CPA Question on exit strategy

[Ginger P.]

Hello,

I've been searching for the answer to this question, but can't seem to find a solid answer - looking for a CPA who knows.

I purchased a SFH in 2014 with the intent to rent it out (which I have) and eventually tear it down and build a home on the lot for my personal residence. It's been rented since 2014 and the dirt has appreciated ~$150K. I know if I sell, I"ll pay long-term cap gains and depreciation recapture.

However, I'm interested to know if I develop and build a house on the lot then sell - how am I taxed - long-term or ordinary income? I no longer plan to live in this area, so moving into the new house is not an option.

Thanks,
Ginger

[Michael Plaks]

@Ginger P.

Good question, but there won't be a simple answer. Rather, it invites an extended discussion of various possible interpretations. 

The IRS position will most likely be this: you bought it for $100k and depreciated it down to $90k - which is your adjusted basis. Now you demo-ed it for $15k, so your new basis is $105k. You spend another $150k to build a new house, raising your investment to $255k. You sell for $300k, and your $45k profit is taxed as ordinary business income, plus self-employment tax.

As you can see, it is the worst possible result for you, which is why the IRS would go there. :)

I can see room for some creative tax planning here, but it would not fit in a short online post.