Depreciation recapture

Depreciation recapture is the federal tax on the cumulative depreciation deductions a taxpayer previously claimed against rental income from a property. When the property sells, the IRS recaptures (taxes) the depreciation at a rate of up to 25%, separate from, and often in addition to, the regular long-term capital gains rate on the rest of the gain.

How it works: when an investment property is rented, the owner is allowed to deduct depreciation each year (the property's basis divided by the IRS-defined useful life, 27.5 years for residential rentals). Over years, accumulated depreciation reduces the property's tax basis. When the property eventually sells, the IRS treats the gain attributable to that depreciation as unrecaptured Section 1250 gain, taxed at up to 25%, with the remainder taxed at regular long-term cap gains rates (0%, 15%, or 20%).

Why it matters: for properties that were ever rented (even briefly, even at below-market rents to family) depreciation recapture can produce a meaningful additional tax bill at sale. A property with $30,000 of accumulated depreciation produces $7,500 of recapture tax (at 25%) regardless of the regular cap gains rate. The recapture applies whether or not the owner actually claimed the depreciation deduction; the IRS treats it as if the deduction was claimed (the "allowed or allowable" rule).

Common gotcha: depreciation recapture is not eligible for the § 121 primary-residence exclusion. Even if the seller meets the ownership and use tests for the regular gain, the depreciation portion is recaptured. This is the most consequential complication for owners who converted a former rental into a primary residence before sale, and it's specific enough that a CPA's review is the right input before the sale.