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-- Posted: May 16, 2000

Dorothy Rosen -- The Dollar Diva Ask the Dollar Diva

We're converting a rental to our primary residence

Dear Dollar Diva,
We have rented our condo for the past 10 years and have been depreciating it on our taxes. We expect to be moving into it and making it our primary residence. What do we do about the depreciation we've deducted in the past? Is there anything we should be doing before we move in that would make the tax transition easier?


You don't have a taxable event until you sell the condo. Take care of any repairs and maintenance issues before your tenants move out. Fixing leaks and having the carpets cleaned are deductible expenses as a landlord, but not as a homeowner.

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Of course, you can't depreciate the property when it's your primary residence, unless you use a portion as a home office. See the Diva's "Can I write off my home office?" if you plan to do that.

Will I be able to exclude the gain from the sale of the condo when I sell?

Even though you used the condo as a rental for a period of time, you should be able to exclude most of the gain if you live in it for the next two years. In order to exclude the gain on a principal residence, a taxpayer has to meet the following ownership and use tests:

  • Ownership test: You or your spouse has to have owned the residence for at least two years during the five-year period prior to the sale.

  • Use test: You have to have used it as a principal residence for at least two years during the five-year period prior to the sale. If it's a joint return, both spouses have to have used it as their primary residence. If only one passes the test, only half the gain is excluded.

What about the depreciation we already took?

Basis
The original cost of your condo, plus expenditures the IRS allows you to add (such as property improvements) minus items (such as depreciation) that the IRS makes you deduct. If the home was a gift or an inheritance, different rules apply. See IRS Publication 523, Selling your home.

Depreciation deducted up to May 6, 1997 will reduce the basis of your condo. Depreciation deducted after May 6, 1997 gets reported and taxed as capital gains.

The IRS has put together worksheets to help the homeowner figure out his capital gains, and capital gains exclusion when he sells his home. You'll find the worksheets you need in IRS Publication 523, Selling your home.

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