Can You Write Off a Loss on Sale of Investment Property?

You can usually write off a loss on the sale of investment property, but the size of the deduction, and whether you get it this year or over many years, depends on how the property was used. A rental house held more than a year typically produces a fully deductible ordinary loss under Section 1231 and often releases years of previously suspended passive losses in the same transaction. Raw land or a vacant lot held purely for appreciation produces a capital loss, which can only offset $3,000 of ordinary income a year, with the rest carried forward indefinitely. A property you used personally generates no deductible loss at all.

Start by Calculating the Loss

Your loss is the selling price minus your adjusted basis and the selling expenses. Adjusted basis is your original purchase price plus capital improvements, minus all depreciation you claimed, or should have claimed, during the years you owned the property.¹ The “should have claimed” piece matters. If you skipped depreciation deductions in prior years, the IRS still reduces your basis as though you took them, which shrinks your loss.

Selling expenses like broker commissions, transfer taxes, and legal fees reduce your net proceeds, so they increase the loss. One timing trap: you cannot stretch a loss across several tax years with the installment method, even if the buyer is paying you over time. The installment method only applies to gains.² The entire loss lands in the year of sale.

How the Property Was Used Controls the Deduction

The IRS sorts investment property into three buckets, and the bucket decides the treatment:

Personal-use property, such as a primary residence or a vacation home never rented out. Losses on sale are not deductible, with narrow exceptions for federally declared casualty or theft losses.³
Pure investment property, such as undeveloped land you held for appreciation and never rented. Losses are capital losses, with tight annual limits against ordinary income.
Property used in a trade or business, most commonly rental real estate. These losses qualify for the much more favorable Section 1231 treatment.

If the property served more than one purpose, you have to split the numbers. A house you lived in part of the year and rented the rest requires you to allocate the selling price, selling expenses, and basis between the personal and rental portions. The rental portion loss is deductible; the personal portion is not.³

Rental Property: Section 1231 Ordinary Loss Treatment

Rental real estate held more than one year is Section 1231 property, meaning depreciable real property used in a trade or business. At year end, the IRS nets all your Section 1231 gains and losses. If the net result is a loss, the whole thing is an ordinary loss that can offset wages, interest, dividends, and any other income with no annual dollar cap. If the net is a gain, it gets taxed at the lower long-term capital gains rate.⁴

This is why rental property losses are far more valuable than losses on investment land. A $200,000 ordinary loss can wipe out $200,000 of salary in the same year, subject only to the passive activity rules below.

Investment Land and Other Pure Capital Assets

If the property was not used in a trade or business, the loss is a capital loss. Capital losses fully offset capital gains from other sales, but the deduction against ordinary income like wages is capped at $3,000 a year, or $1,500 if you file married filing separately.⁵

Anything over the cap carries forward to future years indefinitely until used up.⁶ A $90,000 capital loss on a vacant lot, with no offsetting capital gains, would take 30 years to deduct at $3,000 a year. The arithmetic is why the trade-or-business classification is so much more powerful than it sounds.

The Suspended Passive Losses You Get Back When You Sell

Rental activity is passive by default, no matter how much time you put in, and passive losses can only offset passive income.⁷ For many landlords this means that during the holding period, year after year of rental losses were suspended and carried forward because there was no passive income to absorb them.

Selling changes that. When you sell your entire interest in a passive activity to an unrelated buyer in a fully taxable transaction, every previously suspended passive loss from that activity is released.⁸ Those losses first absorb any gain from the sale, and anything left over becomes deductible against non-passive income like wages and dividends.⁷

A ten-year hold that generated $80,000 in suspended losses you could never use releases all $80,000 the year you sell, on top of the loss you realize on the sale itself. The full disposition rule applies regardless of your income level or your hours on the property. It is often the single largest tax item in the whole transaction.

The $25,000 Allowance While You Still Own It

If you actively participated in your rental, you can deduct up to $25,000 of passive rental losses against non-passive income each year, even without a sale.⁸ Active participation is a low bar: approving tenants, setting rental terms, and authorizing repairs qualify.

The $25,000 allowance phases out as modified adjusted gross income rises above $100,000 and disappears entirely at $150,000.⁷ If you file married filing separately and lived apart from your spouse all year, the phase-out runs from $50,000 to $75,000. If you file married filing separately and lived with your spouse at any point during the year, the allowance is zero. Losses blocked by the phase-out are not lost; they stay suspended and release on sale.

Selling to a Family Member Kills the Deduction

If you sell the property to a related party, you cannot deduct the loss at all. “Related” is broader than most people assume. It includes your spouse, siblings and half-siblings, parents, grandparents, children, and grandchildren. It also covers corporations where you own more than 50% of the stock, trusts where you are the grantor or beneficiary, and partnerships or S corporations controlled by the same people.⁹

The disallowed loss shifts to the buyer. If they later sell to an unrelated person at a gain, that gain is reduced by the amount of loss you were not allowed to deduct.⁹ If they sell at a loss too, your original loss is gone for good. As a strategy for the seller, intra-family sales at a loss do not work.

The Excess Business Loss Ceiling

One more cap applies to larger losses. The excess business loss limitation caps total business losses a non-corporate taxpayer can deduct in a single year. For 2025, the threshold is $313,000 for single filers and $626,000 for joint filers, indexed annually for inflation.¹⁰ Any excess is not lost. It becomes a net operating loss carryforward that can offset up to 80% of taxable income in each future year, indefinitely.¹¹ Most people selling a single rental will not hit this ceiling.

Reporting the Loss on Your Tax Return

Rental property and other Section 1231 assets start on Form 4797 (Sales of Business Property). That is where the Section 1231 netting happens. A net Section 1231 loss flows from Form 4797 to Form 1040 as an ordinary loss.¹²

Before it reaches the 1040, the loss passes through Form 8582 (Passive Activity Loss Limitations), which aggregates your passive income and losses, applies the $25,000 active-participation allowance if you qualify, and releases suspended losses when you dispose of the entire activity.⁷ Schedule E tracks rental income, expenses, and the running tally of suspended losses from prior years.

A loss on pure investment property that is not Section 1231 property, like undeveloped land you never used in a business, skips Form 4797 and goes straight to Schedule D, where the $3,000 annual cap is applied and the carryforward is tracked.⁶ Whether your loss ends up on Form 4797 or Schedule D is the single biggest factor in what you actually get to write off.

1
Internal Revenue Service. Publication 551, Basis of Assets
2
Office of the Law Revision Counsel. 26 USC 453 – Installment Method
3
Internal Revenue Service. Publication 544, Sales and Other Dispositions of Assets
4
Office of the Law Revision Counsel. 26 USC 1231 – Property Used in the Trade or Business and Involuntary Conversions
5
Internal Revenue Service. Topic No. 409, Capital Gains and Losses
6
Internal Revenue Service. 2025 Instructions for Schedule D (Form 1040)
7
Internal Revenue Service. Instructions for Form 8582, Passive Activity Loss Limitations
8
Internal Revenue Service. Publication 925, Passive Activity and At-Risk Rules
9
Office of the Law Revision Counsel. 26 USC 267 – Losses, Expenses, and Interest With Respect to Transactions Between Related Taxpayers
10
Internal Revenue Service. Instructions for Form 461
11
Office of the Law Revision Counsel. 26 USC 172 – Net Operating Loss Deduction
12
Internal Revenue Service. Instructions for Form 4797