How is a rental property taxed when you sell it?
Yes, selling a rental property is taxable: you owe tax on the gain, which is your net sale price minus your adjusted basis. Rental property tax on a sale is higher than most owners expect because the depreciation you deducted while you owned the building lowers your basis and comes back as taxable gain.
The gain does not get one rate. The IRS splits it by where it came from, and each piece has its own rate. A seller of a large rental often pays four different taxes on one closing.
| Layer of the gain | 2026 federal rate | Rule |
|---|---|---|
| Depreciation on 5- and 7-year items from a cost segregation study | Ordinary rates, 10% to 37% | Section 1245 recapture |
| Straight-line depreciation on the building | Up to 25% | Unrecaptured Section 1250 gain |
| Remaining gain on property held more than one year | 0%, 15% or 20% | Long-term capital gain (Section 1231) |
| Gain on property held one year or less | Ordinary rates, 10% to 37% | Short-term gain |
| Net investment income tax on top | 3.8% | Section 1411, above $200,000 or $250,000 of MAGI |
| State income tax | 0% to over 13% | State where the property sits, and often your home state |
Start with your adjusted basis
Your adjusted basis is what you paid for the property, plus closing costs on the purchase, plus capital improvements, minus all depreciation allowed or allowable. Get this number right before anything else, because every layer of tax is built on it.
Pull three documents: the closing statement from when you bought, your records of improvements, and the depreciation schedule from your tax returns (Form 4562 or your preparer’s asset list). A new roof, a boiler or a unit renovation adds to basis. Repainting, patching and routine repairs do not; you already deducted those as expenses.
The phrase "allowed or allowable" matters. IRS Publication 544 says basis drops by the depreciation you took or could have taken. An owner who never claimed depreciation still has the lower basis and still pays recapture, so skipping the deduction only cost you the write-off.
Capital gains tax when you sell a rental property
Capital gains tax on a rental sale applies to the part of the gain left after depreciation is carved out, and if you owned the property more than one year it is taxed at 0%, 15% or 20%. For 2026, a married couple filing jointly pays 20% on gain above $613,700 of taxable income, and a single filer above $545,500 (Revenue Procedure 2025-32).
On a rental that has appreciated for years, most of this layer lands in the 20% bracket because it stacks on top of your other income and the recapture. Gain on a rental held one year or less is short-term and taxed as ordinary income, up to 37%.
Rental property gets no home sale exclusion. The $250,000 or $500,000 exclusion under Section 121 covers a main home only. Our guide to capital gains tax on real estate covers that exclusion, the full 2026 brackets and how a home that was once rented is treated.
Depreciation recapture: the 25% layer and the ordinary-income layer
Depreciation recapture is the tax on gain equal to the depreciation you deducted, and on a rental it comes in two kinds with different rates. Straight-line depreciation on the building itself is unrecaptured Section 1250 gain, taxed at a maximum of 25% (IRS Topic 409). Depreciation on short-life items is Section 1245 recapture, taxed at your ordinary rate with no cap.
The second kind catches owners who had a cost segregation study. A study moves appliances, cabinets, carpet and similar items onto 5- and 7-year schedules, and bonus depreciation often wrote those items off in year one. Under the 2025 law (P.L. 119-21), 100% bonus depreciation is permanent for property acquired after January 19, 2025, as IRS Notice 2026-11 explains, so more sellers will carry this layer in the years ahead.
Section 1245 recapture is limited to the gain on those items. If the 7-year-old appliances and finishes are worth $150,000 at sale, the recapture on them is $150,000, even if you wrote off twice that. That is why the purchase price allocation in your sale contract, covered below, has a real tax effect.
Suspended passive losses come back when you sell
If rental losses were disallowed in earlier years under the passive activity rules, a full taxable sale of the property releases them, and they can offset any income that year, including the gain, wages and the recapture. Section 469(g) of the tax code sets this rule.
