Depreciation recapture is taxed as ordinary income when the asset is equipment, a vehicle, or other tangible personal property under Section 1245 of the Internal Revenue Code. For depreciable real estate under Section 1250, most recaptured depreciation is taxed at a maximum rate of 25% rather than at your full ordinary income rate. In both cases the IRS is clawing back the benefit of deductions you already took, so the recaptured portion never qualifies for the lower long-term capital gains rates.
Why Recapture Exists
Every year you depreciate a business asset, the deduction reduces your ordinary income and saves tax at your marginal rate, which for 2026 can reach 37% for a single filer earning above $640,600.1Internal Revenue Service. IRS Releases Tax Inflation Adjustments for Tax Year 2026 When you later sell the asset for more than its depreciated book value, the gap between what you deducted and what the asset actually lost in value is income you never truly gave up. Recapture forces you to pay tax on that gap at ordinary income rates rather than at the lower capital gains rate you would otherwise pay on a long-held investment.
Section 1245 Property: Full Ordinary Income Rates
Section 1245 covers the broadest category of depreciable business assets: machinery, office furniture, vehicles, computers, medical equipment, and other tangible personal property, along with certain tangible property used as an integral part of manufacturing, production, or transportation.2Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property The asset must be used in a trade or business and held longer than one year to receive Section 1231 treatment in the first place.3Internal Revenue Service. Publication 544 (2025), Sales and Other Dispositions of Assets
The rule for these assets is blunt. Every dollar of depreciation you claimed comes back as ordinary income when you sell at a gain. There is no reduced rate and no partial exclusion. Only the slice of gain that exceeds the original purchase price qualifies for long-term capital gains treatment, and because most equipment sells for less than what you paid for it, the entire gain usually returns as ordinary income taxed at your marginal rate. You report it on Form 4797 (Sales of Business Property), which separates the ordinary income portion from any capital gain portion.
Section 1250 Property: The 25% Cap on Real Estate
Depreciable real property, including commercial buildings, warehouses, and residential rentals, falls under Section 1250 instead of Section 1245.4Office of the Law Revision Counsel. 26 USC 1250 – Gain From Dispositions of Certain Depreciable Realty For most modern properties depreciated on a straight-line schedule, the recaptured portion is classified as “unrecaptured Section 1250 gain” and taxed at a maximum rate of 25%, below the 37% top ordinary income rate.
Full ordinary-income recapture on real estate kicks in only when the owner used an accelerated method that exceeded straight-line depreciation. The excess over what straight-line would have allowed is recaptured at ordinary rates.5eCFR. 26 CFR 1.1250-1 – Gain From Dispositions of Certain Depreciable Realty Current law requires straight-line depreciation for most real property (27.5 years for residential rental, 39 years for nonresidential), so this harsher treatment is rare in modern transactions. If you bought a rental building within the last few decades, the 25% cap almost certainly applies. Any gain above both the depreciation recapture and the original cost basis is taxed as long-term capital gain at 0%, 15%, or 20%, depending on income.
How to Calculate the Recapture Amount
Three numbers do the work: your original cost basis (purchase price plus acquisition costs), the total depreciation you claimed, and the sale price.
- Adjusted basis equals original cost minus total depreciation claimed.
- Total gain equals sale price minus adjusted basis.
- Recapture equals the lesser of the total depreciation claimed or the total gain.
Say you bought equipment for $120,000, claimed $80,000 in depreciation, and now have an adjusted basis of $40,000. You sell for $95,000. Your total gain is $55,000. Because $55,000 is less than the $80,000 you depreciated, the entire $55,000 is ordinary income under Section 1245. Nothing qualifies as capital gain.
Change the sale price to $140,000 and the total gain becomes $100,000. Recapture is capped at the $80,000 of depreciation, so $80,000 is ordinary income and the remaining $20,000, which is the amount above your original $120,000 cost, qualifies for long-term capital gains rates.
Section 179 and Bonus Depreciation Increase the Exposure
Section 179 expensing and bonus depreciation let you deduct part or all of an asset’s cost in the year you place it in service.6Office of the Law Revision Counsel. 26 USC 179 – Election to Expense Certain Depreciable Business Assets Front-loading the deductions drops the adjusted basis to near zero almost immediately, so nearly the entire eventual sale price becomes gain, and for Section 1245 property that gain is ordinary income.
Section 179 also carries a separate recapture trigger. If you expense an asset and later drop its business use below the “predominantly used in a trade or business” threshold, the IRS requires you to recapture the benefit of the deduction even though nothing has been sold.6Office of the Law Revision Counsel. 26 USC 179 – Election to Expense Certain Depreciable Business Assets Converting a business vehicle to personal use is the common example. The recaptured amount appears as ordinary income in the year the business-use percentage falls short.
Installment Sales Do Not Defer the Recapture
Structuring a deal as an installment sale spreads capital gain across multiple tax years, but it does not spread depreciation recapture. The IRS requires you to recognize the full recapture amount as ordinary income in the year of sale, even if you haven’t received a single payment yet.7Internal Revenue Service. Publication 537 (2025), Installment Sales Only the gain above the recapture amount qualifies for installment reporting on Form 6252.8Internal Revenue Service. Form 6252, Installment Sale Income (2025) Sellers who assume the tax hit arrives alongside the cash can end up with a large ordinary income bill in year one and no cash to pay it.
1031 Exchanges Defer Recapture, But Don’t Erase It
A Section 1031 like-kind exchange lets you swap one investment or business property for a similar one and defer the gain, including the depreciation recapture portion. The liability doesn’t disappear. It carries over into the replacement property through the old basis.9Internal Revenue Service. Like-Kind Exchanges Under IRC Section 1031 When you finally sell the replacement in a taxable transaction, you owe recapture on the depreciation from the original property plus any new depreciation on the replacement. Investors who chain multiple exchanges over decades can accumulate substantial embedded recapture that comes due in a single tax year.
Home Office Recapture on the Sale of a Residence
If you claimed depreciation on a home office and later sell your primary residence, Section 121 excludes up to $250,000 of gain ($500,000 for joint filers) from tax. The exclusion does not cover the portion of gain equal to depreciation you deducted, or were entitled to deduct, after May 6, 1997. That amount comes back as unrecaptured Section 1250 gain taxed at up to 25%. When the office is inside your home rather than in a separate structure, you don’t split the sale between personal and business portions or file Form 4797 for the business share; you simply reduce the Section 121 exclusion by the depreciation allowed or allowable.10Internal Revenue Service. Sales, Trades, Exchanges 3 Homeowners who never claimed the deduction still owe recapture on the amount they were entitled to take.
Inheritance Wipes Out Prior Recapture
When someone inherits depreciable property, the basis resets to fair market value at the date of the prior owner’s death. That step-up eliminates the accumulated depreciation for tax purposes, and the heir owes no recapture on the original owner’s deductions. The heir’s new basis becomes the starting point for any future depreciation and any future recapture. Selling a heavily depreciated portfolio before death triggers full recapture; holding it until death removes the recapture liability entirely, though the estate may face estate tax on the property’s fair market value.
Getting the Reporting Wrong Is Expensive
Miscalculating recapture can trigger the IRS accuracy-related penalty of 20% of the underpayment.11Office of the Law Revision Counsel. 26 USC 6662 – Imposition of Accuracy-Related Penalty on Underpayments On a $50,000 recapture amount where you owe roughly $18,500 in tax at the 37% bracket, the penalty adds another $3,700, and interest runs from the original due date. Keep records of your original cost basis, every depreciation deduction claimed, and the final sale price so that Form 4797 (or Form 6252 for an installment sale) lines up with what you actually did.