Investing in a rental property brings many new landlord responsibilities, such as maintaining the property, managing tenants, and taxes. There are several IRS forms that need to be filled out and submitted each year with rental properties. One of these forms may be an IRS Form 4797.
The IRS Form 4797 is a tax form distributed by the IRS that is used to report the income generated by the sale or exchange of a business property.
The properties that are covered by Form 4797 include (but are not limited to):
In this article, we’ll break down a Form 4797 to help you get a clearer picture of your overall real estate tax strategy.
Do I Need to Fill Out Form 4797?
Form 4797 may not be a part of your real estate tax strategy equation if you plan on keeping your rental properties, but selling a property that was used for business facilitates the need for a Form 4797.
There are some exclusions as to what qualifies as a “business property”, so if you have further questions about your real estate business tax strategy, consult a tax professional and/or use this guide on Form 4797 from the IRS.
What Is The Difference Between a Schedule D and Form 4797?
Real estate investors may confuse a Form 4797 with a Schedule D, another important real estate form, since both report capital gains.
A Schedule D is used to report personal gains, while a 4797 is used to report the profits made from the sale of a property that had a business use.
Since Schedule D covers virtually all personal gains, it should be a part of your rental tax strategy, but does not necessarily come into play if you sell the building.
If you have further questions on your specific real estate business, we recommend you speak with a tax professional.
How to Complete Form 4797
Because IRS Form 4797 may appear lengthy and confusing, in this section, we will walk you through how to fill it out, line by line.
Filling it out correctly is critical to ensuring that the IRS receives and approves of the form. Filing out the Form 4797 could invalid it, or be a factor in triggering an audit.
Before we go into a line-by-line look at Form 4797, you will begin by filling out all of the general information required, including:
- Your name
- social security number
- other information that identifies who you are
If you have Form 4797 in hand, let’s go through each line, step by step.
Form 4797 Line 2: This is where you will provide record of any properties that you bought or sold that you held for over one year, including:
- depreciation information
Form 4797 Line 3: If you received any gains listed on Line 42 of Form 4684, list them on this line.
Form 4797 Line 4: Use this line to record any Section 1231 gains that you received from installment sales.
Form 4797 Line 5: Line 5 is used for any like-kind exchanges on Form 8824 that resulted in Section 1231 gains or losses.
Form 4797 Line 6: You will report any of the gains from Line 32 of your tax return other than those resulting from casualty or theft on this line.
Form 4797 Line 7: Simply add all of the gains and losses recorded on Lines 2-6. After that, put that number in this line.
Form 4797 Line 8: This line is designated as the area where you’ll report any nonrecaptured Section 1231 losses from any year in the past.
Form 4797 Line 9: If you had any nonrecaptured Section 1231 losses, you need to subtract that amount from the total you wrote on Line 7 and put that total here.
Form 4797 Lines 11-18: This is Part 2 of IRS Form 4797 and covers any properties owned less than one year. These lines are filled out the same way as Lines 2-9, but only about properties that you owned for less than 12 months.
Form 4797 Lines 19-32: Part 3 of the form is the largest. In these lines, you will report gains on Line 19 if they were realized under Section 1245, 1250, 1252, 1254 or 1255.
Lines 20-24 deal with cost basis, depreciation, sale price and total gain.
At the end of Part 3, Lines 30-32 will ask you to add the appropriate information to determine the final applicable gain.
Form 4797 Lines 33-35: Part 4 focuses on recapture amounts (a recapture amount is a tax provision that permits the IRS to collect taxes on any profitable sale of an asset that you, the taxpayer, had previously used to offset taxable income.)
Once this part has been filled out (if it’s applicable), you can attach IRS Form 4797 to your tax return.
Other Forms You May Have to File with Form 4797
When you file form 4797, there may be other forms that you need to file in conjunction with it, such as:
IRS Form 4255 is the Recapture of Investment Credit form.
You only have to fill this form out if you sold property on which you claimed an investment credit.
The directions on this form will let you know if you have to recapture some or all of the revenue generated.
Known as the Casualties and Theft form, this form is used to report any involuntary conversions that were the result of casualties or theft.
The Installment Sale Income form is used to report the income that you generate by the sale of the property under the “installment method”.
Form 8824, also known as the Like-Kind Exchanges form, is used to report exchanges of qualifying investment properties or businesses that are exchanged for a business “of a like kind”.
If the property is used in a trade or business (or other non-capital assets), you will need to enter the loss or gain from form 8824 on line 5 or line 16 of IRS Form 4797.
Form 8949 is the Sales and Other Dispositions of the Capital Assets form.
This form is used to report the sale or exchange of capital assets that did not get reported on another form or schedule.
This form includes assets:
- not held for business or profit
- non business bad debts
- gains from involuntary losses that did not stem from casualty or theft
As mentioned earlier, Schedule D, the Capital Gains and Losses form, is used to figure all of the gains or losses from transactions that you recorded on Form 8949 in addition to reporting transactions that weren’t required on Form 8949.
The Bottom Line: Form 4797 & Real Estate Tax Strategy
If you have a rental property, it’s critical to not wait until the last minute to do your taxes; instead, create real estate tax strategy so that you can be informed and prepared about the forms that are required when filing your annual tax returns.
A Form 4797 is one form that you may need to utilize as part of your overall tax strategy. But keep in mind that many others may be required.
Whether you are using Form 4797 or other IRS forms, it’s critical to take the time to do the math — often with the help of a tax professional — to ensure you aren't overpaying in taxes, and to seek additional resources and education to help you pay less taxes legally.