If you claimed an investment tax credit under IRC Section 50 and sold, converted, or stopped using the qualifying property within five years, you owe part of the credit back. The recapture percentage drops by 20 points for each full year the property stayed in qualified service: 100% inside year one, 80% in year two, 60% in year three, 40% in year four, 20% in year five, and nothing after five full years.1Office of the Law Revision Counsel. 26 U.S. Code 50 – Other Special Rules The amount owed shows up as an increase in tax for the year the triggering event occurs, not as a lost deduction or a reduction to next year’s credit.
What Counts as a Triggering Event
Recapture is measured from the date the property was placed in service. Anything that takes the property out of qualified use before five full years have run is a triggering event.
Disposing of the Property
Selling, exchanging, gifting, or losing the property counts. So does foreclosure by a creditor and permanent abandonment. If the asset leaves your hands early, you have a recapture event.
Changing How the Property Is Used
You can keep the property and still trigger recapture if the use changes so that it no longer qualifies. Converting business equipment to personal use is the standard case. Moving the property predominantly outside the United States has the same effect, since foreign-use property is not eligible for the credit in the first place. A drop in business use below the qualification threshold also counts.2Internal Revenue Service. Instructions for Form 4255 – Certain Credit Recapture, Excessive Payments, and Penalties
Cutting Your Interest in a Pass-Through Entity
If the credit came to you through a partnership, S corporation, estate, or trust, and your proportionate interest in that entity falls by more than one-third from what it was when the property was placed in service, the reduction is treated as a proportional disposition. The recapture is scaled to how much your interest shrank, not necessarily a full clawback.2Internal Revenue Service. Instructions for Form 4255 – Certain Credit Recapture, Excessive Payments, and Penalties
Returning Leased Property
If you claimed the credit as a lessee under a pass-through election and you hand the property back to the lessor before five years are up, that return is treated as a disposition.2Internal Revenue Service. Instructions for Form 4255 – Certain Credit Recapture, Excessive Payments, and Penalties
The Sliding Scale, With Numbers
The recapture percentage is set by how many full years the property was in service before the triggering event:
- Within year one: 100%
- Within year two: 80%
- Within year three: 60%
- Within year four: 40%
- Within year five: 20%
- After five full years: 0%
Say you claimed a $10,000 energy credit on solar equipment placed in service on March 1, 2024, and you sold the equipment on October 15, 2026. Two full years and about seven months passed, so only two full years count. The recapture percentage is 60%, and your 2026 tax bill goes up by $6,000.3Internal Revenue Service. IRC 50 – Investment Credit Recapture Rules Partial years give you nothing; only full years reduce the percentage.
The recapture amount is measured against the “aggregate decrease” in credits that would result from zeroing out the credit for that property, so any carrybacks or carryforwards from the original credit year are adjusted in the calculation as well.
Which Credits Section 50 Recapture Covers
Section 50 recapture applies to credits that make up the “investment credit” under Section 46, which sits inside the general business credit under Section 38.4Office of the Law Revision Counsel. 26 U.S. Code 38 – General Business Credit The credits most commonly affected are:
- The rehabilitation credit under Section 47, for qualified expenditures on certified historic structures.
- The energy credit under Section 48, covering solar, geothermal, fuel cells, energy storage, small wind, and other qualifying installations.5Office of the Law Revision Counsel. 26 U.S. Code 48 – Energy Credit
- The advanced manufacturing investment credit under Section 48D, tied to the CHIPS Act.
- The clean electricity investment credit under Section 48E, for qualifying zero-emission generating facilities.
Some business credits sit outside this framework. The research credit, work opportunity credit, and low-income housing credit have their own compliance rules and are not governed by Section 50.
Transfers and Events That Do Not Trigger Recapture
Section 50(a)(6) carves out several situations that look like triggers but are not.1Office of the Law Revision Counsel. 26 U.S. Code 50 – Other Special Rules
Death of the Taxpayer
If the person who claimed the credit dies and the property passes to heirs, no recapture is triggered by the transfer.
