Tax question

[Rick Potter]

Now that it is tax season, I have a question for the experts.

I own an auto repair shop, which I have owned and rented out for 16 years. I am thinking about selling it, and my brother tells me that if I do, I have to return to the government all the money I have saved through depreciation write off.

I will probably not replace the property, and if I do it will be with residential rental property. Is my brother correct?

[Rich Engelhardt]

Is my brother correct?Simple answer is - yes.
It's called the depreciation recapture tax.

The whole thing is pretty complex though.

Here's a decent blog on it:
https://www.stessa.com/blog/rental-property-depreciation-recapture/

Bottom line is - your tax guy will have all the answers as far as the tax is concerned,

If you plan to do a 1031 real estate transfer (sell one income property to buy another) - find a real estate agent that has experience doing that.
It's my understanding that not all real estate agents can do that. There are special agents that do that sort of sale.

I only looked at it briefly a couple years ago when I wanted to sell on of my rentals. This was right when COVID hit and nobody could get any financing so we ended up renting the place instead of selling it.

Good luck with your venture!

[Jim Becker]

There can be tax ramifications for amortized things like depreciation. But you need to work with a CPA/Business Accountant to insure that you do things properly and with minimal impact to your personal taxes. Some of that will depend upon how your business is organized legally, too.

[Kev Williams]

OK, dumb question-

--I buy a 'widget machine' for $25,000 I need for my business to make money.

--instead of just taking a $25,000 tax deduction (section 179 these days), I opt for 7 years depreciation...

--the machine is now 20 years old, doesn't work for me, has little value to anyone, and I 'dispose' of it by selling it to some guy for $100..

--when I do that, am I seriously supposed to pay a 'recapture' tax?

--if true, then can someone PLEASE explain how then, that paying back a business tax deduction results in you every HAVING a tax deduction?

[Jim Becker]

Kev, if I'm not mistaken, the OP's situation is Real Estate, not a machine. Depreciation schedules are much longer for a building than a machine. But again, this is a job for a knowledgeable accountant whenever tax implications need to be ascertained for a business decision like shutting down. I will tell you this...TurboTax caught some kind of recapture for 2021 because of my shutting down the business at the end of 2020 and it cost me a buck for whatever reason as a shareholder. :)

[Allan Dozier]

Kev, the way I understand it is if you depreciate any item and then sell it later for more than you paid for it then it really didn't depreciate and you have to recapture that. In your example if you bought it for $25,000 depreciated it on your tax returns so it now has a book value of $100 and that is what you end up selling it for then there is no recapture. If you sell it for $1000 then you recapture $900. Of course as everyone said, ask your accountant.

[Mike Henderson]

OK, dumb question-

--I buy a 'widget machine' for $25,000 I need for my business to make money.

--instead of just taking a $25,000 tax deduction (section 179 these days), I opt for 7 years depreciation...

--the machine is now 20 years old, doesn't work for me, has little value to anyone, and I 'dispose' of it by selling it to some guy for $100..

--when I do that, am I seriously supposed to pay a 'recapture' tax?

--if true, then can someone PLEASE explain how then, that paying back a business tax deduction results in you every HAVING a tax deduction?

Let me see if I can explain it. Let's say you purchase a piece of property for $1,000. You hold it for ten years and you do not depreciate it for tax purposes. When you sell it, let's say for $2,000, you have a capital gain of $1,000 that you have to pay capital gains taxes on. Your "basis" for the property is $1,000.

If you sold it for $1,000 you would have no gain and owe no taxes on the sale.

Now, let's say you have the same situation but you use depreciation and you depreciate all of the original $1,000. Your basis in the property is now zero ($0.00). If you sell it for $2,000 your gain is $2,000. That's what's meant by depreciation recapture.

How that is taxed is something you need to discuss with your tax person.

Mike

[Rich Engelhardt]

OK, dumb question-

--I buy a 'widget machine' for $25,000 I need for my business to make money.

--instead of just taking a $25,000 tax deduction (section 179 these days), I opt for 7 years depreciation...

--the machine is now 20 years old, doesn't work for me, has little value to anyone, and I 'dispose' of it by selling it to some guy for $100..

--when I do that, am I seriously supposed to pay a 'recapture' tax?

--if true, then can someone PLEASE explain how then, that paying back a business tax deduction results in you every HAVING a tax deduction?In real estate, if you dispose of property at a loss - even during the depreciation period, it incurs no recapture tax.

The whole situation becomes real messy because with depreciation & recapture of it, you are mixing regular tax and capitol gains.
Your bookkeeper / CPA would have all the details and provide you with a figure that would be most equitable all around to dispose of something.

As a landlord, I not only face depreciation of the property, but, also large expense items - such as a furnace, A/C, roof, etc.

There is a dollar figure at which you don't want to take out too many expense items - even if they are 100% legitimate.

As others have said - this is a complex topic and best dealt with one on one with a tax professional on a case by case basis.

[Adam Herman]

and remember you can increase your cost basis by doing capital improvements to the property. this is one of the keys to owning rental property for the value increase and not the rental income.

[Rick Potter]

Thanks for the answers and info. I would love to turn it into a different use, but it is so difficult in CA, that I hesitate to even try. I might be able to turn it into a used car lot, without changing the zoning. The big problem is that so many people who want to use it for auto repair have no idea how to run a business.

It was built as a Dyno Tune up shop, by the Andy Granitelli Tune up Masters company. That was fine for 10 years, but now with small outfits renting it and failing, it is a bit of a hassle. Add to that, the City putting it into a 'Beautification Zone' does not bode well for the future.

I will probably just wait and let the kids handle it when I die. That will initiate a new appraisal, and depreciation basis. That is what my dad did in 2004.

[Ron Citerone]

Thanks for the answers and info. I would love to turn it into a different use, but it is so difficult in CA, that I hesitate to even try. I might be able to turn it into a used car lot, without changing the zoning. The big problem is that so many people who want to use it for auto repair have no idea how to run a business.

It was built as a Dyno Tune up shop, by the Andy Granitelli Tune up Masters company. That was fine for 10 years, but now with small outfits renting it and failing, it is a bit of a hassle. Add to that, the City putting it into a 'Beautification Zone' does not bode well for the future.

I will probably just wait and let the kids handle it when I die. That will initiate a new appraisal, and depreciation basis. That is what my dad did in 2004.

Just make sure your kids know what has to be done and the time limits for it. Have seen a situation like this get worse by kids not understanding how it works. My 2 cents.

[Rick Potter]

Thanks Ron,

We have a pretty good understanding about trusts and the succession of trustees. It worked well with my parents properties, ours are also in trust, with things pre designated for the kids. The important thing is that the trustees get along. No problem between me and my bro, and I am pretty sure our kids are gonna be the same. They know how it is gonna be handled.

We do need to update the trust' will provisions though.

[Clint Baxter]

One thing that I didn't see mentioned here is that one is not responsible for paying back the amount the property was depreciated, but instead paying tax on the amount of depreciation against the property. Keep in mind that the tax calculated on that amount would be calculated as a long term capital gain which would typically be the lowest tax rate. Needless to say, that is a huge difference from paying back the entire amount the property was depreciated. Not sure if that was clear to all but I didn't see here where that was explained.

Clint