Understanding Depreciation Recapture:
A Guide for Taxpayers and CPAs

Property Covered

Section 1250 applies to depreciable real property such as buildings and their structural components, but only if that property is not treated as Section 1245 property.

Amount of Recapture

The rules differ from Section 1245:

• Section 1250 only recaptures “additional depreciation”—that is, depreciation taken above what would have been allowed under straight-line.
• For most property placed in service after 1986, only straight-line depreciation is permitted, so Section 1250 recapture is often minimal or nonexistent.

Examples:

• If property is held one year or less, all depreciation is recaptured as ordinary income.
• If held more than one year, only accelerated depreciation above straight-line is recaptured.

Unrecaptured Section 1250 Gain

Even when no “additional depreciation” exists, the portion of gain attributable to straight-line depreciation does not escape tax preference entirely. Instead, it is taxed as unrecaptured Section 1250 gain at a maximum rate of 25%.

Reporting

Section 1250 recapture is reported on Form 4797. The unrecaptured gain portion flows to Schedule D and is taxed separately from long-term capital gains.

Special Considerations

Several provisions can affect how recapture is applied:

• Section 179 Deductions: If Section 179 is claimed on property (real or personal), it is treated as Section 1245 property, resulting in full recapture of depreciation as ordinary income.
• Bonus Depreciation: Accelerated depreciation (e.g., on Qualified Improvement Property) can create additional Section 1250 recapture.
• Like-Kind Exchanges and Involuntary Conversions: Under Sections 1031 and 1033, recapture can be deferred, but any recognized gain is still subject to recapture rules.
• Partnership Interests: Selling a partnership interest can trigger recapture under Section 751 to the extent the partnership owns Section 1245 or 1250 property.
• Investment Tax Credit (ITC): Basis adjustments tied to ITC are treated as depreciation for recapture purposes.

Practical Implications for Taxpayers and CPAs

• Accurate Classification: Properly categorizing property as Section 1245 or 1250 is essential to avoid misreporting.
• Transaction Planning: Understanding how recapture applies can influence decisions about when and how to sell or exchange property.
• Impact of Accelerated Depreciation: Bonus depreciation and Section 179 elections can increase future recapture exposure.
• Asset Tracking: Reviewing fixed asset ledgers and considering partial asset dispositions may help reduce unnecessary recapture.
• Rate Considerations: Since Section 1245 recapture is taxed as ordinary income, high-income taxpayers may face significantly higher effective tax rates than if the gain were taxed as capital gain.