What Is Depreciation Recapture? Rules and Rates
Why selling a depreciated asset turns part of the gain into ordinary income, and how much
Reviewed by the Fairlight Accounting cross-border tax team — U.S. & Canadian Tax Desks
Depreciation recapture is the rule that taxes the depreciation you deducted on an asset when you sell it for more than its depreciated value. Instead of the whole gain being capital gain, the portion equal to prior depreciation is taxed as ordinary income (equipment, under section 1245) or at a maximum 25 percent rate (buildings, as unrecaptured section 1250 gain).
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Why does depreciation recapture exist?
Depreciation is a deduction against ordinary income. If an asset is later sold for more than its depreciated basis, the deductions turned out to be larger than the asset's actual decline in value. Recapture reverses that benefit: the gain attributable to depreciation is taxed at ordinary rates (or the special 25 percent rate for real estate) rather than the lower long-term capital gains rate, so the taxpayer does not convert ordinary deductions into capital gain.
The computation starts with adjusted basis: cost, minus depreciation allowed or allowable (the "allowable" rule means depreciation you were entitled to but never claimed still reduces basis — a reason never to skip depreciation). Gain is the sale price less adjusted basis. Recapture then characterizes part of that gain.
How is recapture taxed?
| Asset type | Governing section | What is recaptured | Rate |
|---|---|---|---|
| Equipment, vehicles, furniture, machinery (personal property) | Section 1245 | All depreciation taken, up to the gain | Ordinary income rates |
| Buildings and structural components (real property) | Section 1250 / unrecaptured 1250 gain | Depreciation taken, up to the gain | Maximum 25 percent |
| Land improvements and QIP with bonus or accelerated depreciation | Section 1250 | Depreciation in excess of straight line, then the straight-line portion | Ordinary income rates on the excess; maximum 25 percent on the rest |
| Land | None | Not depreciable — no recapture | Capital gain |
| Section 197 intangibles (goodwill, customer lists) | Section 1245 treatment | Amortization taken, up to the gain | Ordinary income rates |
For personal property, section 1245 recaptures every dollar of depreciation up to the amount of gain; any gain above the original cost is capital gain. For buildings, section 1250 technically recaptures only depreciation in excess of straight line — which for buildings placed in service after 1986 is zero, since they must use straight line — so the practical rule is the unrecaptured section 1250 gain provision: the gain attributable to straight-line depreciation is taxed at a maximum of 25 percent rather than the 15 or 20 percent capital gains rate. The section 1245 vs 1250 guide covers the distinction in detail.
Does recapture apply to section 179 and bonus depreciation?
Yes. Amounts expensed under section 179 or bonus depreciation are treated as depreciation for recapture purposes. A US$50,000 van expensed in full under bonus depreciation and sold two years later for US$35,000 produces US$35,000 of section 1245 recapture — ordinary income — because the adjusted basis was zero. This is the recapture cost of accelerated write-offs, and the reason the trade-off is timing (a deduction now, ordinary income later) rather than a permanent saving when assets are sold rather than used up.
Can a 1031 exchange or an installment sale defer recapture?
A like-kind exchange under section 1031 — now limited to real property — defers the gain, including the unrecaptured section 1250 portion, into the replacement property; the recapture is not eliminated but carried forward. Personal property no longer qualifies for like-kind treatment, so equipment recapture cannot be deferred by exchange. On an installment sale, section 1245 recapture (and any true section 1250 recapture) must be recognized in the year of sale regardless of when payments are received; only the remaining gain is reported on the installment method. Unrecaptured section 1250 gain, by contrast, can be spread with the installments.
What if the asset is sold at a loss?
Recapture only applies to gain. An asset sold for less than its adjusted basis produces a loss (ordinary under section 1231 for business property held over a year, subject to the section 1231 netting rules) and no recapture. Recapture also does not apply to assets that are scrapped or abandoned with no proceeds.
Worked example
A contractor sells a fully depreciated US$48,000 truck for US$21,000: adjusted basis is zero, gain is US$21,000, and all of it is section 1245 recapture taxed as ordinary income. The same contractor sells a shop building bought for US$400,000 (US$80,000 land, US$320,000 building) after eight years of straight-line depreciation totaling US$65,600, for US$520,000. Adjusted basis is US$334,400; gain is US$185,600. Of that, US$65,600 is unrecaptured section 1250 gain taxed at up to 25 percent, and the remaining US$120,000 is long-term capital gain at 15 or 20 percent. Had he exchanged the building for another under section 1031, the entire gain — including the US$65,600 — would have been deferred into the new building.
Frequently asked questions
What is depreciation recapture?
The rule that taxes the depreciation deducted on an asset when the asset is sold for more than its adjusted basis. Equipment recapture is ordinary income; building recapture is taxed at a maximum 25 percent rate.
What rate applies to recaptured depreciation?
Section 1245 recapture on equipment and other personal property is taxed at the taxpayer's ordinary income rate. Unrecaptured section 1250 gain on buildings is taxed at a maximum of 25 percent.
Does recapture apply if I sell at a loss?
No. Recapture applies only to gain. A sale below adjusted basis produces a loss with no recapture.
Can a 1031 exchange defer recapture?
For real property, yes — the gain including the unrecaptured section 1250 portion is deferred into the replacement property. Personal property no longer qualifies for like-kind exchanges.
Official sources
Publication 544 states: “If you dispose of depreciable or amortizable property at a gain, you may have to treat all or part of the gain (even if otherwise nontaxable) as ordinary income.” — Internal Revenue Service, Publication 544, Sales and Other Dispositions of Assets, https://www.irs.gov/publications/p544
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