Depreciation recapture is the tax owed on previously claimed depreciation when an asset is sold at a gain. For real estate depreciated straight-line, the recaptured portion — technically “unrecaptured Section 1250 gain” — is taxed at a maximum rate of 25%, higher than the long-term capital gains rate that applies to the rest of the gain.
How recapture works
Depreciation deductions reduce an asset’s basis year by year. When the asset sells, gain is measured against that reduced basis — so a property that has been fully sheltered by depreciation can produce a large taxable gain even if its market price barely moved. The tax code then splits that gain: the portion attributable to depreciation is “recaptured” at special rates, and only the remainder gets standard long-term capital gains treatment.
The rates depend on what was depreciated. Real property (the building itself, depreciated straight-line over 27.5 or 39 years) generates unrecaptured Section 1250 gain, taxed at up to 25%. Personal property — equipment, and importantly the 5- and 7-year components created by a cost segregation study — is Section 1245 property, and its depreciation is recaptured at ordinary income rates. Net investment income tax can stack another 3.8% on top for higher earners. This rate distinction is the fine print behind aggressive first-year depreciation: bonus depreciation taken today at a high bracket can come back at ordinary rates on sale if the hold is short.
A simplified illustration: an investor buys a rental for $1,000,000, claims $300,000 of straight-line depreciation, and sells for $1,200,000. Adjusted basis is $700,000, total gain $500,000. Of that, $300,000 is unrecaptured 1250 gain taxed at up to 25%; the remaining $200,000 of appreciation is taxed at long-term capital gains rates.
Managing recapture
Recapture is deferred, not avoided, by a 1031 exchange — the depreciation history carries into the replacement property along with the deferred gain, and comes due if the investor ever sells without exchanging. Serial exchangers pursuing the swap till you drop endgame rely on the stepped-up basis at death, which generally eliminates both the deferred gain and the accumulated recapture for heirs — the single most consequential fact in long-horizon real estate tax planning.
Two other planning notes recur in the alternatives context. First, recapture applies whether or not depreciation was actually claimed — the rule is “allowed or allowable,” so skipping depreciation doesn’t dodge the exit tax and merely wastes the deductions. Second, in syndicated programs and DSTs, investors inherit the program’s depreciation schedule; understanding the embedded recapture liability belongs in diligence, especially for offerings marketed on their early-year tax shelter.
FAQ
What is depreciation recapture in simple terms?
When you sell a depreciated asset at a gain, the IRS takes back the benefit of those deductions by taxing the depreciation portion of your gain at higher rates — up to 25% for buildings, ordinary rates for equipment and reclassified components.
How is depreciation recapture calculated on a rental property?
Total straight-line depreciation claimed (or allowable) during ownership is taxed at up to 25%, limited to the actual gain on sale. Gain beyond the recapture amount is taxed at long-term capital gains rates.
Does a 1031 exchange avoid depreciation recapture?
It defers it. The recapture liability rides along with the deferred gain into the replacement property. Only a step-up in basis at death (or an offsetting loss) eliminates it.
Can you avoid recapture by not claiming depreciation?
No — recapture is computed on depreciation “allowed or allowable.” Foregoing deductions forfeits the annual benefit without reducing the exit liability.
Related terms
Cost Segregation · Bonus Depreciation · 1031 Exchange · Stepped-Up Basis · Swap Till You Drop
Educational content only; not investment, tax, or legal advice. Consult qualified professionals regarding your specific circumstances.
