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Capital Gains

  1. Form 1045
  2. Section 1244 Stock
  3. Form 6781
  4. Unrecaptured Section 1250 Gain

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Understanding Unrecaptured Section 1250 Gain

Updated: November 22, 2022

The Internal Revenue Service serves a distinct purpose. They help most taxpayers understand all the different tax laws to follow. As well, the IRS ensures noncompliant taxpayers still pay what they owe.

Essentially, the IRS is responsible for making various tax rules that you and your business must adhere to. This can relate to several financial situations, like gains and losses and depreciation. Unrecaptured section 1250 gain is one of these documents. Continue reading to learn everything you need to know.

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    KEY TAKEAWAYS

    • An unrecaptured section 1250 gain is an income tax provision.
    • It is designed to recapture the portion of a gain that is related to previously used depreciation allowances.
    • This gain only applies to the sale of real estate with depreciable value.
    • Gains from unrecaptured section 1250 are typically taxed at a rate of no more than 25%.
    • Gains under Section 1250 may be reduced by capital losses under Section 1231.

    What Is an Unrecaptured Section 1250 Gain?

    Unrecaptured section 1250 gain is a tax rule made by the Internal Revenue Service (IRS) under which previously recognized depreciation is turned back into income. This occurs when a gain on the sale of depreciable real estate property is realized. As of 2019, unrecaptured section 1250 gains are subject to a maximum tax rate of 25 percent, or less in specific circumstances.

    Schedule D instructions include a worksheet for calculating unrecaptured section 1250 gains, which are then reported on Schedule D and carried over to the taxpayer’s 1040.

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    How Unrecaptured Section 1250 Gains Work

    All depreciable capital items owned by a taxpayer for a period of time that is longer than a year are included in section 1231 assets. The assets covered by section 1231 fall under sections 1245 and 1250, the latter of which establishes the tax rate for depreciation recapture. Real estate, like houses and land, is the only type of property covered under Section 1250. According to section 1245, personal property including machinery and equipment, is subject to depreciation recapture as ordinary income.

    Only when there is a net Section 1231 gain are unrecaptured section 1250 gains realized. In essence, unrecaptured section 1250 gains on real estate are countered by capital losses on all depreciable assets. The unrecaptured section 1250 gain is therefore equal to zero when there is a net capital loss overall.

    How to Report Uncaptured Section 1250 Gain

    Uncaptured Section 1250 gains are reported on Form 4797, and the sum is subsequently transferred to Schedule D. You can use the worksheets and in-depth explanations in the Schedule D guidelines to aid you with your calculations. 

    Line 16 of your Form 1040 tax return should be filled out with the resulting tax amount.

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    How Much Are Taxes on Unrecaptured Section 1250 Gains?

    Unrecaptured Section 1250 gains are taxed at a maximum rate of 25%, which is significantly higher than two of the three long-term capital gains tax rates, which range from 0% to 20%, depending on your income. Most taxpayers pay a long-term capital gains rate of 0% or 15%, which is at least 10% lower than the unrecaptured Section 1250 rate.

    If you accepted installment payments after 1999, the 25 percent rate applies to money received in the first through fourth years. After the first four years, certain earnings may be subject to a 20 percent tax, which is still greater than the long-term capital gains tax rate for the majority of taxpayers.

    Unrecaptured Section 1250 Gains Example

    Suppose you spent $400,000 on a rental property in 2022. It may be written off over a five-year period. By dividing $400,000 by 5, you can see that you could depreciate the property by $80,000 every year. In 2022 and 2023, you claim depreciation of $160,000. Your cost basis is reduced to $240,000 as a result. This would be $400,000 less than $160,000 in claimed depreciation.

    In 2024, you sell the house for $500,000. According to Section 1250 regulations, instead of realizing a gain of $100,000 you’ve actually realized a gain of $260,000. Which is $500,000 minus your $240,000 basis adjusted for depreciation. Your $160,000 in claimed depreciation is reclaimed and subject to a maximum of 25 percent tax. The more advantageous long-term capital gains tax rate of merely 15% is only applied to the remaining $100,000.

    Summary

    An unrecaptured Section 1250 gain essentially stops you from taking a double-dip tax break. In order to make up for the depreciation you claimed, it alters the rate at which realized gains are taxed. It, therefore, prevents you from deducting your entire earnings at preferential long-term capital gains rates.

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    FAQS on Unrecaptured Section 1250 Gain

    How Are Unrecaptured Section 1250 Gains Taxed?

    Gains from unrecaptured section 1250 are typically taxed at a rate of no more than 25%.

    How Is Unrecaptured 1250 Gain Calculated?

    Line 26g on Form 4797 is subtracted from the smaller of lines 22 or 24, which is then used to calculate the unrecaptured 1250 gain.

    Is Unrecaptured 1250 Gain Ordinary Income?

    Unrecaptured Section 1250 gain refers to any gain that is greater than the sum classified as ordinary income due to Section 1250 recapture but does not exceed the total claimed depreciation.

    Where Does Unrecaptured Section 1250 Gain Get Reported?

    The Unrecaptured Section 1250 Gain Worksheet within Schedule D is used to calculate and report the unrecaptured gain. These are then carried through to the taxpayer’s 1040.

    Capital Gains

    1. Form 1045
    2. Section 1244 Stock
    3. Form 6781
    4. Unrecaptured Section 1250 Gain

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