Page 12 of 25 Fileid: … tions/p523/2023/a/xml/cycle06/source 12:30 - 7-Feb-2024
The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.
community property becomes the basis of the entire prop-
erty, including the part belonging to the surviving spouse.
For this rule to apply, at least half the value of the com-
munity property interest must be includible in the dece-
dent's gross estate, whether or not the estate must file a
return.
For more information about community property, see
Pub. 555, Community Property.
If you are selling a home in which you acquired an
interest from a decedent who died in 2010, see
Pub. 4895, Tax Treatment of Property Acquired
From a Decedent Dying in 2010, available at IRS.gov/pub/
irs-prior/p4895--2011.pdf, to determine your basis.
Property Used Partly for Business or
Rental
Calculation. If you use property partly as a home and
partly for business or to produce rental income, the treat-
ment of any gain on the sale depends partly on whether
the business or rental part of the property is part of your
home or separate from it. Treatment of any gain also de-
pends on the use during the 5 years leading up to the
sale. To figure the portion of the gain allocated to the pe-
riod of nonresidential use, see Business or rental usage
calculations, later. See also Worksheet 2.
Space within the living area. If the part of your property
used for business or to produce rental income is within
your home, such as a room used as a home office for a
business, you do not need to allocate gain on the sale of
the property between the business part of the property
and the part used as a home. In addition, you do not need
to report the sale of the business or rental part on Form
4797. This is true whether or not you were entitled to claim
any depreciation. However, you cannot exclude the part of
any gain equal to any depreciation allowed or allowable af-
ter May 6, 1997, which must be recaptured and reported
as ordinary income under section 1250(b)(3). Other exam-
ples of space within the living area include a rented spare
bedroom and attic space used as a home office.
Space separate from the living area. You generally
can’t exclude gain on the separate portion of your property
used for business or to produce rental income. Regula-
tions section 1.121-1(e) provides that the use of a sepa-
rate portion of your home for business or rental purposes
does not qualify for exclusion under section 121, and this
may affect your gain or loss calculations. See Regulations
section 1.121-1(e). Examples are:
•
A working farm on which your house was located,
•
A duplex in which you lived in one unit and rented the
other, or
•
A store building with an upstairs apartment in which
you lived.
You can’t exclude gain on the separate part of your
property used for business or to produce rental income
unless you owned and lived in that part of your property
for at least 2 years during the 5-year period ending on the
date of the sale. If you do not meet the use test for the
separate business or rental part of the property, an alloca-
tion of the gain on the sale is required. For this purpose,
you must allocate the basis of the property and the
amount realized between the residential and nonresiden-
tial portions of the property using the same method of allo-
cation that you used to determine depreciation adjust-
ments. Report the sale of the business or rental part on
Form 4797. Note that space formerly used as business or
rental will qualify for exclusion under section 121 if the use
was converted to personal use for a total of 2 years, as
long as the personal use was within the 5 years leading up
to the sale. See Regulations section 1.121-1(a).
Business or rental usage calculations. If you use
property partly as a home and partly for business or to
produce rental income, and the business or rental portion
is not within the home’s living area, you need to make sep-
arate gain/loss calculations for the business and resi-
dence portions of your property. Make three copies of all
pages of Worksheet 2. Label one copy “Total,” one copy
“Home,” and one copy “Business or Rental.”
Complete your “Total” worksheet using the figures for
your property as a whole. Include the total amount you re-
ceived, all of your basis adjustments, etc. Include the cost
of all improvements, whether you made them to the busi-
ness space or the residential space.
Determine your “business or rental percentage,” mean-
ing the percentage of your property that you used for busi-
ness or rental. If you were entitled to take depreciation de-
ductions because you used a portion of your home for
business purposes or as rental property, you can’t exclude
the part of your gain equal to any depreciation allowed or
allowable as a deduction for periods after May 6, 1997.
If you used part of your home for business or rental af-
ter May 6, 1997, you may need to pay back (“recapture”)
some or all of the depreciation you were entitled to take on
your property. “Recapturing” depreciation means you must
include it as ordinary income on your tax return. If you took
depreciation on your home on past tax returns, use the
same business or rental percentage that you used in de-
termining how much depreciation to take. If you didn’t take
depreciation on your home on past tax returns, compare
the size of your business or rental space to the size of the
whole property and express this as a percentage. For ex-
ample, if you have a building with three equal-sized sto-
ries, and you live in the top two stories and use the ground
floor for a store, then you are using
1
/3 of the property and
your business percentage is 33.3%.
For each number on your “Total” worksheet, figure the
business-related portion of that number and enter it on
your “Business or Rental” worksheet. You may use differ-
ent methods to determine the business portion of different
numbers. Here are the three possible methods and the
circumstances under which each method applies.
•
Dollar-amount method. Where a figure consists of
specific dollar amounts that relate to either the resi-
dence portion or the business portion of the property,
the figure must be broken down by these dollar
amounts. For example, if the figure for improvements
to the property was $100,000, and all of that applied to
12 Publication 523 (2023)