Previous primary residence rental. Renovations and taxes

Tax, SDIRAs & Cost Segregation
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Previous primary residence rental. Renovations and taxes

Andy Nanneman
Member since 2019 · 8 posts · 0 votes

I have a paid off home I have lived in since 2011. I recently moved to another residence. I would like to turn the older home into a rental property (if the numbers make sense). It is in an area that is experiencing considerable development, and I believe the home will be worth more in the 5-10 years. However, it is an older home (~120) and needs some renovations. So here are the factors I am considering. Please let me know if I am making an error or missing an important factor.

  • Capital Gains Exemption: must have lived in the house for 2 of the last 5 years. So if I sell by 9/22 I can avoid capital gains. If the tax savings is considerable relative to the annual rent income and appreciation rate it would make more sense to try and fix the house up a bit and sell.
  • Renovations prior to rent. Before the house is ready for the rental market it likely needs some renovations. If these get expensive I understand you can depreciate it over the years of renting. However, would that void the possibility of the capital gains exemption for primary residence?
  • Repairs can be deducted from the annual tax year. So if I spend x thousands making repairs I can avoid paying taxes on x thousands of rental income. That means rushing to make repairs and getting a tenant in for November or December might not be worth the rush. Can I spend money now and deduct the expenses from the 2020 tax year? Or do I need to wait until after January 1?
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  • Wayne Brooks
    Real Estate Professional · West Palm Beach, FL · Member since 2012 · 23k+ posts · 13k+ votes
    7y

    Both repairs and expenses Before it is in service/ready for a rental are both capitalized/depreciated.  After it is rented, repairs are deductible, improvements get capitalized.

    As for renting and depreciating it just shy of 3 years before selling....no this does not affect your cap gains exemption, but of course you’ll have taxes for the depreciation recapture when you sell.

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  • Ashish AcharyaBusiness Member
    CPA, CFP®, PFS · FL · Member since 2017 · 5k+ posts · 3k+ votes
    7y
    Originally posted by @Andy Nanneman:

    I have a paid off home I have lived in since 2011. I recently moved to another residence. I would like to turn the older home into a rental property (if the numbers make sense). It is in an area that is experiencing considerable development, and I believe the home will be worth more in the 5-10 years. However, it is an older home (~120) and needs some renovations. So here are the factors I am considering. Please let me know if I am making an error or missing an important factor.

    • Capital Gains Exemption: must have lived in the house for 2 of the last 5 years. So if I sell by 9/22 I can avoid capital gains. If the tax savings is considerable relative to the annual rent income and appreciation rate it would make more sense to try and fix the house up a bit and sell.
    • Renovations prior to rent. Before the house is ready for the rental market it likely needs some renovations. If these get expensive I understand you can depreciate it over the years of renting. However, would that void the possibility of the capital gains exemption for primary residence?
    • Repairs can be deducted from the annual tax year. So if I spend x thousands making repairs I can avoid paying taxes on x thousands of rental income. That means rushing to make repairs and getting a tenant in for November or December might not be worth the rush. Can I spend money now and deduct the expenses from the 2020 tax year? Or do I need to wait until after January 1?

     However, would that void the possibility of the capital gains exemption for primary residence?

    - It’s not going to void any thing just as making renovation to you primary residence doesn’t void sec 121. 

    Can I spend money now and deduct the expenses from the 2020 tax year? Or do I need to wait until after January 1?

    Repairs done before renting is personal in nature. However, if you do some improvements, those gets added to the basis and will be depreciated. The tax implication of improvements is same before or after renting. You get to depreciate either way. 

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  • Andy Nanneman
    OP
    Member since 2019 · 8 posts · 0 votes
    7y
    Originally posted by @Wayne Brooks:

    Both repairs and expenses Before it is in service/ready for a rental are both capitalized/depreciated.  After it is rented, repairs are deductible, improvements get capitalized.

    As for renting and depreciating it just shy of 3 years before selling....no this does not affect your cap gains exemption, but of course you’ll have taxes for the depreciation recapture when you sell.

    Thanks for the info! I read up a bit on renovations and how they are
    capitalized. It looks to be as simple as I spend 20k on a reno it adds
    20k to my cost basis? If that is the case what happens if you do some
    work yourself. For instance it may cost 20k for a contractor to do a
    project but the home owner 10k in materials and 50 hours? I'm just
    throwing out numbers to clarify my question. Thanks again. 

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  • Andy Nanneman
    OP
    Member since 2019 · 8 posts · 0 votes
    7y
    Originally posted by @Ashish Acharya:
    Originally posted by @Andy Nanneman:

    I have a paid off home I have lived in since 2011. I recently moved to another residence. I would like to turn the older home into a rental property (if the numbers make sense). It is in an area that is experiencing considerable development, and I believe the home will be worth more in the 5-10 years. However, it is an older home (~120) and needs some renovations. So here are the factors I am considering. Please let me know if I am making an error or missing an important factor.

    • Capital Gains Exemption: must have lived in the house for 2 of the last 5 years. So if I sell by 9/22 I can avoid capital gains. If the tax savings is considerable relative to the annual rent income and appreciation rate it would make more sense to try and fix the house up a bit and sell.
    • Renovations prior to rent. Before the house is ready for the rental market it likely needs some renovations. If these get expensive I understand you can depreciate it over the years of renting. However, would that void the possibility of the capital gains exemption for primary residence?
    • Repairs can be deducted from the annual tax year. So if I spend x thousands making repairs I can avoid paying taxes on x thousands of rental income. That means rushing to make repairs and getting a tenant in for November or December might not be worth the rush. Can I spend money now and deduct the expenses from the 2020 tax year? Or do I need to wait until after January 1?

     However, would that void the possibility of the capital gains exemption for primary residence?

    - It’s not going to void any thing just as making renovation to you primary residence doesn’t void sec 121. 

    Can I spend money now and deduct the expenses from the 2020 tax year? Or do I need to wait until after January 1?

    Repairs done before renting is personal in nature. However, if you do some improvements, those gets added to the basis and will be depreciated. The tax implication of improvements is same before or after renting. You get to depreciate either way. 

    Thanks! Because repairs prior to renting are non deductible and renovations are depreciated over years it seems there is no timing issue with spending money in the final months of 2019 when I might get little to no rental income until 2020.  Thanks for the info.  

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  • Wayne Brooks
    Real Estate Professional · West Palm Beach, FL · Member since 2012 · 23k+ posts · 13k+ votes
    7y

    @Andy Nanneman No, you can’t deduct/write off your own labor....only actual money spent.

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