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Can you write off a loss on the sale of investment property?

If you are making money off the sale of investment property you will probably owe capital gains. The adjusted basis on the property will be very important – remember to add capital improvements which minimize the amount of gain you realized.

On the other hand, if you had a property with an underwater mortgage and decided to rent it, you may have to take a loss to finally sell. Can you deduct the loss on your taxes?

Fair Market Value versus Adjusted Basis

First, you cannot deduct a loss on a property you used as your home at the time of sale. But if you changed the use from personal to rental, you might be able to take a loss.

Second, we need to talk definitions. Adjusted basis is what you paid for the property and any expenses linked to capital improvements – a kitchen remodel or new flooring. Fair market value is what an arm’s length buyer would pay for a property.

The fair market value in the year that you change the use from personal to investment becomes a key factor in determining whether you can write off losses.

Third, the rule as discussed in publication 544 limits the deduction if the adjusted basis was more than the fair market value at the time of the change.

For example, consider a situation where you converted your condo to a rental because you needed to move five years ago. At that time, the adjusted basis on the condo was $325,000. Property prices had fallen at the time, so you decided to rent rather than sell. Fair market value was about $295,000. You then subtract depreciation from the lower amount and use this figure in calculating losses on your current sale. Unless it’s a large loss you may not be able to write off the loss.

For more advice about taxes on the sale of investment property, seek the advice of a tax attorney.

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