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If the fair market value of the property is gone down than and the sale between you and your brother is at the fair market value than he will be able to take any loss that he may incurr on the sale of the rental property.
His loss will be sale price less selling expenses less( his cost basis less depreciation allowed).
You can show that property as a separate 50% property (as if a new asset) and depreciate it.
If you were to sell the property than your basis will be 50% fmv of the property plus $100000 paid to your brother less depreciation claimed by you over the period.
Let me know if you have any question.
Please note: This advice is provided with the understanding that all the relevant facts have been provided by you. Any change in facts might affect the advice given and hence may not be relied on in such cases. Nothing contained in this reply was intended or written to be used, can be used by any taxpayer, or may be relied upon or used by any taxpayer for the purposes of avoiding penalties that may be imposed on the taxpayer under the Internal Revenue Code of 1986, as amended.
That would be great if my brother could do that, but I'm thinking he may be considered a related party and not able to use the section 1231 loss rule. Is he considered a related party?
Yes, being a sibling his loss will be restricted. It will not be allowed to him unless the property is sold to a third party by him. You may want the sale to be structured between your brother and someone other than Members of a family( including only brothers, sisters, half-brothers, half-sisters, spouse, ancestors (parents, grandparents, etc.), and lineal descendants.)
Yes- Publication 544 addresses this issue.
Here is a link for your reference-
Similar rules apply to real property since the loss is considered as Sec 1231 loss.