from potential tax preparers, who I now hesitate to hire. Do you think I could accomplish an accurate return using Turbo Tax on my own? (I have used Turbo Tax in “uncomplicated years” previously.)

I called the I.R.S. for clarification last week and was on hold for 1 1/2 hrs — no one ever picked up the line.

My Reply:

I have never been a fan of DIY tax programs, except for the most basic 1040-EZ type of tax returns.  If any other schedules or forms are needed, such programs are actually dangerous.  It’s similar to giving you a scalpel and a copy of a medical book and assuming you can perform surgery on yourself or on a loved one.

DIY tax programs are the best illustration in the world of the old adage for computers, GIGO (Garbage In, Garbage Out).  Even the most expensive tax programs, such as the one I use (Lacerte), can’t do the job on their own.  They require knowledgeable users who know how to enter data properly to prepare a correct tax return with the lowest legal tax.

Any experienced preparer should be able to help you reduce your taxes by more than what his/her fee is, in addition to reporting the recapture gain properly.

In regard to locating a good tax preparer, you should check out the tips I have on my website.   You can also quiz potential preparers with the recapture rule we have been discussing.  It’s been the law since May 6, 1997; so anybody in the tax business should know it and have actual real world experience working with it.  If not, you should find someone else.

Good luck.

Kerry

Follow-up #2:

Hello Mr. Kerstetter:

Thank you for your reply to my question. You would be surprised at the answers I have rec’d from potential preparers. After explaining my situation, I have asked “have you had to deal with this type of situation before?” and none of the respondents have said “Yes”.

I will visit your website as suggested, and will look for a preparer in this area I feel is competent.

Thank you again.

My final comment:

Actually, I am very surprised that so many preparers haven’t had to work with a provision of the tax code that has been in place almost 17 years now.

Maybe it’s because real estate taxation has been a kind of specialty for me; but I have seen it in tons of client cases; not just for converted rentals, but also for home office situations.

Good luck in locating a new experienced professional preparer.

Kerry