Depreciation Recapture 2026: The 25% Rental Tax Trap Explained

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Quick Answer

When you sell a rental property, the IRS may tax the depreciation you claimed (or could have claimed) at up to 25%. This is called depreciation recapture, and it often surprises property owners when they sell their rental property.

Even if you never claimed depreciation on your tax returns, the IRS may still assume depreciation was taken and tax you on it when you sell.

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Why Depreciation Exists

Rental property owners are allowed to deduct depreciation each year because the IRS assumes buildings wear out over time.

For residential rental property, the building value is typically depreciated over 27.5 years.

Note: This applies to residential property. Commercial property is depreciated over 39 years.

Example

Item	Amount
Purchase Price	$500,000
Land Value	$100,000
Building Value	$400,000
Annual Depreciation	$14,545

Even if the property increases in value, you still deduct depreciation each year.

This is why many rental properties show taxable losses even when they produce positive cash flow.

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What Is Depreciation Recapture?

When you sell a rental property, the IRS separates your profit into two parts:

Profit Type	Tax Treatment
Depreciation Recapture	Taxed up to 25%
Remaining Gain	Capital gains tax

So the tax is not just capital gains — depreciation recapture is often the bigger surprise.

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Example of Depreciation Recapture

Item	Amount
Purchase Price	$400,000
Sold Price	$600,000
Total Depreciation Taken	$80,000

Tax Calculation

Type	Amount
Depreciation Recapture	$80,000 × 25% = $20,000
Remaining Gain	$120,000
Capital Gains Tax	Depends on tax rate

So even before capital gains tax, the seller already owes $20,000 depreciation recapture tax.

This is why many sellers are surprised at closing.

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Understanding Adjusted Basis (Very Important)

Depreciation reduces your property’s cost basis, which increases your taxable gain when you sell.

Formula

Adjusted Basis = Purchase Price + Improvements − Depreciation

Example

Item	Amount
Purchase Price	$400,000
Improvements	$20,000
Depreciation	$80,000
Adjusted Basis	$340,000

If you sell for $600,000:

Total Gain = 600,000 − 340,000 = $260,000

This gain includes:

• Depreciation recapture
• Capital gains

🧮 Calculate your basis: Use our FIRPTA Withholding Calculator to see how your estimated gain affects your bottom line.

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⚠️ Important Rule Many Investors Don’t Know

Even if you did NOT claim depreciation, the IRS still assumes depreciation was taken and will calculate recapture anyway.
This is called “Allowed or Allowable Depreciation.”
Not claiming depreciation usually does NOT avoid recapture tax.

This surprises many first-time rental property owners.

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Technical Note (IRS Term)

The IRS formally calls depreciation recapture:

Unrecaptured Section 1250 Gain

You may see this term on:

• Schedule D
• Form 8949
• Capital gains worksheets

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FIRPTA + Depreciation Recapture (Foreign Sellers)

If you are a foreign property owner selling U.S. real estate, there is another layer called FIRPTA withholding.

At closing:

• The buyer must withhold 15% of the gross sales price
• This is not the final tax
• It is just a withholding

Important:
FIRPTA withholding does NOT consider depreciation recapture.

So a foreign seller may:

• Have 15% withheld at closing
• Still owe depreciation recapture tax when filing taxes
• Or receive a refund depending on total tax

This is why tax planning is very important before selling rental property.

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How Investors Avoid Depreciation Recapture Tax

Most investors do not actually pay depreciation recapture tax when selling because they use a 1031 exchange.

A 1031 exchange allows you to:

• Sell an investment property
• Buy another investment property
• Defer capital gains tax
• Defer depreciation recapture tax

🔄 Thinking of a swap? See our 1031 Exchange Timeline Guide to make sure you don’t miss the 45-day window.

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Pro Tip

Depreciation recapture is taxed at your ordinary income tax rate (up to 37%), but capped at 25%.

So if you are in a lower tax bracket, your recapture tax may actually be less than 25%.

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Why This Matters for Immigrant Property Owners

Many immigrant homeowners follow this path:

1. Buy home
2. Move for job
3. Convert home to rental
4. Keep for a few years
5. Sell property
6. Unexpected depreciation recapture tax

Understanding depreciation recapture early helps you plan:

• When to sell
• Whether to keep renting
• Whether to use a 1031 exchange
• How much tax you may owe

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Final Thoughts

Depreciation reduces your taxes while you own a rental property, but when you sell, part of that benefit may be paid back through depreciation recapture tax.

Many long-term investors plan ahead using:

• 1031 exchanges
• Exit strategy planning
• Long-term rental holding
• Portfolio scaling

Understanding depreciation recapture is an important part of long-term real estate planning.

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