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Sale of an Inherited Investment Property (Residential or Commercial)
In 2010, Ethan inherited a four-plex investment property from his great aunt. She had used it for
many years as an investment rental property in San Francisco. At the time of her death, the adjusted
basis of the property was $10,000. During her period of ownership, she had taken $240,000 of
depreciation deductions on it. Its fair market value was $900,000 when she died. Because there was
no estate tax for 2010 and because carryover basis was in effect, Ethan’s basis in the inherited property
is also $10,000. Te prior depreciation allowances carry over to him, as well. He continues to use
the property as an investment rental property.
Ethan later sells the property for $1.2 million. He is single and reports Schedule C self-employment
income of $180,000.
Te tax applies as follows:
Gain on Sale
$1,190,000
($1.2 million – $10,000)
Depreciation Recapture
$240,000
(From great aunt)
Depreciation Recapture
$2,200
(Ethan — approximate)
Total Gain
$1,432,200
($1.19 million + total depreciation recapture)
Schedule C Income
$180,000
New AGI
$1,612,200
(Gain + Schedule C)
Excess over $200,000
$1,412,200
Lesser Amount
(Taxable)
$1,412,200
(AGI excess)
Tax Due
$53,664
($1,412,200 x 0.038)
If Ethan had inherited the property in a year when stepped-up basis was in effect,
his basis would have been $900,000. The capital gain in this example would have
been only $300,000. Ethan would not have been responsible for his great aunt’s
depreciation recapture amount. His own depreciation recapture amount would have
been based on depreciation allowances claimed on a basis of $900,000 rather than
$10,000. Thus, while he would still have been liable for the 3.8% tax, the amount of
tax would be substantially smaller.
NOTE:
Example 7