What should I use as my cost basis? Inherited rental property...

Question

Parents built a house in the 80s and just built as they went - no record of what they paid. Parents deeded over property my sister and I in 2013. I renovated and started renting out 33% of the house in 2014. I have thus far not claimed any depreciation on this property but don't foresee ever selling it so that's not really an issue.

From what I've read, my cost basis is their cost basis which is the lesser of fair market value or cost + improvements. Since there's no way to know cost + improvements as they never kept a record, what do I do? I'm fine with with a super conservative estimate since something is obviously better than nothing, but don't even know where I should start?

Paul Caputo · Answer

@Ricky Stafford Wow that's a tricky one! Since they built it in the 80's bit by bit I'm guessing there's right around zero chance that their adjusted basis is higher than the FMV in 2013. So the FMV doesn't really matter but maybe you can use it to back up the reasonableness of what you figure out. You're going to have to estimate it in good faith and just go with that.

With the lack of records there's really no way for you, your parents or even the IRS to know what the actual cost basis is on the property. So there's really no way for you to get in trouble with the IRS on this unless your basis is deemed "unreasonable" so just be reasonable.

I'd take @Michael Plaks advice and estimate based on historical averages. As long as you figure it out in a way that makes sense you should be fine.

One thing on the depreciation though, definitely do not amend your returns to take depreciation as thats a red flag and the improper way to adjust depreciation. File Form 3115 instead since it doesn't require amending, you can file it at any time and you'll get your catch-up depreciation credited to your taxpayer account within 30 days. Since you're only renting out 33% of the house this isn't going to be a big amount of depreciation anyway, but if you ever do sell it's much better to have taken it than not because there's recapture either way.

Dave Toelkes · Answer

If your parents are still alive, can you ask them what they paid for the property and for the construction?

Ricky Stafford · Answer

Yes, it was certainly a gift. Thanks for the tip @Lance Lvovsky Any other ideas on how I should go about determining a cost basis when there's basically nothing to go by except perhaps performing a present value calculation based on inflation?

Michael Plaks · Answer

@Ricky Stafford

Use historical median price table from here. It goes back to 1990 - close enough. Apply the same ratio to the current value of the house to reconstruct a reasonable basis.

Ashish Acharya · Answer

@Ricky Stafford

What do you mean by “I have thus far not claimed any depreciation on this property but don't foresee ever selling it so that's not really an issue”

So you have not claimed any depreciation since 2014 ?

You should claim depreciation even though you don’t sell. Depreciation expense is one of the major reason people invest in Rental. It’s a phantom expense that eats your income and shelters from tax.

And, looks like it was gifted ? You said inherited.

If truly inherited, your basis is FMV. So, is I was appraised when it was inherited, that is your basis. If not appraised, look for the comps for that year.

You could also chose to wait after 6 moths after the death when it was passed on to you . This is beneficial IF the value of the house appreciated in 6 months.

What should I use as my cost basis? Inherited rental property...

What should I use as my cost basis? Inherited rental property...

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