News & Research Archive

No Appreciation On Your Sale - No Taxes? Think Again...

Oct 02, 2008

Many real estate investors believe that if there is no appreciation on the sale of an investment property, no taxes are owed. This is often incorrect. Because investment properties are depreciated, there is almost always a tax to be paid upon the sale.

Depreciation is a good thing in the year that it is taken. Depreciation offsets rental income, and results in fewer taxes owed on the yearly income a property generates. However, depreciation reduces the tax basis of a property. For example:

  1. Investor acquires a property for $1,000,000
  2. Investor takes $100,000 of depreciation

In the example above, the tax basis in the property is $900,000 ($1MM - $100K).  If the investors sells the property for a price greater than $900,000, gain will be realized and taxes owed.

In our example, the federal government will tax the first $100,000 of gain at a rate of 25%.  This is known as the “depreciation recapture tax”.  Any gains beyond the first $100,000 will then be taxed at the federal capital gains rate of 15%.

Keep in mind, state taxes are owed as well.  In the state of California, the capital gains tax is 9.3%. So if our investor sells the property for a price greater than $900K, the investor will also be liable to the state for taxes.

Two things to keep in mind:

  1. The depreciation recapture tax is an imputed tax, which means investors can be liable for taxes - even if they failed to take depreciation on the property!
  2. Taxes can be deferred by conducting a 1031 Exchange with Asset Exchange Company.

Asset Exchange Company has an Attorney and CPA on staff, so if you have further questions regarding these issues, or any other, please call  877-471-1031.

The subject matter in this article is intended as general information only and not intended as tax or legal advice. Please always consult your tax or legal advisor for any specific tax or legal matters.

Written by: Leonard Spoto


Leonard Spoto is co-founder and principal of Asset Exchange Company. He is a frequent keynote speaker and an accredited course instructor on the subject of 1031 Tax Deferred Exchanges. He has presented his popular real estate and tax workshops to over 6,000 Realtors, lenders, title professionals and investors and is the author of two published 1031 Exchange related articles.

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