How to report sale of personal residence on 1041 estate tax return?

You're asking a great question about an often misunderstood area of tax law. The treatment of expenses when selling a decedent's residence is different on a 1041 than on a personal return. When you sell the house from the estate, the selling expenses (commissions, legal fees, etc.) are actually deductible against the sales price. So while the house itself received a stepped-up basis to fair market value at death ($375K), the $27K in selling expenses would create a loss of $27K on the 1041. This loss can indeed be passed through to the beneficiaries on their K-1s from the estate. The beneficiaries would report this as a capital loss on their personal returns, subject to the usual capital loss limitations ($3,000 per year against ordinary income, with carryforward for unused amounts).

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One thing no one has mentioned yet - make sure you're calculating the basis correctly. The stepped-up basis is the FMV on date of death OR the alternate valuation date (6 months after death) if the executor elected that option on Form 706. Also, keep in mind that if the house increased in value between the date of death and the sale date, you'd only have a taxable gain on the increase since death. In your case, since the values are the same, that's not an issue.

I had a situation where I needed to liquidate estate assets to pay debts before distributing to beneficiaries. The executor fees and estate administration expenses can also be deducted on the 1041 as administrative expenses. Has your attorney discussed this with you?

Just want to add some clarity on the timing aspect that might be helpful. Since you mentioned the sale occurred in February 2023 and you're still working on the 1041, make sure you're aware that the capital loss from the selling expenses will be reported on the 1041 for the tax year when the sale occurred (2023), not when you file the return. Also, if this is the final 1041 for the estate, any unused capital losses will pass through to the beneficiaries on their K-1s. But if the estate continues beyond 2023, the losses would first offset any capital gains the estate might have in future years before passing through. One practical tip: when you prepare the K-1s for beneficiaries, make sure to include a statement explaining the nature of the capital loss so they understand it came from selling expenses on the residence. This helps them (and their tax preparers) properly report it on their personal returns.

This is excellent advice from everyone here. I'm currently dealing with a similar situation as the executor of my grandmother's estate. One additional consideration that hasn't been mentioned - if the estate has other capital gains from stock sales or other assets, those gains can offset the capital loss from the property sale before the loss passes through to beneficiaries. In my case, we had about $15K in capital gains from selling stocks and the $22K loss from selling the house (after commissions and legal fees). The net $7K capital loss will pass through to the beneficiaries on their K-1s rather than the full $22K loss. Also, make sure to keep detailed records of all selling expenses - not just the obvious ones like realtor commissions. Title insurance, transfer taxes, repairs needed for sale, staging costs, and even utilities during the marketing period can all be legitimate selling expenses that reduce your proceeds and increase the deductible loss. The timing Sofia mentioned is crucial too. Since your sale was in February 2023, that loss needs to be reported on the 2023 estate return, even if you're filing it now in 2024.