- Gains and losses of rental properties are taxed under Section 1231. Any losses under Section 1231 from selling your rental property are ordinary losses. If you have a net gain, some of this is ordinary gain and some is capital gain. First, calculate the net losses from the previous five years, and this amount of your current year's gain is ordinary gain. The remaining gain is capital gain. Capital gains tax ranges from zero to 28 percent, depending on your income and property depreciation.
- You must report the sale of the property on Form 1099-S. This form provides information and does not determine your tax responsibility. Use Form 4797 to report Section 1231 gains and losses. You will pay income taxes on your personal return for ordinary gains. Losses will reduce your taxable income on these returns. Report capital gains on Form 1040 Schedule D Capital Gains and Losses.
- If you sell your rental property to purchase another rental property within 180 days of sale, you likely can defer paying gains taxes. You do not qualify for this benefit if you sell the rental to purchase a property for personal use. If the sale of your property was a like-kind exchange, you must report this to the IRS using Form 8824, Like-Kind Exchanges.
- For tax purposes, foreclosures are treated as a sale, and the debt is canceled. You will have to calculate and report any gains or losses with the foreclosure. If you are not personally responsible for paying the debt that resulted in foreclosure, the full amount of the loan will be used in calculating the realized gain or loss. However, if you are responsible for paying the debt, and the income from the sale of the property does not cover the debt, the amount needed to cover the canceled debt is considered ordinary income, and you must report and pay taxes on that amount.
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