Reporting a legal settlement loss on a rental property years after the sale of the property

Forum|Forum|1 year ago
January 8, 2025
2 replies
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I paid a sum to the buyers due to a legal settlement this past year, but the house was sold to these buyers 3 years prior. How should I report this settlement as a loss for this past year? I no longer have been filing a Schedule E for this property.

TurboTax Home & Biz Windows

RobertB4444

It depends on what the legal settlement was meant for. Probably this amount would have increased the basis on the rental home that you sold so the way to take a credit for this is to amend the tax return from three years ago with the settlement added to the basis.

That only works if the settlement was to cover something that would have been an improvement or repair to the house at the time of the sale. If it was to cover anything else (legal fees, advertising, etc) then it is probably not deductible at all.

@lgcphoto

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lgcphotoAuthor

Thank you for that answer. I hadn’t even considered amending that return. It was a settlement to cover the repairs needed to an undisclosed septic system. So it would have been something we would have addressed prior to closing had we known it was an issue.

Is there any possibility I could handle this on last year’s return or is amending the prior return really the only allowed approach?

DaveF1006

No. There is no way you can report that this year. You would need to amend your return from three years ago and report the repair on the Schedule E at that time. Make sure to be as detailed as possible in giving the reason why you are amending the return at this time.

Keep in mind, you may include the cost of the repair if it is part of the settlement. You may not deduct legal fees or other costs that were not part of the repair cost.

@lgcphoto

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lgcphotoAuthor

Thanks for the answer. From what I see online, it seems like I can deduct the legal expenses I paid given they were in support of my rental properties and not personal legal expenses. Can you refer me to a source that indicates this is not the case?

AmyC

Employee

No, @DaveF is correct. The legal expenses incurred after the sale are not deductible against rental income. It is added to the basis to reduce your capital gain. Amending your tax return to include the additional expense and change in basis is correct.

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