Transfers to a Spouse or Under a Divorce
Property transferred to a spouse, or to a former spouse as part of a divorce, does not trigger recapture on the transfer itself. The receiving spouse steps into the recapture exposure. If that spouse later disposes of the property or changes its use before five years are up, they owe the recapture as if they were the original claimant.
Change in Business Form
Converting a sole proprietorship into an LLC, or reorganizing a partnership into a corporation, is not a triggering event so long as the property stays in the same trade or business and the taxpayer keeps a substantial interest in that business. Certain tax-free corporate reorganizations under Section 381(a) are also exempt.
Casualty Damage That Is Repaired
IRS administrative practice treats partial casualty damage as non-triggering if the taxpayer repairs the property and returns it to service. There is no published deadline, though guidance following past disasters has pointed to at least three years. Repair costs do not qualify for a new investment credit. If the property is totally destroyed and cannot be returned to service, the destruction is a disposition and the standard sliding scale applies.
Do Not Forget the Basis Adjustment
Claiming an investment credit reduces the depreciable basis of the property by the amount of the credit.1Office of the Law Revision Counsel. 26 U.S. Code 50 – Other Special Rules A $10,000 credit on $100,000 of equipment drops your depreciable basis to $90,000, and your depreciation deductions are calculated on that reduced basis. Energy credits and clean electricity investment credits get a lighter hit: only 50% of the credit reduces basis. A $30,000 energy credit on a $100,000 solar system takes the basis to $85,000, not $70,000.
When recapture happens, the basis adjustment runs the other way. Immediately before the recapture event, the property’s basis goes back up by the recapture amount (50% of the recapture amount for energy credits). That basis increase changes your gain or loss when you dispose of the property, and the original basis reduction is treated as depreciation for purposes of the depreciation recapture rules under Sections 1245 and 1250. If you hold the property through a partnership or S corporation, the adjusted basis of your interest in that entity has to reflect the same changes.
A Harder Rule for CHIPS Act Credits
The advanced manufacturing investment credit under Section 48D has its own recapture regime, and it is much less forgiving than the standard Section 50 rules. If a taxpayer who claimed the credit engages in a transaction that materially expands semiconductor manufacturing capacity in a “foreign country of concern,” recapture is 100% of the credit, with no sliding scale.6eCFR. 26 CFR 1.50-2 – Recapture of the Advanced Manufacturing Investment Credit The applicable period is 10 years from the placed-in-service date, twice the standard window. “Material expansion” means increasing an existing facility’s semiconductor manufacturing capacity by more than 5%, or building a new facility. If the IRS finds a violation, the taxpayer has 45 days to cease or abandon the transaction to avoid recapture. A taxpayer who triggers this recapture also loses eligibility for any new Section 48D credits for that year.
Reporting the Recapture
Recapture is reported on IRS Form 4255, “Certain Credit Recapture, Excessive Payments, and Penalties.” The form works through the property, the original credit, the applicable percentage based on full years in service, and the resulting recapture tax.2Internal Revenue Service. Instructions for Form 4255 – Certain Credit Recapture, Excessive Payments, and Penalties The amount flows to your income tax return as a direct increase in tax. On Form 1120, corporate filers put it on Schedule J. Form 4255 is used by every entity type that originally claimed the credit, including individuals, corporations, S corporations, partnerships, estates, and trusts. The same form also handles excessive direct-pay amounts under Section 6417 and excessive credit-transfer amounts under Section 6418.
What Happens if You Do Not Report It
Recapture is not optional. The IRS can assess it through the normal audit and deficiency process while the statute of limitations remains open.3Internal Revenue Service. IRC 50 – Investment Credit Recapture Rules Missing a recapture event produces an underpayment, and interest runs from the original due date of the return.
If the shortfall is large enough to be a “substantial understatement,” the IRS can add a 20% accuracy-related penalty. For individuals, that threshold is a tax shortfall exceeding the greater of 10% of the correct tax or $5,000. For corporations other than S corporations, the threshold is the lesser of 10% of the correct tax (or $10,000, whichever is greater) or $10,000,000.7Internal Revenue Service. Accuracy-Related Penalty Interest also accrues on the penalty itself and cannot be waived unless the underlying penalty is removed. Reasonable cause and good faith is the main defense.