What happens when you sell?
The deduction was never free money, it was money now instead of later. When you sell, the IRS recaptures the depreciation you took. Here's exactly what that looks like on one real house, and four people who each took a different road.
"I took the cash — and most of it went to tax." Alex sells outright, so the whole deferral comes due this year: recapture on the depreciation plus gains on the appreciation. He walks away with little left over once the bill is paid.
California
Blue Ridge, GA
"I swapped California for Blue Ridge." Maya 1031s into a Georgia property of equal or greater value. The gain, and the recapture, roll forward untouched.
Pool · tennis · upkeep
Simple asset
"The big house got to be too much, pool, tennis, all of it." Eleanor 1031s down to something simple. She only owes on the small slice of cash she frees up, and it comes straight out of the sale, not her pocket.
The kids run it
"I'm keeping it for the kids to run." George holds the rental as a small business, discipline through high school, income through college. At inheritance the basis steps up and the recapture is erased.
Recapture is capped by gain
You only recapture to the extent you sell above your depreciated basis. Sell flat or low and the bill shrinks.
Rate & timing favor you
You deducted at up to 37% and repay real property recapture at a 25% cap, and held the cash for years in between.
The §1245 nuance
Cost-seg personal property recaptures at ordinary rates, not 25%. The split of your study shifts the exact bill.
A study and a CPA
A firm runs the cost seg; your CPA files Form 3115 and plans the exit. Decide the road out before you start.
Educational illustration, not tax advice. Simplified model: depreciation recapture shown at the 25% cap on unrecaptured §1250 gain and appreciation at a 20% long-term capital-gains rate, both limited to actual gain; §1245 (cost-seg personal property) recaptures at ordinary rates and would raise the figure. Eleanor's trade-down assumes roughly $100K of cash ("boot") taken out of a §1031 exchange and is illustrative. A §1031 like-kind exchange into property of equal or greater value and debt defers recapture and gain; a basis step-up at death can eliminate it for heirs. State tax (e.g., California) is not modeled. Names and characters are illustrative. Confirm with your CPA.