Section 1245 property is any depreciable business asset — equipment, machinery, vehicles, patents, customer lists, and similar items that aren’t buildings or land — whose accumulated depreciation gets taxed as ordinary income when you sell the asset at a gain.1Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property That ordinary income rate can run as high as 37% in 2026, rather than the lower long-term capital gains rate you might have expected. The rule effectively claws back the tax benefit you received from years of depreciation deductions, and it catches a lot of business owners off guard at closing.
What Counts as Section 1245 Property
The category has three layers, and something has to be depreciable or amortizable to fall inside any of them.
The largest layer is personal property, both tangible and intangible.2Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (a)(3)(A) In tax language, “personal property” means anything that isn’t real estate. Factory machines, delivery trucks, office furniture, computer equipment, and medical devices are all tangible personal property. Patents, copyrights, customer lists, and goodwill acquired with a business are the intangible side; these typically get amortized over 15 years under Section 197.3Office of the Law Revision Counsel. 26 USC 197 – Amortization of Goodwill and Certain Other Intangibles Every dollar you deducted becomes potential recapture income when the asset changes hands.
The second layer pulls in certain tangible property that would otherwise look like real estate because of its size or permanence, provided it isn’t a building or a building’s structural components.4Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (a)(3)(B) To qualify, the asset must be an integral part of one of a handful of activities:
- Manufacturing or production, such as blast furnaces, assembly line equipment, and industrial ovens.
- Extraction, such as oil derricks, mining drills, and timber harvesting rigs.
- Transportation and communications hardware used in providing a commercial service.
- Utility services, such as transformers, distribution lines, water treatment systems, and sewage disposal equipment.
Research facilities tied to those activities and bulk storage facilities for fungible commodities (grain, oil, natural gas) fall in the same subsection.5Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (a)(3)(B)(ii)-(iii)
The third layer is a set of special categories Congress named individually:
- Real property whose basis has been reduced by Section 179 expensing, pollution control facility amortization, or the Section 179D energy-efficient commercial building deduction. Only the portion of basis affected by those deductions is subject to recapture.6Internal Revenue Service. Publication 544, Sales and Other Dispositions of Assets – Section: Depreciation Recapture
- Single-purpose agricultural or horticultural structures, such as a livestock confinement building designed for one type of animal or a commercial greenhouse used only for growing plants. A barn that also serves as a workshop wouldn’t qualify.7Office of the Law Revision Counsel. 26 USC 168(i)(13) – Single Purpose Agricultural or Horticultural Structure
- Petroleum storage facilities, meaning tanks and other non-building storage structures used to distribute petroleum or petroleum products.8Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (a)(3)(E)
- Railroad grading and tunnel bores.
How It Differs From Section 1250 Property
This is the boundary that trips up most sellers. Section 1250 covers depreciable real property that isn’t Section 1245 property: office buildings, apartment complexes, warehouses, and the like.9Office of the Law Revision Counsel. 26 US Code 1250 – Gain From Dispositions of Certain Depreciable Realty – Section: (c) The difference matters because the recapture rate isn’t the same.
With Section 1245 property, every dollar of depreciation you claimed is recaptured as ordinary income up to the amount of your gain, and ordinary rates run up to 37%.10Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (a)(1) Section 1250 property is treated more gently. Because real estate is generally depreciated straight-line, there’s rarely any excess depreciation to recapture at ordinary rates. The depreciation portion of the gain is instead capped at a 25% rate as “unrecaptured Section 1250 gain,” and any gain above the original purchase price gets long-term capital gains treatment, which tops out at 20% in 2026.11Internal Revenue Service. Topic No. 409, Capital Gains and Losses
How the Recapture Is Calculated
Three numbers drive the calculation: your original cost, the total depreciation you claimed, and the sale price. Cost minus depreciation is your adjusted basis. Sale price minus adjusted basis is your gain.12Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (a)(2) The ordinary-income portion is the lesser of the gain or the total depreciation.
