Do Co-owners Have to Deduct Expenses 50/50?

[Rick S.]

A partner and I own a rental SFR as Joint Tennants with 50% ownership each. In the past we have split all income and expenses evenly and claimed them 50/50 on each years tax returns. We sold the property in 2017 and split the proceeds 50/50. However, my partner paid $20k more in selling expenses than I did. Can she claim more than her 50% share of selling expenses on her 2017 tax return, or must we each claim 50% regardless of who actually paid for it?

I found this excerpt in IRS Pub 527, but it refers to rental expenses, and not sales expenses...

Part interest.

If you own a part interest in rental property, you can deduct expenses you paid according to your percentage of ownership.

Example.

Roger owns a one-half undivided interest in a rental house. Last year he paid $968 for necessary repairs on the property. Roger can deduct $484 (50% × $968) as a rental expense. He is entitled to reimbursement for the remaining half from the co-owner.

It sounds like the IRS forces income and expenses to be divided according to ownership percentages, but since I am not a tax expert, I thought I would ask a CPA here on BP. Thank you for any help.

[Michael Plaks]

@Rick S.

Full discussion of various issues in your situation could be really long, and it's best addressed in a private consultation with a tax expert. I will give you something to start from, but it's not a complete answer. 

Based on your description, I assume that you were not filing a partnership return for the property. Probably you were each reporting 50% of rent income and 50% of expenses, and hopefully you were actually splitting income and expenses 50/50. (If not - then it's a major mess, best left for professionals to untangle.)

Under this scenario, here is how you should have handled the sale:

1. From the sale proceeds, reimburse each other for your respective contributions to the closing costs.
2. Whatever is left - split 50/50.
3. For taxes, each of you will report half of the sales proceeds, adjusted for the combined closing costs.

If you can go back and do it this way - your economic parity will be intact, and so will be your tax reporting. If it's too late to adjust - then, again, you will have what I will label a mess. Not just for taxes, but for basic fairness. It's possible to compensate for on taxes (not economically, though), but it requires a tax professional.

Additional complications will arise if the sale was reported by your tittle company 100% under one of your SSNs, as opposed to 50/50. I bet that this IS how it was reported. The IRS will think that one of you received 100% of the proceeds, while you actually received 50% each. Once again, a problem that can be addressed by a tax professional who knows real estate.