Recapture Tax Rate
The recapture tax rate is the specific tax rate, typically up to 25%, applied to the portion of a real estate investment's gain that is attributable to previously deducted depreciation when the property is sold.
Key Takeaways
- The recapture tax rate applies to the portion of gain from a property sale that represents previously deducted depreciation.
- For Section 1250 property (most real estate), this rate is typically capped at 25% for Unrecaptured Section 1250 Gain.
- Understanding this rate is crucial for accurate after-tax return calculations and investment exit strategies.
- It is distinct from ordinary income tax rates and long-term capital gains rates, applying specifically to depreciation recapture.
What is the Recapture Tax Rate?
The Recapture Tax Rate refers to the specific tax percentage applied to the portion of a real estate investment's gain that is attributable to previously claimed depreciation deductions upon the sale of the property. This is not a separate tax but rather a specific rate within the broader capital gains tax framework. It primarily addresses the tax treatment of what is known as Unrecaptured Section 1250 Gain, which is the cumulative depreciation taken on a property.
How It Works
When an investor sells a depreciated real estate asset for a gain, the IRS requires a portion of that gain—specifically, the amount up to the total Depreciation Recapture—to be taxed at a special rate. For most real estate (Section 1250 property), this Unrecaptured Section 1250 Gain is taxed at a maximum federal rate of 25%. Any remaining gain above the recaptured depreciation is then subject to the standard long-term Capital Gains Tax rates (0%, 15%, or 20% depending on income). This mechanism prevents investors from benefiting from depreciation deductions at their ordinary income tax rate, only to have the gain taxed at a lower capital gains rate upon sale.
Practical Example
Consider an investor who purchased a rental property for $300,000. Over several years, they claimed $50,000 in depreciation. The property is then sold for $380,000. The Adjusted Basis is $300,000 - $50,000 = $250,000. The total gain is $380,000 - $250,000 = $130,000.
- The first $50,000 of the gain (equal to the total depreciation taken) is considered Unrecaptured Section 1250 Gain and is subject to the 25% recapture tax rate.
- The remaining gain of $130,000 - $50,000 = $80,000 is subject to the investor's applicable long-term capital gains tax rate.
Frequently Asked Questions
What is the maximum federal recapture tax rate for real estate?
For most real estate (Section 1250 property), the maximum federal recapture tax rate on Unrecaptured Section 1250 Gain is 25%. This rate applies to the portion of the gain that represents previously deducted depreciation.
Does the recapture tax rate apply to all property sales?
The recapture tax rate only applies if you sell a depreciated property for a gain. If you sell at a loss or for a price equal to your adjusted basis, there is no gain to recapture, and thus no recapture tax applies. It also doesn't apply to primary residences if no depreciation was claimed.
How does the recapture tax rate differ from ordinary capital gains tax?
The recapture tax rate is a specific rate (up to 25%) applied to the portion of your gain equal to your accumulated depreciation. Ordinary long-term capital gains tax rates (0%, 15%, or 20%) apply to any remaining gain after the depreciation has been recaptured. It's a layer of taxation that comes before the general capital gains rates.