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Tax Planning/Basis for depreciation on rental real estate


QUESTION: Early in 2002 I purchase a home for $87,000 and took a mortgage for $91,000 (covering all purchase expenses). Shortly after moving in, I met my wonderful wife. We were married in late 2003. I could not sell the home to cover the mortgage and decided to rent it out. In figuring the basis for depreciation, I knew from some accounting classes in college that I'd have to separate the land value. At the time, my insurance company covered the home claiming that the cost to replace the structure would be $75,000. Also, the purchase appraisal assigned value to the land at $17,500. Without consulting a tax advisor, I decided to claim $75,000 for the basis. Thus far, it has not been an issue. However, lately I have been studying taxes and would like to eventually take the Enrolled Agent's exam. I believe that my application will trigger an audit and I'm trying to be proactive about complying with the tax regs, as well as acquire knowledge that'll help me in my possible new career. Do I have anything to worry about? What steps should I take if my value for basis is incorrect? It seems difficult to find a tax advisor who really knows his/her stuff when it comes to investment real estate and any help would be greatly appreciated!

ANSWER: Chris - Here's how we figure the basis for depreciation:  Look at your county's tax bill and find out the percentage of land value to improvement value.  Apply that percentage to the lower of the following - either your original value at the time of purchase or the FMV at the time the property was placed in service.

As to triggering an audit, that factor alone may or may not trigger an audit.  The rules state that the depreciation is "allowed or allowable".  You are going to have to go back to the original date of inception and calculate the CORRECT depreciation and then you should be back on tract for the open years and going forward.

I hope this helps.

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QUESTION: Do you have any suggestions for figuring the FMV at the time the property was placed in service? BTW, I really appreciate your help and hope to be able to pay it forward after I've received my EA license.

That far back is going to be hard to figure.  You may need to find a really good real estate appraiser that can do a timed appraisal, looking back.  You COULD use Zillow, but I have found from personal experience that Zillow is not very reliable.

I don't know if that helps or not, but FMV that far back will be difficult.

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As an Enrolled Agent, I am fully capable of providing tax advice as it relates to personal and business income taxes. Enrolled Agents are the only Federally licensed tax practitioners and are admitted to practice before all administrative functions of the IRS. My specialty is working with small business owners who file Schedule "C" and helping them to structure their business in such a way as to maximize as many tax advantages as possible. I also enjoy working with individuals who have both routine as well as complex tax situations. I prefer to concentrate on individuals and small business tax planning.


I have a 25 year background in financial services including tax, bookkeeping, insurance, real estate and securities. I was previously the Chief Financial Officer of a local and national franchise organization. I am currently semi-retired, but used to own (in partnership with another EA) an individual and small business financial engineering firm where I work with nearly 2,500 individuals and small business owners in nearly every state and almost every continent, assisting them in all aspects of their tax and financial well-being. I have prepared or reviewed more than 8,000 tax returns in my career.

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Enrolled Agent, Admitted to Practice Before the IRS, Accredited Tax Preparer, Fellow of National Tax Practice Institute, Certified QuickBooks ProAdvisor (1999-2011), Sleeter Group Certified QuickBooks Consultant, Life & Disability Insurance Agent License (California, Texas, Maine), Real Estate Agent License (California); Many years of continuing education in all these fields.

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