When you sell a rental you have owned for years, the depreciation you deducted along the way comes back into the calculation. The portion of your gain that matches that depreciation is unrecaptured section 1250 gain, and the IRS is direct about the rate: "The portion of any unrecaptured section 1250 gain from selling section 1250 real property is taxed at a maximum 25% rate" (IRS Topic 409). That slice is figured before the ordinary capital-gain rates touch anything, so a landlord expecting to pay 15% on the whole gain is usually low by tens of thousands of dollars.

The second half of the surprise is the word allowable. IRS Publication 946 states the rule flatly: "You must reduce the basis of property by the depreciation allowed or allowable, whichever is greater." Skipping the deduction does not spare you the tax on the way out - it only means you paid full freight for years and still hand back the same number at closing. On a house held two decades, the depreciation figure is frequently the single largest line in the whole calculation.

Where the Number Comes From: 27.5 Years and a Land Split

Residential rental property is depreciated under MACRS over a 27.5-year recovery period using the straight line method and the mid-month convention (IRS Publication 527; Publication 946). Land is excluded — Publication 527 puts it plainly: "You can't depreciate the cost of land because land generally doesn't wear out, become obsolete, or get used up." So the annual deduction is the building portion of your basis divided by 27.5, and the land allocation you made on the first Schedule E quietly governs the recapture math forever.

Work an Ohio example. You bought a rental in 2004 for $150,000 and allocated $30,000 to land and $120,000 to the structure. That is $4,363.64 of depreciation a year. Held through a 2026 sale, twenty-two full years of it comes to roughly $96,000. Your adjusted basis is no longer $150,000; it is about $54,000. Sell at $265,000 with $16,000 of closing costs and commission and you realize $249,000, for a total gain near $195,000 — on a house that appreciated $115,000.

Why It Is 25% and Not Your Ordinary Income Rate

There are two different things people call "recapture," and only one of them is ordinary income. True section 1250 ordinary recapture applies to additional depreciation, which the Form 4797 instructions define as "the excess of actual depreciation (including any special depreciation allowance, or commercial revitalization deduction) over depreciation figured using the straight line method." A residential rental depreciated on the straight line MACRS schedule has no excess over straight line, so for most landlords that figure is zero.

What is left is unrecaptured section 1250 gain: still capital gain, but stripped out of the 0/15/20% brackets and taxed at that maximum 25%. Read maximum literally. It is a ceiling, not a flat rate — a retired landlord with modest other income can land under it. Running the example above, the first $96,000 of gain is taxed at up to 25% (about $24,000 at the ceiling) and the remaining $99,000 falls into the ordinary long-term rates, $14,850 at 15%.

The Appliances and the Carpet Are Taxed Differently

If you ever broke out appliances, carpeting, or equipment and depreciated them on a shorter life, those are section 1245 property, not section 1250. Publication 544 treats gain on section 1245 property as ordinary income to the extent of the depreciation previously claimed — taxed at your regular bracket, with no 25% ceiling over it. The dollars are usually small next to the building, but they are the piece that shows up as ordinary income on the return and makes the total look wrong to someone who was only expecting capital gain.

The 3.8% That Rides Along

The Net Investment Income Tax is an additional 3.8% that the IRS applies to net investment income — "interest, dividends, capital gains, rental and royalty income, and non-qualified annuities" — for taxpayers over a modified adjusted gross income threshold of $200,000 single or head of household, $250,000 married filing jointly, and $125,000 married filing separately. A large one-time gain is exactly the event that pushes an otherwise ordinary income into that range for a single year. In the example, 3.8% on $195,000 is another $7,410, taking the federal total to roughly $46,000.

Ohio Sees the Same Gain

Ohio's income tax starts where the federal one leaves off: ORC 5747.01(A) defines Ohio adjusted gross income as "federal adjusted gross income, as defined and used in the Internal Revenue Code, adjusted as provided in this section." The gain arrives on the Ohio return already computed. Whether any of it is "business income" under ORC 5747.01(B) — which reaches gain "from real property… if the acquisition, rental, management, and disposition of the property constitute integral parts of the regular course of a trade or business operation" — and therefore touches the Ohio business income deduction is genuinely fact-specific, and this article will not guess at it for you. That is a question for a CPA who can see your returns.

