Tax Consequences - Depreciation Recapture

Depreciation Recapture

Section 1245 Recapture
This requires any recognized gain to be treated as "ordinary income" to the extent of depreciation taken on the property disposed of up to the gain recognized. This includes ALL modified accelerated cost recovery system (MACRS) property, except residential real property (27.5 year class) and nonresidential real estate (39 year class).

Types of Section 1245 Property includes depreciable:

Any gain above the recapture amount is treated as a capital gain.

The exam will sometimes refer to "depreciation taken" as "cost recovery deductions (CRD)"

Example:
Sue purchased equipment at $20,000 to use in her business. She has taken $9,500 in depreciation on the equipment. In January, she sold the equipment for $22,000. How much of the gain must be recaptured as Section 1245 gain, and how much is treated as Section 1221 capital gain?

Original Cost - $20,000
Sale Price - $22,000
Depreciation - 9,500
Less Adj. Basis - 10,500
Adjusted basis - $10,500
Gain - $11,500

Section 1245 Gain= $9,500 (same as depreciation amount) - treated as ordinary income
Section 1221 Gain= $2,000 ($11,500- $9,500) - treated as capital gain

Section 1250 Recapture
This recapture provision was established to prevent individuals from receiving both long-term capital gain treatment, and receiving accelerated depreciation benefits on the same property. This property is the depreciable real estate property.

Treatment of Gains:
25% maximum capital gains rate (gains applied to straight-line depreciation)
20% capital gains rate (any gains not attributable to depreciation)

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