What is 1250 Recapture?
Section 1250 recapture is the IRS process of taxing the portion of your gain attributed to depreciation on real property.
Depreciation allows property owners to reduce their taxable income over time.
Upon sale, the IRS recaptures some of those deductions by taxing the gain at a higher rate (up to 25%) rather than the usual capital gains rate.
Step-by-Step Guide to Calculating 1250 Recapture
Determine the Amount of Depreciation Taken
- Review your property’s depreciation history.
- The total depreciation claimed on the property reduces its basis (the original purchase price plus improvements).
- Example: If you bought a property for $500,000 and took $100,000 in depreciation, your adjusted basis would be $400,000.
Calculate the Sale Price and Gain
- Identify the sale price of the property.
- Subtract your adjusted basis (purchase price minus depreciation) from the sale price to determine the gain.
- Example: Sale price of $600,000 minus adjusted basis of $400,000 = $200,000 gain.
Identify the Depreciated Portion of the Gain
- The portion of your gain due to depreciation is the recaptured amount.
- The recaptured amount is the lesser of the total depreciation taken or the gain from the sale.
- Example: If $100,000 was depreciated and your gain is $200,000, $100,000 is subject to 1250 recapture.
Apply the 1250 Recapture Rate
The IRS taxes recaptured depreciation at a maximum rate of 25%.
Example: If $100,000 of your gain is subject to recapture, it will be taxed at 25%, resulting in $25,000 in taxes.
Understand the Remaining Capital Gain
Any remaining gain not subject to recapture is taxed at the usual capital gains rate, which may vary based on your income and holding period.
Long-term capital gains are generally taxed at rates between 0% and 20%, depending on your tax bracket.
Conclusion
Understanding how to calculate 1250 recapture is essential for accurately reporting your taxes when selling depreciated real estate. By following these steps—determining depreciation, calculating the sale price and gain, identifying the recaptured portion, and applying the 25% tax rate—you can ensure that you’re prepared for any tax liabilities. Consult a tax professional to ensure you comply with tax laws and optimize your tax strategy.