Deprecation Recapture Tax Rate?

Question

How do you determine the the tax rate for depreciation recapture? When you recapture the depreciation when you sell a property, is the recapture tax rate based on your ordinary tax rate at that given time? For example, if I have $100k in deprecation to recapture, and my ordinary income tax rate that year is 15%, would I pay $15k in tax? If I my tax rate were 0% would I pay $0? Is there a minimum and/or maximum depreciation recapture tax bracket?

Thank you in advance!

Michael Plaks · Answer

I'd flip your thinking. Find the right moment to sell first, regardless of taxes. Then, in the year when you plan to sell consider tax mitigating strategies, cost segregation (on other properties) being one option. However it's not always the best idea to use cost seg against the gains on sale, including against depreciation recapture. Everything is case by case.

Ashish Acharya · Answer

Bob,

(FROM IRS) What individuals are subject to the Net Investment Income Tax?

Individuals will owe the tax if they have Net Investment Income and also have modified adjusted gross income over the following thresholds:

Filing Status

Threshold Amount

Married filing jointly

$250,000

Married filing separately

$125,000

Single

$200,000

Head of household (with qualifying person)

$200,000

Qualifying widow(er) with dependent child

$250,000

Taxpayers should be aware that these threshold amounts are not indexed for inflation.

If you are an individual who is exempt from Medicare taxes, you still may be subject to the Net Investment Income Tax if you have Net Investment Income and also have modified adjusted gross income over the applicable thresholds.

NII consists of the sum of three categories of income reduced by any properly allocable deductions for each [Reg. 1.1411-4(a)]. The three categories are as follows:

• • Category 1: Gross income from interest, dividends, annuities, royalties, and rents, which is not derived in the ordinary course of an active trade or business.
• 
• • Category 2: Gross income from a trade or business that is a passive activity or a trade or business of trading in financial instruments or commodities.
• • Category 3: Net gain (to the extent taken into account in computing regular taxable income) attributable to the disposition of nonbusiness property and property other than property held in a trade or business to which the 3.8% NIIT does not apply. In other words, it includes net gain from the disposition of nonbusiness property and property held in passive business activity.

•

High-income individuals are subject to an NII tax equal to 3.8% of the lesser of: [IRC Sec. 1411(a)]

• 1) Net investment income (NII) or
• 2) The excess (if any) of modified adjusted gross income (MAGI) over the threshold amount.

MAGI defined.

MAGI is adjusted gross income (AGI) increased by any foreign earned income exclusion, net of the deductions and exclusions disallowed with respect to the foreign earned income.

Michael Plaks · Answer

@Bob Metry

Your question was not really answered here, and for a good reason: there is no simple answer.

First, there's no 15% tax bracket anymore. You have a 12% bracket, and the next one is 22%, nearly double. The borders for those brackets depend on your filing status - i.e. single v. married. Either way, if you're in the 12% zone, a $100k depreciation recapture will push you into the 22% zone. Depending on how close you already were to 22%, you may have half of your depreciation recapture at 22% and half at 12%, or almost all of it at 22%. It depends.

If you're single, you may even step into the next bracket, 24%, but it's not that much of an increase. All of these brackets are below the 25% ceiling for depreciation recapture, so you will not reach the 25% cap if you're indeed starting at 12%.

If you're in a 0% bracket, you will still end up paying some depreciation recapture. The bottom line is that you will not have one rate but a mixture of 1, 2, maybe 3 or even 4 rates. The mechanics of how it's calculated are too complex to explain. You can run these scenarios through some software like TurboTax if you really want some tangible numbers. This self-torture is not recommended.

To make it more complicated still, other factors may come into play such as prior suspended losses from this property or other investments or maybe (albeit not very likely) the net investment income tax surcharge. And there's more that can enter the ring. Fun, I know.

Bob Metry · Answer

Sage advice @Michael Plaks. Many thanks.

Bob Metry · Answer

@Michael Plaks thanks so much- I always appreciate your insights! If I am planning on selling within a few years, would it make sense to try to sell in a year where I have a lot of accelerated depreciation expense due to utilizing cost segregation studies?

Bob Metry · Answer

Thank you @Leslie Pappas and @Ashish Acharya!

Leslie Pappas · Answer

Feel free to take a look at this post I made

https://www.biggerpockets.com/...

Bob Metry · Answer

@Lance Lvovsky gotcha! Thanks for your insight!

Lance Lvovsky · Answer

Net investment income tax is effectively a surcharge and assessed when taxpayers income exceed a certain threshold. That threshold is 200,000 or $250,000 of modified adjusted gross income based on your filing status. There is more to this calculation and other moving components which you can speak to your CPA about.

Bob Metry · Answer

Thanks so much @Lance Lvovsky! Can you explain when investment income tax would occur? My situation would likely be I would be paying capital gains taxes as I would be selling a rental property.

Deprecation Recapture Tax Rate?

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