Converting a vacation home to a rental property

[Brandweins]

I purchased a rental property 2 years ago and have now converted it to vacation home.  I use it myself for about a third of the time and rent it the remainder.  Am I required to recapture the deprecation I recognized while it was solely a rental property?  If so, how do I do that.

[Anonymous_]

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@Brandweins wrote:

Am I required to recapture the deprecation I recognized while it was solely a rental property?  

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No. There will be no recapture of depreciation until you dispose of the property to an unrelated third party in a fully taxable transaction.

[ColeenD3]

Not yet. You will do that at the time of sale. Keep all your information regarding the depreciation you have taken for the future.

[Carl]

You don't recapture it yet. But you "may" need to "account" for it now. I assume as a rental property you were reporting the rental income/expenses on SCH E.

So are you no longer reporting the same property as a short term rental on SCH E? (You meet the qualifications to report as a SCH C business maybe?) Or are you entering it as a completely new endeavor on SCH E?

[Brandweins]

I report it on Schedule E and Turbotax allocates expenses between rental and personal use.

[Brandweins]

My allocatable expenses exceed the rental revenue.

[Carl]

My allocatable expenses exceed the rental revenue.

Yes they do. They will most likely do that every single year the property is classified as rental real estate too. Here's how this works.

When you add up your deductible mortgage interest, property taxes, property insurance and then throw the depreciation you're required to take by law into the mix, those four items alone are usually enough to exceed your rental income. Then take into account your other allowed rental expenses (repairs, maintenance, etc) and you're practically guaranteed to operate at a loss "on paper" every year at tax time.

When your rental expenses get your taxable rental income to zero, then that's it. (Exception below). Any remaining expenses are just carried over to the next year where they can be deducted "if" you have the rental income to deduct them from (you won't). So with each passing year your "carry over" losses will just continue to grow.

You can't realize those losses until the tax year you sell the property. IN that year, all of your losses can be realized not only against the gain you may get on the sale, but also on your other "ordinary" income. (such as W-2 income)

EXCEPTION: If you "actively participated" in the rental activity, then once your rental expenses get your taxable rental income to zero, any remaining expenses up to a maximum of $25K can be deducted against "other" ordinary income, provided you actually have the "other" ordinary income to deduct it from. Any amount over $25 (or over the amount of your "other" taxable income) just gets carried forward to the next year.

If you do have any carry over losses to be carried over to the 2021 tax year, they'll be reflected on the IRS Form 8582. So if after you complete your 2020 tax return you find there is no form 8582, then you don't have any losses to be carried over. This would not be uncommon if you "actively participated" in the rental activity.

Per IRS publication 527 Chapter 3 page 13 here, You actively participated in a rental real estate activity if you (and your spouse) owned at least 10% of the rental property and you made management decisions or arranged for others to provide services (such as repairs) in a significant and bona fide sense. Management decisions that may count as active participation include approving new tenants, deciding on rental terms, approving expenditures, and other similar decisions.

[raven tang]

Hello, 

I have similar situation this year. but I applied bonus depreciation on my airbnb before. How do I adjust the depreciation table when I converting the short term rental to a long term in turbotax? 

thanks 

[PatriciaV]

No depreciation adjustment is needed if you now rent a prior short-term rental all year. Work through the property information and change your answers according to the current situation. Your business use percentage will in most cases now be 100%, which TurboTax will use to calculate depreciation on the remaining basis.

Note that bonus depreciation was claimed as a rental expense in a prior year. While your property basis was reduced by this election, you won't need the information until and unless you sell the property. Keep good records.

@raven tang 

[Carl]

No depreciation adjustment is needed if you now rent a prior short-term rental all year.

I'm concerned the above statement may be confusing to some.
If as an STR you qualified to report your STR income/expenses on SCH C, as a long term rental that typically gets reported on SCH E. On SCH C the property was depreciated over 39 years. Whereas on SCH E it's depreciated over 27.5 years.
You close the STR business on the SCH C. But keep a copy of that final SCH C as well as the IRS Form 4632 (both of the 4632's), as you will need it in later years when/if you die or you sell the property.
On the SCH E when working it through the assets/depreciation section, your total cost basis will be the original cost basis used on the SCH C, minus the total amount of depreciation already taken on the SCH C. Your land value on the SCH E will be exactly the same as it was on the SCH C, since land is not depreciated.