Hello. I have a question about capital losses on inherited real estate. I inherited my father's primary residence last year and sold it shortly after his death. The closing date for the sale was approximately six months after his funeral. It had been vacant for six months at the time of sale, except for cleaning crews, real estate agents, etc. The house was used solely as a personal residence during my parents' lifetimes (as far as I know). Since the house was sold so quickly after my father passed away, it seems reasonable to say that it was sold for fair market value. In other words,the value was the same at the time of death as it was at the time of sale. And because of the step-up in basis, no capital gain would be recognized and no taxes would be owed. But the closing costs amounted to 6 percent of the selling price. This includes the real estate agent's commission, transfer taxes, legal fees, etc. Since I therefore received only 94 percent of fair market value, can I declare a capital loss of 6 percent? Or would this loss be disallowed because the house was a personal residence while my father was alive? Please note that the house was sold by me personally, not by the estate. Also, I never had the house appraised because I was told that the sales price would be accepted as FMV for tax purposes. Regardless, the loss, if one is allowed, would be due to selling expenses, not due to decline in value. For simplicity's sake, assume that my father passed away on January 1, 2016 and that the house was worth approximately $200,000 on that date. The house was then sold for $200,000 and title was transferred to the buyers on June 30, 2016. The closing costs were approximately $12,000. Therefore, although fair market value was $200,000, the heir received only $188,000. Can the heir/seller write off $12,000 as a capital loss? I have received much conflicting information about this so far, so I'm hoping that someone here can assist. Thanks in advance.

Sorry, but given the circumstances you described, the house would be considered a personal asset and NOT a business asset. Given this fact, the loss you incurred is NOT tax deductible.

Atlanta, I'm confused. I thought the answer would be yes. I copied this from a legal site, which sounds (to me) what the question is asking:

Q: I would like to sell an uninhabited house I inherited. What would be my tax liabilities?
"...you will need to calculate the gain or loss on sale. The first amount is the cost basis. You can obtain the cost basis from the estate tax return if one was filed. If not, your cost basis is the fair market value of the property on the date of death. You can also use what is known as the alternate date valuation, which would be the fair market value six months after the date of death. In order to have the smallest gain or largest loss possible, you want to use the date that has the higher value. From the sales price, you deduct the cost basis. In addition to deducting the cost basis, you also deduct the improvements you paid for as well as selling costs like real estate commissions. This is illustrated below:

• Sales Price
• Less cost basis
• Less improvements
• Less selling costs
• Equals net gain or loss

You should report the gain or loss on Schedule D . The capital gain tax depends on what the rest of your return contains as well as how long you owned the property before selling. If you held the property for 365 days or less, you will be taxed on the gain at the same rate as the tax on your ordinary income. If you held the property 366 days or more, the tax on your gain will either be 5 percent, if you are in the lowest two tax brackets, or 15%, if you are in higher tax brackets. You will not owe a tax if you take a loss on the sale."

Are you saying that he incurred a loss but cannot deduct it? I'M CONFUSED!

That is exactly what I am saying.

You did not use the house for business purposes, nor did you rent it. It is therefore your PERSONAL asset, and the IRS is clear that sale of a personal asset where a loss is incurred is NOT deductible.

Re-read the legal site citation. NOWHERE in that citation do they explicitly say you can clam the loss.

I believed you, but just couldn't find it. Saying 'enter the gain or loss on Sch D' without saying 'not deductible' is confusing. Anyway, for the OP (and me), here it is.

https://www.irs.gov/publications/p544/ch04.html

Personal-use property. Report gain on the sale or exchange of property held for personal use (such as your home) on Form 8949 and Schedule D (Form 1040), as applicable. Loss from the sale or exchange of property held for personal use is not deductible. But if you had a loss from the sale or exchange of real estate held for personal use for which you received a Form 1099-S, report the transaction on Form 8949 and Schedule D, as applicable, even though the loss is not deductible. See the Instructions for Schedule D (Form 1040) and the Instructions for Form 8949 for information on how to report the transaction.

Glad to help!

And thanks, as always.

