Depreciation recapture is a federal tax, capped at 25%, on every dollar of depreciation you claimed (or should have claimed) on an investment property. On a property held 15 years or more, it can add $30,000 to $100,000 to the bill. A 1031 exchange defers it entirely, but the deferred depreciation carries forward to the replacement property.
What depreciation recapture is
Every year you own a rental, the IRS lets you deduct part of the building's cost as depreciation, even though no money left your pocket that year. Residential rental property is written off over 27.5 years, commercial property over 39. Those deductions lower your taxable rental income for as long as you hold the property.
When you sell, the IRS wants them back. Depreciation recapture is the tax on the total depreciation you deducted over the years you owned the property. This slice of the gain - the IRS calls it unrecaptured Section 1250 gain - is taxed at a federal rate that tops out at 25%. If your ordinary income rate is below 25%, you pay that lower rate on the recapture portion; if it's at or above 25%, you pay the full 25%.
The logic is simple: the deductions were a tax break while you owned the property, and recapture reclaims that break when you sell. It's a separate layer sitting on top of your regular capital gains tax.
Why recapture is often the biggest piece of the bill
Capital gains gets the attention when investors think about the tax on a sale. Recapture rarely does - yet on a property held a long time, it's often the largest single line in the bill.
Take a residential rental bought for $500,000, with $400,000 of that in depreciable improvements, held for 20 years:
- Annual depreciation: $400,000 / 27.5 = $14,545
- Total depreciation over 20 years: $290,909
- Recapture tax at the maximum 25% rate: up to $72,727
That's up to $72,727 before capital gains, the net investment income tax (NIIT), or state taxes enter the picture. If the property rose from $500,000 to $900,000, recapture alone is more than 18% of the total gain.
This is why an estimate built only on "capital gains tax" tends to come in low. The calculator breaks out recapture separately, so you can see how much of the liability comes from each source.
How to estimate it
Estimated recapture tax = total depreciation taken × your applicable rate (25% maximum)
The total depreciation includes:
- Regular annual depreciation on the original building
- Depreciation on capital improvements, since each improvement starts its own schedule
- Any bonus or accelerated depreciation you claimed on qualifying components such as appliances, carpeting, and certain land improvements
Bonus depreciation and accelerated write-offs from a cost segregation study - the analysis that splits a building into faster-depreciating components - follow more involved rules. If you've done one, consult your CPA.
Example calculation:
Component | Amount |
|---|---|
Original purchase price | $600,000 |
Land allocation (20%) | $120,000 |
Depreciable building basis | $480,000 |
New roof added in Year 5 | $25,000 |
Total depreciable basis | $505,000 |
Annual depreciation (simplified - see note) | $18,364 |
Years held | 14 |
Total depreciation (simplified) | $257,091 |
Recapture tax (at max 25% rate) | up to $64,273 |
Note: This is a simplified illustration. In practice, the original building ($480,000) and the roof improvement ($25,000) each have their own depreciation schedules starting from their respective placed-in-service dates. The roof added in Year 5 would have 9 years of depreciation, not 14. Your CPA will calculate the precise total.
The "allowed or allowable" trap
This one catches investors who never claimed depreciation at all. Under IRC Section 1016(a)(2), the IRS reduces your basis by the depreciation "allowed or allowable" - whichever is greater.
In plain terms: own a rental for 15 years and never deduct a dollar of depreciation, and the IRS still treats your basis as though you had. You get the worst of both outcomes - no tax benefit while you owned it, and full recapture tax when you sell.
If you've been skipping the deduction, there's a way to fix it. You can file amended returns for the open years and file Form 3115 (Change in Accounting Method) to catch up on all the prior unclaimed depreciation. Your CPA can handle this. You recover the deductions you missed and land in the same position the IRS will put you in at sale anyway.
How a 1031 exchange defers recapture
A properly executed 1031 exchange defers all of the depreciation recapture tax, along with capital gains, NIIT, and state taxes. The full gain, recapture portion included, rolls into the replacement property.
No recapture is due at the time of the exchange. But the deferred depreciation doesn't disappear. It moves to the replacement property through the carryover basis.
What happens to depreciation on the replacement property
After a 1031 exchange, the replacement property carries a blended basis for depreciation. It has two parts.
Carryover basis: the remaining depreciable basis from the property you sold. It keeps depreciating on the original schedule - 27.5 or 39 years, counted from the original placed-in-service date.
Excess basis: if the replacement costs more than your old property's adjusted basis, the extra amount starts a new depreciation schedule from the acquisition date.
Say you sell a property with $180,000 of remaining depreciable basis and 10 years left on its schedule, then buy a replacement for $700,000 with $560,000 allocated to improvements:
- Carryover basis: $180,000 continues depreciating over the remaining 10 years
- Excess basis: $380,000 ($560,000 - $180,000) starts a new 27.5-year schedule
Running two schedules at once is one reason serial exchangers need a CPA who understands 1031 exchanges. The basis math compounds with each exchange.
Recapture in serial exchanges
Exchange several times and the deferred recapture accumulates across the whole chain. Each exchange carries the prior obligation forward.
Do three exchanges over 30 years, and the recapture waiting at final sale includes the accumulated depreciation from every property in the chain. It can be a very large number.
There is one exit that erases it: if the final property in the chain passes to your heirs, the stepped-up basis at death wipes out the deferred recapture along with the deferred capital gains. That's the mechanism behind the "swap 'til you drop" strategy.
Depreciation recapture, taxed at a maximum federal rate of 25%, is the most underestimated part of the 1031 exchange tax math. On long-held properties it can run $50,000 to $150,000. A 1031 exchange defers it completely, but the deferred amount carries forward through your basis, so it has to be tracked across every exchange, and investors who've skipped the depreciation deduction can file to catch up before they sell.
Frequently asked questions
Can I avoid depreciation recapture without a 1031 exchange?
The routes are limited: a 1031 exchange, which defers it rather than erasing it; passing the property to heirs who receive a stepped-up basis at death; or donating the property to charity. There's no way to simply opt out of recapture on a taxable sale.
What if I did a cost segregation study and took accelerated depreciation?
Accelerated depreciation through cost segregation increases your total depreciation deductions, which increases the recapture amount at sale. A 1031 exchange defers all of it, but the larger recapture obligation carries forward. Your CPA should track the different depreciation schedules carefully.
Does depreciation recapture apply if I sell at a loss?
If you sell for less than your adjusted basis, there's no gain and therefore no recapture. If you sell for more than your adjusted basis but less than your original purchase price, you have recapture but no capital gain. Recapture applies whenever the sale price exceeds the depreciation-adjusted basis.
Is the 25% recapture rate going to change?
The maximum 25% rate under Section 1250 has been stable for decades. Tax law can still change, though, and there's no guarantee the rate that applies today will be the rate at a future sale.