If You Lived There First, the Home-Sale Exclusion Does Not Cover It

Landlords who converted a former residence often assume the $250,000 / $500,000 exclusion under section 121 absorbs everything. It does not absorb the depreciation. Publication 523: "You can't exclude the portion of gain equal to any section 1250(b)(3) depreciation adjustments allowed or allowable after May 6, 1997." Separately, periods after 2008 when the home was not your principal residence are, with exceptions, nonqualified use that limits the exclusion further. Meeting the two-of-the-last-five-years ownership and use tests shelters appreciation; it never shelters the depreciation.

Seller Financing Does Not Spread It the Way You Think

Carrying paper feels like the obvious fix — spread the payments, spread the tax. Partly true, with two hard edges. Publication 537: "If you sell property for which you claimed or could have claimed a depreciation deduction, you must report any depreciation recapture income in the year of sale, whether or not an installment payment was received that year." That accelerates the section 1245 items into year one regardless of what you collect. And under 26 CFR 1.453-12, where an installment sale produces both kinds of gain, "the unrecaptured section 1250 gain is taken into account before the adjusted net capital gain" — the 25% layer comes out of the early payments, not the last ones.

What Actually Removes the Bill

Two things do, and neither is a loophole. A properly structured like-kind exchange under section 1031 defers the gain into the replacement property rather than erasing it, which is the subject of tomorrow's post. And basis resets at death: Publication 551 states that generally the basis of inherited property is "The FMV of the property at the date of the individual's death," which is why an aging landlord's accountant sometimes advises holding rather than selling. Everything else — timing the sale into a low-income year, harvesting losses, watching the NIIT threshold — reduces the number at the margins. Selling costs and capital improvements raise basis and are worth reconstructing carefully before closing; a receipts box in the basement is often worth more than any strategy in this paragraph.

Frequently Asked Questions

Do I owe depreciation recapture if I never claimed depreciation on my rental?

Generally yes. IRS Publication 946 requires you to reduce basis by the depreciation "allowed or allowable, whichever is greater," so the calculation runs on what you were entitled to deduct even if you never took it. Publication 946 also describes correcting missed depreciation through an amended return or a change in accounting method on Form 3115. Ask a CPA before selling, not after.

Is depreciation recapture on a rental house taxed as ordinary income?

Usually not for the building. Because residential rental property is depreciated straight line, there is generally no additional depreciation to recapture as ordinary income, and the depreciation-driven gain is unrecaptured section 1250 gain taxed at a maximum 25% rate under IRS Topic 409. Separately depreciated section 1245 items such as appliances are recaptured as ordinary income.

Does the 25% rate apply even if I am in a lower tax bracket?

No. Topic 409 describes 25% as a maximum rate, not a flat one. A seller whose other income is low enough may pay less than 25% on the unrecaptured section 1250 portion. The only way to know your figure is to run the actual return, because the gain itself changes which brackets you land in.

Can the home sale exclusion cover depreciation from years I rented the house out?

No. Publication 523 states you cannot exclude gain equal to depreciation adjustments allowed or allowable after May 6, 1997. The section 121 exclusion of $250,000, or $500,000 for a married couple filing jointly, applies to appreciation once the ownership and use tests are met, but the depreciation portion is carved out of it.

Will selling on contract let me pay the recapture over several years?

Only partly. Publication 537 requires depreciation recapture income to be reported in the year of sale whether or not you received a payment that year, and 26 CFR 1.453-12 takes unrecaptured section 1250 gain into account before other long-term capital gain. The 25% layer is front-loaded across your installments rather than spread evenly.

Related Reading

• Sell a rental property with tenants in Ohio — what changes when the building is still occupied at closing.
• Sell a house with back taxes or liens in Ohio — when the tax problem is on the property, not the return.
• Sell a house as-is in Ohio — for a rental you would rather not renovate first.
• Get a cash offer on your Ohio home

This article is general information about Ohio real estate and is not legal, tax, or financial advice. Foreclosure, probate, bankruptcy and title matters are fact-specific — consult a licensed Ohio attorney or CPA about your situation. We are a licensed Ohio real estate brokerage, not a law firm.