Tax On Recaptured Depreciation
Question ; At the time of sale is recaptured depreciation added to the gain on the sale to be taxed at the capital gain rate or is recaptured depreciation taxed separately at ordinary income rate?
I have been getting conflicting opinions on this, thanks!
Simple example:
Property bought for $70, sold for $120, depreciation taken $10 (so your adjusted basis is 70-10=60). Total gain is $60, 10 of which is taxed at 25%, 50 is taxed at capital gains rate (max 15%) assuming you have held > 1 yr.
Same situation except you sold for $65. Total gain is $5, depreciation recapture is still 10, but limited to your total gain. So, all $5 of gain is taxed at 25%.
Hope this helps.
Anyone out there know the answer to this. I know depreciation must be recaptured, but under what classification is it taxed? Cap gains or regular income or???
Thanks
Check out this old article
How Depreciation Is Recaptured.
It answers all your questions. Print it out and give a copy to all the people who are giving you conflicting opinions. Note that after this article was written, the long term capital gains tax rate was reduced from 20% to 15%.[ Edited by DaveT on Date 01/28/2005 ]
Still not clear to me. If I sell a house that has gone up in value $40k and depreciated $20k, then how are the two different amounts handled?
The gain is on schedule D..? Taxed at what %?
Where does the reclaimed depreciation get taxed and for how much?
That leads to one more question, should a house be depreciated if held for only a few years? May mean more taxes paid out later vs now?!
ddstew[ Edited by ddstew on Date 01/28/2005 ]
My understanding is when you depreciate your property it reduces your basis on the property (I.e you pay $40K for a property and depreciate it 15K over the next couple of years then your tax basis is 25K so if you sold it for $50K then you would have to pay 15% long term cap gains taxes on $25K (assuming you held over a year). The way I look at it is that the year to year depreciation is a just a delay in taxes (for the most part)
So is the depreciation part taxed at 25% flat or taxed at your income bracket?
Great response. I finally understand it now. Thanks to all who responded.
Looks like a great deal of information has been posted to answer the question. A little clearer...
Really clear on the long term and short term gain filing.
However, recapture is placed where on tax when filed?
Do I have to depreciate?
Reason, looking to sell two years from purchase and if the recature costs more tax then will not depreciate...
:-?
Thanks!
I think I have it now... The gain and recapture are both accomplished on the Sch D!?
The recapture would be based on the gain as to cost vs sales price. If the cost is not adjusted by depreciation, then no recapture.
Thanks!!
ddstew
Ok, must depreciate now and pay tax at some future date, if not tranferred tax free.
ddstew[ Edited by ddstew on Date 01/30/2005 ]
Gains from straight line depreciation are called "unrecaptured Section 1250 gains" and are taxed as capital gains subject to 25% rate.
Any gain on the sale beyond depreciation is either a short-term capital gain or a long-term capital gain. Short-term is taxed at your tax bracket rate with a max rate of 35%. Long-term is taxed at 5% if you are in the 10% or 15% tax bracket and 15% if your are in a 25% and higher tax bracket with a max rate of 15%.
How is the depreciation taxed? By way of the Schedule D or on another form?
ddstew
NewKiddInTown,
You are correct. Depreciation recaputure is taxed at a flat rate of 25% plus state taxes if any.
[addsig]
I just looked at Form 4797 and the Schedule D worksheets. Unrecaptured 1250 gain is always multiplied by 25%. There are no step downs for lower tax brackets. I conclude from this that the depreciation recapture is a flat 25% for all tax brackets.
I would not cash out unless you really need to or want to. You should always defer any capital gain when ever possible so that 100% of your funds continue to work for you. Just my two cents.
Next, I would seriously look at completing a 1031 exchange as you have suggested and rent the house out for 12 to 18 months and then move into it and convert it to your primary residence so that you can exclude most of your gain under section 121 after you have owned the property for the new five year holding period. If you think the gain will be too much, then you might consider buying two SFR and go through the above process and then do the same to the other one.
I would not cash out unless you really need to or want to. You should always defer any capital gain when ever possible so that 100% of your funds continue to work for you. Just my two cents.
Next, I would seriously look at completing a 1031 exchange as you have suggested and rent the house out for 12 to 18 months and then move into it and convert it to your primary residence so that you can exclude most of your gain under section 121 after you have owned the property for the new five year holding period. If you think the gain will be too much, then you might consider buying two SFR and go through the above process and then do the same to the other one.