Depreciation Recapture Tax Explained: Sections 1245 and 1250

Every depreciation deduction you take has a bill attached at sale. Recapture is how the IRS collects it, and the rate depends on what you sold.

Why recapture exists

Depreciation deductions reduce your ordinary income year after year. Without recapture, you could depreciate equipment to zero, sell it, and pay only capital gains rates on the proceeds, converting ordinary deductions into preferentially taxed gain. Sections 1245 and 1250 exist to prevent that conversion: the part of your gain equal to depreciation you took (or could have taken) gets taxed less favorably than pure appreciation.

Section 1245: equipment and personal property

Section 1245 applies to depreciable personal property: machinery, equipment, vehicles, and 5 and 7-year assets generally. The rule is simple and harsh: gain on sale is recharacterized as ordinary income up to the total depreciation taken. Only gain above the original cost, true economic appreciation, keeps capital treatment.

Example: you buy equipment for $50,000, claim $30,000 of depreciation (adjusted basis now $20,000), and sell for $45,000. Your total gain is $25,000. The first $25,000 of that gain is less than the $30,000 of depreciation, so the entire $25,000 is recaptured as ordinary income. Sell instead for $60,000 and the gain is $40,000: $30,000 recaptured as ordinary income, $10,000 capital gain.

Section 1250: real property and the 25% rate

Section 1250 covers depreciable real property. For property depreciated with straight-line MACRS (all 27.5 and 39-year property placed in service after 1986), there is no ordinary-income recapture of the straight-line amount. Instead, the depreciation portion of the gain becomes unrecaptured Section 1250 gain, taxed at a maximum rate of 25 percent, higher than the 0, 15, or 20 percent long-term capital gains rates but lower than ordinary rates.

Example: you buy a rental building (excluding land) for $300,000, claim $100,000 of depreciation, and sell the building portion for $350,000. Adjusted basis is $200,000, total gain $150,000. Of that, $100,000 is unrecaptured Section 1250 gain taxed at up to 25 percent; the remaining $50,000 is capital gain at the usual rates. If you had taken depreciation beyond straight line (possible only on older property), the excess would be recaptured as ordinary income under Section 1250's older rules.

Allowed or allowable: the trap

Recapture is computed on depreciation allowed or allowable, whichever is greater. Allowable means what you were entitled to claim under MACRS. If you forgot to depreciate your rental for five years, the IRS still treats you as having taken that depreciation when computing recapture and adjusted basis. You lose the deductions and still pay the tax. This is the single most expensive depreciation mistake landlords make, and it is why claiming depreciation every year is effectively mandatory.

How to reduce or defer recapture

A 1031 like-kind exchange defers both the capital gain and the recapture: the depreciation history carries over to the replacement property, and the tax comes due only when you eventually sell for cash. This is why depreciation-heavy investors so often exchange rather than sell. Gifting appreciated, depreciated property to charity can avoid recapture on the donated portion. Holding until death gives heirs a stepped-up basis that wipes out both the gain and the recapture, though the depreciation deductions you took during life are not refunded.

Installment sales spread the gain, and the recapture portion, across the years payments are received, which can keep you in lower brackets. None of these eliminate the tax except the step-up at death; they manage its timing.

Reporting it

Recapture is reported on Form 4797 (Sales of Business Property). Section 1245 recapture flows to ordinary income; unrecaptured Section 1250 gain flows to the Schedule D worksheet where the 25 percent rate applies. Keep the full depreciation history for every asset, because the form requires the total depreciation taken and the adjusted basis, and reconstructing years of records at sale time is where errors and penalties breed.

Sources: IRS Publication 544 (Sales and Other Dispositions of Assets); Form 4797 instructions. Data current as of October 2026. Not tax advice.

Frequently asked questions

What is depreciation recapture?

When you sell a depreciated asset, the IRS taxes the portion of gain attributable to prior depreciation less favorably than pure appreciation: as ordinary income under Section 1245 (equipment) or at up to 25% as unrecaptured Section 1250 gain (real property).

What is the depreciation recapture tax rate for rental property?

Unrecaptured Section 1250 gain on residential rental property is taxed at a maximum of 25%. Gain above the original cost is taxed at the usual long-term capital gains rates.

Can I avoid depreciation recapture by not claiming depreciation?

No. Recapture is based on depreciation allowed or allowable, so skipping deductions does not reduce the recapture tax; it only costs you the annual deductions.

Does a 1031 exchange avoid depreciation recapture?

It defers it. In a valid 1031 exchange, both the capital gain and the recapture carry over to the replacement property and are recognized only on a later taxable sale.

Where is depreciation recapture reported?

On Form 4797, Sales of Business Property. Section 1245 amounts flow to ordinary income; unrecaptured Section 1250 gain flows to the Schedule D tax worksheet.