The definition
Section 1250 property is any depreciable real property that is not Section 1245 property. In practice that means buildings and their structural components: the walls, roof, windows, HVAC systems, plumbing, electrical wiring, and other elements that are permanently affixed to the structure and part of the building's operation. Residential rental buildings, commercial office towers, warehouses, retail strip malls, apartment complexes, hotels, and industrial buildings are all Section 1250 property.
The name comes from Internal Revenue Code Section 1250, which governs the tax treatment of gain on the sale of depreciable real property. Its counterpart, Section 1245, covers personal property — equipment, machinery, certain fixtures — and applies a harsher tax rule. Understanding which section applies to each asset you own is the key to predicting your tax bill when you sell.
What makes it different from Section 1245 property
The distinction is structural. Section 1245 property is depreciable personal property and certain other assets (intangibles, livestock, some land improvements), and depreciation recaptured on Section 1245 assets is taxed as ordinary income at your marginal rate — no cap. Section 1250 property is real property (buildings), and the recapture treatment is more favorable: most of the depreciation comes back as unrecaptured Section 1250 gain, which is capped at a maximum federal rate of 25%.
Because residential rental real estate placed in service after 1986 must be depreciated straight-line under MACRS (27.5 years for residential, 39 years for commercial), there is rarely any 'additional depreciation' — depreciation above straight-line — to trigger true Section 1250 ordinary recapture. Instead, the straight-line depreciation you claimed becomes unrecaptured Section 1250 gain taxed at up to 25%. Equipment and personal-property components (appliances, carpeting, certain lighting) reclassified through a cost segregation study fall under Section 1245 and face ordinary-income recapture with no cap.
How Section 1250 property is depreciated
Under the Modified Accelerated Cost Recovery System (MACRS), residential rental real property (buildings rented to households) is assigned a 27.5-year recovery period using the straight-line method and the mid-month convention. Commercial real property — office, retail, warehouse — uses a 39-year recovery period, also straight-line, also mid-month. You cannot elect accelerated depreciation for the building itself under the regular MACRS General Depreciation System (GDS).
Structural components — elevators, escalators, central air conditioning, plumbing, and electrical systems — are part of the building and depreciated over the same life as the building. Items that are not structural components of the building (appliances, carpeting, certain lighting and cabinetry that are not permanently affixed) may instead be classified as personal property with a shorter recovery period (5 or 7 years), potentially using the double-declining-balance method or bonus depreciation. Those shorter-life personal-property components are Section 1245, not 1250.
Land improvements: the 1250 exception
An important category of property sits between the building and the personal property: land improvements. Driveways, sidewalks, fences, landscaping, parking lots, and similar outdoor improvements are not part of the building structure, yet they are also not personal property. The tax code classifies them as 15-year Section 1250 real property under MACRS.
This matters at sale because 15-year land improvements were historically depreciated using the 150% declining-balance method (faster than straight-line), which could generate additional depreciation — depreciation in excess of straight-line. If additional depreciation exists, it is true Section 1250 ordinary-income recapture, not just unrecaptured 1250 gain. In practice, many investors use bonus depreciation on these components, which can further affect the recapture character. If you have land improvements, document them carefully; a cost segregation report will flag them separately.
What happens at sale: unrecaptured Section 1250 gain
When you sell Section 1250 property at a gain, the IRS compares your cumulative depreciation to your total gain. The portion of the gain equal to depreciation taken — technically 'allowed or allowable' — becomes unrecaptured Section 1250 gain. This is a distinct category of long-term capital gain taxed at a maximum rate of 25% (versus the 0/15/20% rates that apply to appreciation above your original basis).
The computation runs through the Unrecaptured Section 1250 Gain Worksheet in the IRS Schedule D instructions. The sale itself is first reported on Form 4797, Part III, which computes the total gain from the rental sale. The unrecaptured 1250 portion then feeds the Schedule D worksheet, where the 25% cap is applied. The remaining appreciation flows to Schedule D at the ordinary long-term capital-gains rates. Your all-in bill also layers on any state income tax (most states have no preferential 25% cap) and the 3.8% Net Investment Income Tax if your modified AGI exceeds the thresholds.
A worked example of Section 1250 gain
Suppose you bought a residential rental building for $350,000, allocated $70,000 to land, and claimed $80,000 of straight-line depreciation over 10 years. Your adjusted basis is now $350,000 − $80,000 = $270,000. You sell for $480,000 with $30,000 in selling costs, so your amount realized is $450,000 and your total gain is $450,000 − $270,000 = $180,000.
