Years ago, I purchased my first primary residence with my (then) girlfriend. We each paid 50% of the down payment, each paid 50% of the mortgage and any improvements. We split everything equally. A few years later we split up, she wanted out, I wanted to "buy" her share of the property. I refinanced the mortgage in my name only, she signed quitclaim deed, I paid her what she and I agreed was fair for her share.
Fast forward a few years, the property is now a rental and I need to calculate my adjusted cost basis.
My intuition is that my adjusted cost basis is 50% of our adjusted cost basis when we were joint tenants, plus what I paid her, plus 100% of eligible improvements since then.
Do I add what I paid her? She wasn't paid in escrow. Does that matter? What record keeping is required if I wrote her a check or or paid off her credit cards and/or student loan?
Does the IRS base the answer to this question on what we intended to do, or what we did?
Are there additional details needed to answer this question?
This is one of a number of RE tax questions I have. I'll ask them in separate posts so others can learn from my mistakes...:)
Thanks in advance for any input.
Let's put some numbers to this for an example. Let's say you bought it originally for $100k, then you each would have $50k cost basis. If you just buy out her $50k, then your basis should be $100k.
Let's say it appreciated to $120k and you had to pay her her half ($10k additional) to get out, then I'd say your basis is $110k, your original $50k, the $50k assumption of her debt (considered proceeds for tax), plus the $10k you paid her for appreciation. (She may have to recognize gain on that).
Additionally, some of your closing costs and the capital repairs should increase basis.
Another consideration, when a primary residence is converted to a rental, the depreciable basis is the lesser of the FMV at the time of conversion, or your adjusted basis.
Hope that makes sense.
I should add that I'm filing an extension for 2015, and will be looking for a CPA after 4/18 to help sort this out in gory detail. I'm posting these questions for the benefit of others that find themselves in my position, for my own understanding, and to help pay an appropriate amount in estimated taxes.
Thanks for your response. While your example makes sense, and is consistent with my understanding, it doesn't answer my primary questions.
Adding to your example:
Let's say in 2000 we purchased for $100k, with 20% down, $80k mortgage.
Around 2004 she wants out.
She and I decide if we sold she'd probably clear ~$20k after expenses if we sold, so we agree I'll pay her $20k for her share of the property. We're clueless about concept of cost basis or tax implications, so $20k isn't paid out in escrow. In fact part of the $20k is in the form of me paying off her student loan.
Let's say FMV is probably ~$160k in 2004. I do a cash-out refinance in my name only, she signs quitclaim in process. Funds from cash-out refinance are wired to our joint bank account as I recall.
I'm not sure which details are relevant. Do I add the $20k I paid her? If so, does the fact she wasn't paid in escrow a problem? What documentation do I need to support the payment? To complicate matters, she possibly didn't report the funds received or the sale of her (share of) her primary residence on her tax returns. Since we were sloppy, did she inadvertently "gift" me her share of the property, and I inadvertently "gifted" her whatever I "paid" her?
On the other hand, does it not matter what, or how, I paid her, and what matters is only what the documents state or imply? For example we paid county transfer tax. I guess there was an assumption that the cash out portion went to her?
I'm aware that improvements and some closing costs are added to basis. I have no questions on those for now.
Yes, I'm aware that depreciable basis at time of conversion is lesser of two values. I'm actually concerned with nailing down the adjusted cost basis once and for all since I sold the property in a 1031 exchange last year.
Thanks again for any input.
@Account Closed a lot of this is going to depend on how you documented the sale. The facts are:
- You went 50/50 on a house worth $100k. This means you each have a basis of $50k
- When you bought her out the property was worth $160k, making each of your basis' $80k.
- You gave her $20k consideration for her 50% share (worth $80k excluding mortgage assumption).
The sales documentation will need to be reviewed as it will tell us what you valued her cost basis in the property as.
Additionally, we have the question of: who held the mortgage initially and was it split 50/50? You say you split the payment, but did you split the actual note?
