Table of Contents
- What Is an Unrecaptured Section 1250 Gain?
- How Unrecaptured Section 1250 Gains Work
- Recognition of Gains
- Reason for the Rule
- Fast Fact
- Example of Unrecaptured Section 1250 Gains
- Special Considerations
- What Are Examples of 1250 Property?
- How Much Tax Do I Pay on Unrecaptured Section 1250 Gain?
- How Do I Calculate Section 1250 Recapture?
- What Triggers Depreciation Recapture?
- The Bottom Line
What Is an Unrecaptured Section 1250 Gain?
Let me explain what an unrecaptured Section 1250 gain is—it's a type of gain covered by Section 1250 of the U.S. Internal Revenue Code. This rule requires that any depreciation you've previously claimed on depreciable real estate gets recaptured as income when you sell the property and realize a gain.
You'll face a maximum tax rate of 25% on these gains, though it could be lower depending on your situation. You calculate these gains and the taxes using a worksheet in the IRS Schedule D instructions, report them on Schedule D, and then carry them over to your Form 1040.
Key Takeaways
- An unrecaptured Section 1250 gain is an income tax rule that recaptures the part of a gain tied to prior depreciation allowances as income.
- It only applies to sales of depreciable real estate.
- These gains are typically taxed at a maximum of 25%.
- You can offset Section 1250 gains with Section 1231 capital losses.
- Section 1250 covers real property, while Section 1245 handles personal property.
How Unrecaptured Section 1250 Gains Work
Section 1231 assets are depreciable capital assets you've held for more than a year. This section ties into Sections 1245 and 1250, with Section 1250 setting the tax rate for depreciation recapture on real property.
Remember, Section 1250 is strictly for real property like buildings and land. For personal property such as machinery or equipment, depreciation recapture falls under Section 1245 and is taxed as ordinary income.
Recognition of Gains
You only realize unrecaptured Section 1250 gains if there's a net Section 1231 gain. Essentially, capital losses from any depreciable assets will offset these gains on real estate, and an overall net capital loss can bring your unrecaptured Section 1250 gain down to zero.
When you sell depreciated real estate, the Section 1250 gain gets recaptured just like with other assets—the key difference is the tax rate applied.
Reason for the Rule
The purpose of this gain is to counterbalance the benefits you got from those earlier depreciation deductions. The portion linked to accumulated depreciation gets taxed at the Section 1250 rate, but any leftover gains are taxed at the standard long-term capital gains rate of 15%.
Fast Fact
For a capital loss to offset a capital gain, both need to be either short-term or long-term—you can't use a short-term loss against a long-term gain, or the other way around.
Example of Unrecaptured Section 1250 Gains
Suppose you bought a property for $150,000 and claimed $30,000 in depreciation—that adjusts your cost basis to $120,000.
If you then sell it for $185,000, your total gain is $65,000 over that adjusted basis.
Since the sale price exceeds the depreciation-adjusted basis, the unrecaptured Section 1250 gain is the difference between the original purchase price and the adjusted basis, which is $30,000.
That means the first $30,000 of your profit is subject to the unrecaptured gain rules, taxed at up to 25%, while the remaining $35,000 gets the long-term capital gains rate of 15%.
Special Considerations
You can offset unrecaptured Section 1250 gains with capital losses, which you report on Form 8949 and Schedule D. The type of loss—short-term or long-term—affects how much it can reduce your gains.
If you convert a residential property to your primary residence, you might avoid depreciation recapture taxes. Another option is a 1031 like-kind exchange, which defers the tax but doesn't eliminate it.
When you inherit property, it often comes with a stepped-up basis to its fair market value at the time of the original owner's death, which reduces the taxable gain if you sell it later.
What Are Examples of 1250 Property?
Section 1250 property includes things like commercial buildings and residential rental properties. Commercial ones are depreciated over 39 years under MACRS, while residential rentals use a 27.5-year period.
How Much Tax Do I Pay on Unrecaptured Section 1250 Gain?
The top tax rate for unrecaptured Section 1250 gains is 25%.
How Do I Calculate Section 1250 Recapture?
You calculate it as the lesser of two figures: the excess accelerated depreciation over straight-line amounts, or the gain from the sale.
What Triggers Depreciation Recapture?
Depreciation recapture kicks in when the sale price of an asset exceeds its tax basis or adjusted cost basis, and you report the difference as ordinary income.
The Bottom Line
A Section 1250 gain is the taxable profit from selling depreciable real property, governed by IRC Section 1250 on depreciation recapture. When you sell such an asset, the IRS makes you recapture part of the depreciation you've claimed, taxing it at the Section 1250 rate, usually 25%.
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