Of that $180,000 gain, $80,000 is unrecaptured Section 1250 gain (the depreciation you claimed), taxed at up to 25%. The remaining $100,000 is appreciation above the original cost basis, taxed at 15% (for most sellers). A seller in a 24% ordinary bracket pays 24% on the $80,000 recapture slice (since their rate is below 25%), or roughly $19,200, and 15% on the $100,000 appreciation slice, or $15,000. Total federal tax: about $34,200 — well below what it would be if the full $180,000 were taxed as ordinary income.
How a 1031 exchange affects Section 1250 property
Transferring Section 1250 property in a qualified like-kind exchange under IRC § 1031 defers the gain — including both the unrecaptured 1250 gain and the capital appreciation — into the replacement property. The deferred gain is preserved in a lower basis for the replacement property, and the character of the deferred gain carries with it. When you eventually sell the replacement property without another exchange, the accumulated unrecaptured Section 1250 gain from both properties surfaces at up to 25%.
This is the 'swap till you drop' strategy: defer via exchanges during your lifetime, then hold the final property until death so heirs receive a stepped-up basis under IRC § 1014 that permanently eliminates both the deferred capital gain and the accumulated unrecaptured 1250 gain. The exchange does not change what type of property the gain came from — Section 1250 deferred gain stays Section 1250 when it eventually becomes taxable.
Section 1250 property in an installment sale
If you sell Section 1250 property under an installment sale arrangement (receiving payments in future years), the installment-sale rules of IRC § 453 allow you to spread the capital-gain portion of the gain over the payment years. Each installment payment carries a proportional share of the gain, recognized in the year received.
However, Section 453(i) generally requires you to recognize recapture income — both Section 1245 ordinary recapture and, for Section 1250 property, any true additional-depreciation ordinary recapture — in the year of sale, regardless of when you receive the cash. The unrecaptured Section 1250 gain itself (the 25%-capped portion) is not treated as 'recapture income' under Section 453(i) and can be spread across installment payments. Practically: if you sell at a large gain with significant depreciation and want installment treatment, recognize that the capital-gain slices spread, but any true ordinary recapture comes due upfront.
Planning ahead: strategies that affect Section 1250 gain
Several tools can reduce or defer the unrecaptured Section 1250 gain you ultimately pay. A 1031 exchange defers the entire gain — including the 1250 slice — into new real property. Holding until death eliminates it via the step-up. An installment sale can spread the 25%-capped portion across years to keep you below NIIT thresholds or in lower brackets in any single year. Selling in a low-income year (retirement, sabbatical, a year with large deductions) can pull your ordinary rate below 25% so the recapture is taxed at less than the cap.
What does not help: harvesting capital losses to offset Section 1250 gain. Capital losses can offset the appreciation portion of your gain (at 0/15/20%), but they do not reduce the unrecaptured 1250 portion, which is taxed by a separate worksheet. Know your basis, know your total accumulated depreciation, and model the full recapture before you list — the depreciation recapture calculator can run the estimate in seconds.
Frequently asked questions
What is the difference between Section 1250 and Section 1245 property?
Section 1250 covers depreciable real property (buildings, structural components, land improvements); recapture is capped at 25% as unrecaptured 1250 gain. Section 1245 covers personal property (equipment, appliances) and some other assets; recapture is ordinary income at full marginal rates.
Is a rental house Section 1250 property?
Yes. A residential rental building is Section 1250 property depreciated over 27.5 years straight-line. When sold at a gain, the accumulated depreciation becomes unrecaptured Section 1250 gain taxed at up to 25%.
Are land improvements Section 1250 or 1245 property?
Land improvements (driveways, fences, sidewalks, parking lots) are 15-year Section 1250 property, not 1245. They may carry additional depreciation — depreciation above straight-line — which is subject to true ordinary-income Section 1250 recapture on sale.
What is unrecaptured Section 1250 gain?
It is the portion of your gain on a real property sale equal to the straight-line depreciation you claimed. It is a special category of long-term capital gain taxed at a maximum federal rate of 25%, computed on the Unrecaptured Section 1250 Gain Worksheet in the Schedule D instructions.
Does a 1031 exchange eliminate Section 1250 recapture?
No — it defers it. The unrecaptured 1250 gain carries into the replacement property's lower basis and becomes taxable when you eventually sell without another exchange. Holding until death and receiving a stepped-up basis under IRC § 1014 can permanently eliminate it.
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.