Thanks, I really appreciate your input. I have gotten several conflicting answers to this question recently. For example, I spoke with a relative who is a CPA and he agrees with you that the house was a personal residence and that it retains its character after transfer to the heir, meaning that the loss is not deductible. But then I also submitted the same question to the AARP Tax-Aide Online Tax Assistance Service and they replied with the following:

"If you did not use the house since the date of death, report the gain OR loss on the sale (including selling costs) on Form 8949 which flows to Schedule D which flows to Form 1040 Line 13. The instructions for Schedule D can be found at https://www.irs.gov/pub/irs-pdf/i1040sd.pdf.
If the person that inherited the property did not reside in the house after it was inherited and did not use it for personal, business or rental during that time then they can claim a capital loss as described in the Schedule D."

I realize that AARP isn't necessarily an expert tax organization. But in addition, I found these four links that also seem to indicate that the loss is deductible:

1)
Tax Break for Sales of Inherited Homes | Russ Merrick, EA & Associates

2)
Tax Break for Sales of Inherited Homes | Boman Accounting Group Inc.

3)
Ordinary loss: extraordinary tax deduction | Bankrate.com

4)
Inheritance | TaxGeeks

Has anyone here ever taken (or chosen not to take) this deduction in the past, either for themselves or for a client? What was the outcome? Is there a relevant section of the IRS website that I can reference? Any opinions are more than welcome. Thanks again.

My impression from various IRS pages is that if it isn't business, it is 'personal use' whether you lived in it or not. But bankrate (the only one I read) suggests otherwise.
I cede to the tax experts.

The arguments in the links are persuasive. I personally have never allowed clients to claim such losses, but that applies to only two cases in over 20 years of practice. It is NOT very common.

Given the evidence provided in the links, I will concede that you should claim the loss. The worst that can happen is the IRS dis-allows it, at which point you can cite the examples at the link to defend the loss before an IRS audit.

Just for fun: I bought 20% of my mother's half of my parents' house, each half of which was in trust. My mother died before my father, with no other assets. The trust stayed (if that's possible?) on until my father died, and I was living with him in the house. I and 2 siblings sold it immediately to a neighbor. It was still in probate. I have no idea what the IRS requirement was, but I paid no tax of any kind, and didn't even file, with just SS income, and throwing up my hands at all the bank and probate documents. That was in 2011. I suppose they might still audit me, but hoping I beat the odds. I just said HEY I owned the place, even if only 10%, and I bought another house. And trusts are magic loopholes anyway, full of assets that don't count as assets.

Joy,

It was WAY past the audit window on that property. You have NOTHING to worry about.

ATE

ATE - I never gave it a thought til now!

Thanks again for taking the time. So if this is accurate, most people can actually take a deductible capital loss on the sale of an inherited personal residence as long as the heir never used it for personal purposes after the death of the decedent, based on the way the law is written. I'm not sure if that was the original intent of the law, but it does seem to be the practical effect. Perhaps over time they will close this "loophole." Anyway, here is one more link I just found: https://ttlc.intuit.com/questions/3246132

By the way, do you think my not having had the house appraised will be a problem? I was told at the time that a quick sale would establish FMV by definition. Does that sound correct? Of course, the buyers' lender had the house appraised, but I don't have access to that appraisal; I was just told verbally that it appraised for the sales price. Thanks.

No, the lack of a formal appraisal will probably NOT be an issue.

I'm glad to hear that. Anyway, I did a little more searching and I found one last thing that might be of some interest to tax professionals. In IRS Publication 559, page 17, there's a section called Sale of Decedent's Residence. It says the following:

"If the estate is the legal owner of a decedent's residence and the personal representative sells it in the course of administration, the tax treatment of gain or loss depends on how the estate holds or uses the former residence. For example, if, as the personal representative, you intend to realize the value of the house through sale, the residence is a capital asset held for investment and gain or loss is capital gain or loss (which may be deductible). This is the case even though it was the decedent's personal residence and even if you did not rent it out. If, however, the house is not held for business or investment use (for example, if you intend to permit a beneficiary to live in the residence rent-free and then distribute it to the beneficiary to live in), and you later decide to sell the residence without first converting it to business or investment use, any gain is capital gain, but a loss is not deductible."

Unfortunately I can't find any similar language anywhere about sales of a decedent's residence by individuals, rather than by estates. But I'm guessing that since such losses are deductible for estates then they're probably also deductible for individuals, although I could be wrong. Any idea where to look if I wanted to find similar language regarding transactions by individuals rather than estates?

No, I cannot. However, I believe you have enough coverage that you should claim the loss and you can defend the decision if and when the IRS challenges it.

Thanks as always. I have a related question that I will ask in a separate post, as per forum rules.