If you decide to sell your rental property for more than its current depreciated value, you will be required to pay what is referred to as the depreciation recapture tax. Essentially, this amounts to a 25 percent tax on the amount above depreciation value that your property sells for.
How is depreciation recapture taxed on real estate?
Depreciation recapture on real estate property is not taxed at the ordinary income rate as long as straight-line depreciation was used over the life of the property. Any accelerated depreciation previously taken is still taxed at the ordinary income tax rate during recapture.
Can rental property depreciation offset ordinary income?
Depreciation is one of the biggest and most important deductions for rental real estate investors because it reduces taxable income but not cash flow. That’s a huge benefit that can offset the income generated by the rental property—ultimately lowering your year-end tax burden.
Do you pay recapture tax when you sell a rental property?
When you sell your rental property, you typically have to pay a depreciation recapture tax if you sell the property for more than its depreciated value. The depreciation recapture tax is typically 20 percent plus the state income tax on the depreciation amount that you claimed.
How does depreciation recapture affect real estate investors?
Rental property depreciation recapture is the gain that the real estate investor receives from selling the investment property, and it must be reported as income to the IRS. This can hurt an investor because it’s additional income that you have to pay taxes on based on your ordinary tax rate, which can be in addition to capital gains tax.
What’s the loss on the sale of a rental property?
And because the IRS requires you to recapture your depreciation, you come out with a gain of $5,000—not terrible! Gains from the sale of rental property are taxed as capital gains, but a loss on sale of rental property is considered an “ordinary loss.”
When does the depreciation of a rental property end?
Depreciation ends when you sell the property or take it out of service, such as if you decide to use it as your primary residence. Depreciation of rental property covers major repairs that are capitalized, but you can’t use it to offset the cost of rental property normal wear and tear.
