The rule and its impact
Under IRC Section 1016(a)(2), your adjusted basis is reduced by depreciation 'allowed or allowable' — the greater of the depreciation you actually deducted and the depreciation you were entitled to claim. When you sell, the IRS computes your gain using this reduced basis. If you skipped some or all of your depreciation deductions in prior years, your basis is still reduced as if you had taken them, and you still owe recapture on the corresponding gain.
This is one of the most misunderstood rules in rental real estate. Investors sometimes skip depreciation hoping to build a higher basis and reduce future gain — but they get the worst of both worlds: they forfeited the annual tax savings and still owe recapture at sale.
How to reclaim missed depreciation
If you discover you missed depreciation in prior years, you have two options: (1) amend the returns for each year — generally only the last three open years; or (2) file Form 3115 (Change in Accounting Method) to claim all missed depreciation in a single current-year catch-up deduction (Section 481(a) adjustment). The Form 3115 method is almost always preferable because it covers all missed years, not just the last three, and requires only a single filing with the current return.
The only real way to avoid recapture
Since you owe recapture on allowed or allowable depreciation regardless, the tax planning focus should be on deferring or eliminating recapture — not avoiding the deduction. Defer with a 1031 exchange, or eliminate via the step-up in basis your heirs receive if you hold the property until death. In the meantime, always claim the depreciation: the annual savings compound forward and the recapture cap of 25% is often below the rate at which you deducted, so the math favors claiming it.
Frequently asked questions
What if I never claimed depreciation on my rental?
The IRS still reduces your basis for the depreciation you could have taken ('allowable'), so you owe recapture at sale as if you had claimed it. File Form 3115 to recapture the missed deductions before you sell.
Can I avoid recapture by not depreciating the property?
No. Recapture applies to depreciation allowed or allowable. Skipping the deduction forfeits the annual tax savings while leaving the recapture liability intact.
How do I claim depreciation I missed from earlier years?
File Form 3115 (Change in Accounting Method) with your current-year return to claim all missed amounts as a lump catch-up deduction. This does not require amending each prior-year return.
Sources
- IRS Topic No. 409 — Capital Gains and Losses
- IRS Publication 544 — Sales and Other Dispositions of Assets
- IRS Publication 946 — How to Depreciate Property
Educational information and estimates only. Not tax advice. Tax rules change and vary by situation; consult a qualified tax professional before acting.