Depreciation Recapture: What Happens When You Sell?

What is Depreciation Recapture?

Depreciation is a double-edged sword. While it saves you money on taxes every year you own an asset, the IRS wants some of that money back if you sell the asset for more than its "adjusted basis" (purchase price minus total depreciation claimed).

The IRS treats this profit not as a capital gain, but as **ordinary income** (up to the amount of depreciation you took), which is often taxed at a much higher rate.

Two Main Types of Recapture

• Section 1245 Recapture (Equipment & Vehicles): Applies to tangible personal property like machinery, computers, and cars. Any gain up to the total depreciation taken is taxed at your ordinary income tax rate (up to 37%).
• Section 1250 Recapture (Real Estate): Applies to buildings. A portion of the gain related to depreciation is taxed at a maximum rate of 25%, while any remaining gain is taxed at lower capital gains rates.

The "Allowed or Allowable" Trap

A common myth is that you can avoid recapture by simply not claiming depreciation. **This is false.** The IRS calculates recapture based on what was "allowed or allowable." Even if you never took the deduction, you still owe the tax on the amount you *could* have taken.

How to Calculate Recapture Gain

Strategies to Minimize Recapture Tax

1. 1031 Exchanges: For real estate, you can swap one property for another and defer the recapture tax indefinitely.
2. Time Your Sales: If you expect to be in a lower tax bracket next year, wait until then to sell the equipment.
3. Gift or Donate: Giving the asset to a qualified charity can sometimes eliminate the need for the donor to pay recapture tax.