Assumption as debt is treated as an increase in cost basis. Hypothetically, if you assumed 50% of her debt (let's call it $50k for ease) and paid her $20k on top of that, your basis will be your initial purchase, plus $70k ($20k + $50k), plus closing costs, improvements, etc.
Thanks for you input.
The property was our primary residence for the entire time before I "bought her out", so no deprecation would have been taken.
FMV was low when I put the property into service as a rental. What I calculated for adjusted cost basis was very close to FMV. If I underestimated my basis calculation, not much harm was done (I hope/think).
My understanding is the basis I used for depreciation will be different than my adjusted basis on form 8824, since the later will include land? It seems a good time to correct any error in how I calculated my adjusted cost basis in the property.
@Brandon Hall :
Thanks for your input. I can see why you're requested to comment on so many discussions...:)
We didn't document the funds I gave her at all...:( That's probably the portion of this thread to benefit others - "learn from my mistake".
We were both on the original mortgage, and yes it was split 50/50, so yes I assumed her debt. I paid her the $20k (in our fictional example) for her share of the equity in the property - or so we were thinking.
The funds she received mostly came from a cash-out refinance, with the proceeds probably going into our joint bank account - in case that's relevant.
I'll look up the title docs from the transaction, but I think she just signed quitclaim, with no mention of "purchase" or funds exchanged...:( Again fellow BP community, learn from my mistake.
I'm still not sure what bad news may come, but the good news I guess is that in any case I may have slightly under-estimated my adjusted cost basis since I didn't incorporate the debt I assumed...
Thanks again for your comments everyone.
@Account Closed if you assumed her debt and paid her out, then the combination of those is essentially added to your 50% share of the cost basis.
So your cost basis is: $50k (from original purchase price) plus $70k ($50k from debt assumption and $20k payoff) = $120k. Now compare that to the FMV at the time the property was advertised for rent (ideally and appraisal was performed, but not 100% necessary). the lesser of the FMV or $120k is your basis in the rental. Then you divide the basis between improvement and land values to determine depreciable basis.
Improvements and closing costs will take a bit more calculating.
I sold the property we're discussing in 2015 in a 1031 exchange. That explains the timing of my question. I want to make sure the correct basis is carried to the replacement properties (Yes, multi-asset, topic for another discussion).
The property was put into service as a rental in 2011. The basis I calculated and used was very close to FMV. If anything, I took slightly less depreciation in previous years returns than I should have. Hopefully no significant damage was done.
The fact that I will be adding the debt I assumed to my adjusted cost basis is helpful. I assume that would be 50% the principle balance at the time the joint mortgage was paid off. I'm still not clear how what I paid her will shake out since it may not have been properly documented. Lesson learned there.
I have enough information to use TurboTax to file an extension for now. I've been using TurboTax for years, but it's clear it's time to hire a professional. I expect to be looking for a CPA to be filing 2015 taxes with...:)
Thanks again for your comments.
When you are figuring out your depreciation on the replacement properties, The adjusted basis in your relinquished property (let's call it OLDBASIS) is transferred to the new properties and is depreciated on the remainder of the relinquished property depreciation schedule.
In the event that you brought money (cash and/or new debt) to the settlement table to complete the replacement property acquisition, you divide the new money between the replacement property land and dwelling structures. The portion of the new money allocated to the dwelling structures (let's call this NEWBASIS) is depreciated separately from OLDBASIS on a new 27.5 year depreciation schedule.
Putting all this in an example: Let's say that you had $80K of OLDBASIS in the relinquished property and 22 years left on the depreciation schedule. the OLDBASIS transfers to the replacement property, and the OLDBASIS is depreciated over the 22 years left on the depreciation schedule. Let's say that your replacement property purchase was $45K more than the net proceeds from the relinquished property sale proceeds. This $45K in NEWBASIS is allocated between the land and dwelling structures. Let's say the tax assessors replacement property tax assessment values the replacement property land at about 20% of the total value of the replacement properties. Apply 20% of the NEWBASIS to the land and the remainder to the improvements. This means that your NEWBASIS for the dwelling structures is $36K, and will be depreciated on a new depreciation schedule for 27.5 years.