What Is Depreciation Recapture?
When a Florida real estate investor owns a rental property, they deduct depreciation from their taxable income every year. Over 27.5 years (residential) or 39 years (commercial), these deductions can total hundreds of thousands of dollars in tax savings.
But the IRS does not let investors keep those tax benefits forever. When the property is sold, the IRS "recaptures" those depreciation deductions by taxing them at a special 25% recapture rate (Section 1250 of the Internal Revenue Code). This is called depreciation recapture.
How It Works
Consider this example: An investor buys a commercial building for $1,000,000 and claims $300,000 in total depreciation deductions over 12 years. The investor then sells the building for $1,200,000.
- Capital Gain: $1,200,000 sale price minus $700,000 adjusted basis (original cost minus depreciation) = $500,000 total gain.
- Depreciation Recapture: $300,000 of that gain is taxed at the 25% recapture rate = $75,000 in recapture tax.
- Remaining Capital Gain: $200,000 is taxed at the long-term capital gains rate (typically 15% or 20%) = $30,000 to $40,000.
- Total Tax Bill: Approximately $105,000 to $115,000.
Avoiding Recapture with a 1031 Exchange
The most powerful tool for deferring depreciation recapture is a 1031 Exchange. By reinvesting the sale proceeds into a like-kind replacement property within strict IRS timelines, the investor defers both the capital gains tax AND the depreciation recapture tax indefinitely. Many sophisticated investors use sequential 1031 exchanges throughout their career, never paying recapture until they die, at which point their heirs receive a stepped-up basis that eliminates the recapture entirely.
Related Terms
- Depreciation — The annual deductions being recaptured at sale
- Cost Segregation — Accelerates depreciation, increasing the recapture amount
- Capital Gains Exclusion — Applies to primary residences, not investment properties
Barnes Walker Tax-Optimized Dispositions
Barnes Walker's real estate tax attorneys structure Florida investment property sales to minimize depreciation recapture exposure, coordinating 1031 exchanges, installment sales, and charitable trust strategies that defer or eliminate the 25% recapture tax. Request a legal inquiry for assistance.
Reviewed by the attorneys at Barnes Walker, Goethe, Shea & Robinson, PLLC