Selling a Rental Property

[taxquestion222]

Hi all,

we plan to sell a rental property this year. Several questions. Thanks in advance:

1) Owned for 12 years as a rental property, and took depreciation. Do we need to pay the long term capital gains and depreciation recapture as estimated taxes, or do we wait until we file our 2024 taxes next year?

2) Is the long term capital gain calculated as simply sale price minus purchase price and expenses? Or is it sale price minus purchase price, expenses, and depreciation recapture?

3) Am I correct that long term capital gains are separate from our AGI? They are taxed at their own rate? Or does it take into account the total income?

4) Is it correct that our tax rate affects the rate for depreciation recapture, or is it a flat 25%?

5) What expenses can be deducted before calculating long term capital gains? For example, we are putting in French drains immediately before selling. Can I deduct that? What about the AC system we installed last year? And the new roof a few years ago?

thanks!

[LeticiaF1]

The sale of the rental property and any taxes due will be calculated when you file your 2024 taxes.   You might want to make some estimated tax payments throughout the year, once the property is sold.   Since you have owned the property you will qualify to use the long-term capital gain.  To calculate your gain you will have to calculate your basis for the property, all of the following are included in your basis:

• Your original purchase cost 
• The costs of any improvements that were made to the property
• Closing costs, like title insurance, and recording fees
• Depreciation recapture

Your AGI includes all income from all sources and when your tax is calculated, it will be a combination of all the income you had for the year.  Your total income will affect how much tax you pay on the depreciation recapture because, unlike capital gains, it is taxed at an ordinary tax rate.  For more information see the following:

Estimated Taxes: How to Determine What to Pay and When

Sale or trade of business, depreciation, rentals

[Anonymous_]

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@taxquestion222 wrote:

.....Is it correct that our tax rate affects the rate for depreciation recapture, or is it a flat 25%?

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Federal income tax on "depreciation recapture" is taxed at a rate of 0-25%, depending, but it is capped at a maximum of 25%.

Similarly, the federal income tax rate on long-term capital gains is taxed at a rate of 0-20% but is capped at a maximum of 20%.

[Mike9241]

3) Am I correct that long term capital gains are separate from our AGI? They are taxed at their own rate? Or does it take into account the total income?

Other income is taken into account in determining thecapital gains rate. But the rate can not exceed 20% except for the Net Investment Income Tax

very rough example 

if income was only $50K LT capital gain, federal tax would be 0

add$120K ordinary income to that and the tax is around $18K with the tax on the $50K being$7.5K 

 4) Is it correct that our tax rate affects the rate for depreciation recapture, or is it a flat 25%?

your marginal tax rate with 25% being the max

there is one other tax to consider and that's the Net Investment Income Tax.

filing jointly net investment income in excess of $250,00 is taxed at an additional 3.8% - see form 8960

[taxquestion222]

Thanks, this is helpful. So if I understand correctly, the depreciation recapture gets subtracted from “profit”? Is the entire recapture subtracted, or just the % paid on it.  

Also, do I need to know each year’s depreciation to calculate the recapture? Does it change? Or is it a percentage? Not entirely sure I’ll be able to locate our tax return from 10 years ago, for example.  

[Anonymous_]

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@taxquestion222 wrote:

So if I understand correctly, the depreciation recapture gets subtracted from “profit”? Is the entire recapture subtracted, or just the % paid on it.  

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Accumulated depreciation (i.e., the total of all of the depreciation deductions you have taken or should have taken over the years) lowers your adjusted basis; it's not just the percentage you paid.

Example (ignoring improvements): 

Cost basis (purchase price): $1,000

Total depreciation deductions: $400

Adjusted basis = $600

Sales price (less selling expenses): $2,000

LESS adjusted basis: $600

Gain = $1,400 ($400 of which is depreciation recapture)

[Anonymous_]

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@taxquestion222 wrote:

Also, do I need to know each year’s depreciation to calculate the recapture? 

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You need to know the total (accumulated) depreciation deductions taken.

TurboTax can make that calculation if you simply enter your basis and the placed-in-service date.

[taxquestion222]

Does this mean depreciation affects us twice? In your example depreciation makes our profit 1400 instead of 1000, which will affect amount of long term gains? Do we also then have to pay the recapture? Or am I missing something?

[Anonymous_]

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@taxquestion222 wrote:

Does this mean depreciation affects us twice? 

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No, it means you get taxed only once but at potentially different rates.

For the sake of simplicity, the $400 (recapture) could be taxed at a rate up to 25% while the $1,000 would be taxed at a rate up to 20% (plus NIIT, if you exceed the threshold for that). 

[taxquestion222]

I think this shows I’m going to need a tax accountant to help tackle this one. The question I’m still unclear about is:

Let’s assume the sale of the property occurs in July. Do I need to pay estimated taxes in Q3, and do I need to pay the depreciation recapture in Q3, to avoid penalties? Or does this wait until I file my 2024 return in approx Feb of next year? This way I know when to seek an accountant. 

[Anonymous_]

See https://www.irs.gov/publications/p505#en_US_2025_publink1000194557

It would be a good idea to make an estimated tax payment in Q3 if you have a large gain.