A simple example from IRS Publication 544: you buy a light-duty truck for $10,000 and claim $6,160 in MACRS depreciation over three years. Adjusted basis drops to $3,840. You sell the truck for $7,000, producing a $3,160 gain. Because the gain is smaller than the depreciation you took, the whole $3,160 is ordinary income.13Internal Revenue Service. Publication 544, Sales and Other Dispositions of Assets – Section: Section 1245 Property Example
The math splits when you sell above original cost. Say you paid $50,000 for a machine, depreciated it by $20,000 (adjusted basis $30,000), and sold it for $55,000. The total gain is $25,000. Of that, $20,000 (matching the depreciation) is ordinary income. The remaining $5,000 is a Section 1231 gain, eligible for long-term capital gains rates if you owned the asset more than a year.14Internal Revenue Service. Publication 544, Sales and Other Dispositions of Assets – Section: Gain Treated as Ordinary Income
Why Section 179 and Bonus Depreciation Magnify the Hit
Section 179 lets you deduct the full cost of qualifying equipment in the year of purchase, up to $2,560,000 for 2026, with a phase-out beginning at $4,090,000 in total equipment purchases. The One Big Beautiful Bill, signed July 4, 2025, restored 100% bonus depreciation for qualified property acquired after January 19, 2025.15Internal Revenue Service. One, Big, Beautiful Bill Provisions
Fast write-offs mean a low adjusted basis, and a low basis means a bigger gain when you sell. Expense a $200,000 machine entirely through Section 179, then sell it two years later for $120,000, and the entire $120,000 is ordinary income. Your basis is zero, so every dollar of the sale price is gain, and every dollar of that gain sits within the depreciation you already claimed. The statute treats Section 179 deductions as amortization for recapture purposes, folding them into the recomputed basis just like regular depreciation.16Office of the Law Revision Counsel. 26 US Code 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (a)(2)(C) Bonus depreciation works the same way.
Dispositions That Don’t Trigger Recapture
A few situations escape or defer the ordinary-income treatment.
- Death of the owner. Section 1245 recapture is forgiven, and the heir takes a stepped-up basis.17Office of the Law Revision Counsel. 26 US Code 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (b)(2)
- Gifts. The donor owes nothing at the time of the gift, but the recapture potential travels with the asset and lands on the recipient when they eventually sell. A charitable gift’s deduction is reduced by the amount that would have been ordinary income under Section 1245.18Office of the Law Revision Counsel. 26 US Code 1245 – Gain From Dispositions of Certain Depreciable Property – Section: (b)(1)
Like-kind exchanges are no longer an option for this property. The Tax Cuts and Jobs Act limited Section 1031 to real property starting in 2018, so machinery, vehicles, patents, and other Section 1245 personal property can no longer be exchanged tax-free.19Internal Revenue Service. Like-Kind Exchanges – Real Estate Tax Tips Every sale or trade of these assets now produces full recapture.
The Installment Sale Trap
Selling on an installment basis doesn’t spread the recapture over the payment years. The IRS requires you to recognize all depreciation recapture as ordinary income in the year of sale, even before any payments arrive.20Internal Revenue Service. Publication 544, Sales and Other Dispositions of Assets – Section: Installment Sales Only the portion of gain above the recapture amount qualifies for installment reporting. Sellers regularly discover this at tax time, owing a large bill against payments they won’t see for years.
Listed Property and Dropping Business Use
Certain Section 1245 assets get extra scrutiny because they often serve mixed personal and business roles. The IRS calls these “listed property,” and the category includes vehicles, entertainment equipment, and some computers or cell phones used outside a regular business establishment. Accelerated depreciation or a Section 179 deduction on listed property requires qualified business use above 50%.21Internal Revenue Service. Publication 946, How To Depreciate Property – Section: Listed Property
If business use falls to 50% or lower during the recovery period, you must recapture the difference between the accelerated depreciation actually claimed and what straight-line depreciation over the ADS recovery period would have allowed.22Internal Revenue Service. Publication 946, How To Depreciate Property – Section: Recapture of Excess Depreciation That excess becomes ordinary income in the year use drops, and you switch to straight-line for the remaining recovery period. A contemporaneous use log is worth the effort.
Reporting on Form 4797
Section 1245 recapture is reported on IRS Form 4797, Sales of Business Property.23Internal Revenue Service. Instructions for Form 4797 Part III handles the ordinary-income portion; any remaining Section 1231 gain flows through Part I. Listed-property recapture from a drop in business use goes in Part IV. Everything from the form feeds into your return and lifts your taxable income for the year.
Accurate depreciation records are what make this calculation possible. The IRS recommends keeping records through the end of the asset’s recovery period and for at least three years after you file the return reporting the sale.24Internal Revenue Service. Publication 946, How To Depreciate Property – Section: Recordkeeping If your records don’t support a smaller number, the agency is allowed to use the maximum “allowable” depreciation against you, which produces the largest possible recapture.