Owners with high incomes often have years of these losses stacked up, especially after bonus depreciation. Your preparer tracks them on Form 8582. Three limits apply. The sale has to be to an unrelated buyer. In an installment sale, the losses are released in proportion to the gain you report each year. In a 1031 exchange, the losses stay suspended because the sale is not fully taxable.
The 3.8% net investment income tax on a rental sale
Gain from selling a rental counts as net investment income, so the 3.8% NIIT applies when your modified adjusted gross income is above $250,000 for joint filers, $200,000 for single filers or $125,000 for married filing separately. The thresholds are set by statute and are not indexed for inflation (IRS Topic 559).
A large sale usually pushes the full gain into the tax, even for owners whose income is normally below the line. Released passive losses reduce net investment income, because Treasury Regulation 1.1411-4 treats them as deductions properly allocable to the rental. Owners who qualify as real estate professionals and materially participate can sometimes keep rental gain out of the NIIT, but that test is strict and needs records.
State tax and withholding at closing
The state where the rental sits generally taxes the gain, and your home state may tax it too, usually with a credit for tax paid to the other state. Most states tax capital gains as ordinary income. Illinois, for example, applies its flat 4.95% individual rate for 2026 to the gain.
Some states take their share at the closing table. California generally requires withholding of 3 1/3% of the sale price on many real estate sales unless an exemption applies (Form 593), and other states have rules for nonresident sellers. Ask your title or escrow company early which forms the state requires, so the closing is not held up.
A few states have no income tax on a rental gain at all, including Texas, Florida, Nevada and Wyoming. Washington taxes some capital gains but exempts real estate, according to its Department of Revenue.
Worked example: selling a $3 million, 20-unit building
A married couple bought a 20-unit building in 2019 for $2,000,000: $400,000 for land, $1,300,000 for the building and $300,000 for 5- and 7-year items identified in a cost segregation study. Bonus depreciation wrote off the $300,000 in 2019. Building depreciation through the 2026 sale is $330,000. Because of the early write-offs, they also carry $180,000 of suspended passive losses. Their other taxable income is $250,000.
They sell in 2026 for $3,000,000 and pay $120,000 in selling costs, so the amount realized is $2,880,000. Their adjusted basis is $2,000,000 − $300,000 − $330,000 = $1,370,000, and the total gain is $1,510,000. The contract allocates $150,000 of the price to the personal property, so $150,000 is Section 1245 recapture. The other $1,360,000 is gain on the land and building: $330,000 of unrecaptured Section 1250 gain and $1,030,000 of long-term capital gain.
The $180,000 of released losses cancels most of the ordinary recapture, so their ordinary taxable income is $250,000 + $150,000 − $180,000 = $220,000. The $330,000 of Section 1250 gain is taxed at their ordinary rate where that is below 25%: $183,550 of it falls in the 24% bracket and the other $146,450 is taxed at 25%, or $80,665 together. The $1,030,000 of capital gain stacks above $550,000: $63,700 is taxed at 15% and $966,300 at 20%, or $202,815 together. Against what they would owe on $250,000 alone, the sale adds $276,280 of federal income tax.
The NIIT applies to $1,330,000 of net investment income (the gain minus the released losses), or $50,540. Illinois tax at 4.95% on the same $1,330,000 is $65,835. The total tax from the sale is about $392,655, or 26% of the gain, leaving about $2,487,345 before the mortgage payoff. Without the suspended losses, the bill would have been about $63,935 higher. We recomputed these figures with the 2026 brackets; your return will differ.
| Line | Amount |
|---|---|
| Sale price less $120,000 selling costs | $2,880,000 |
| Adjusted basis ($2.0M − $300K − $330K) | $1,370,000 |
| Total gain | $1,510,000 |
| Section 1245 recapture (ordinary) | $150,000 |
| Unrecaptured Section 1250 gain at 24% and 25% | $330,000 → $80,665 |
| Long-term capital gain at 15%/20% | $1,030,000 → $202,815 |
| Suspended passive losses released | −$180,000 |
| Added federal income tax from the sale | $276,280 |
| NIIT 3.8% × $1,330,000 | $50,540 |
| Illinois 4.95% × $1,330,000 | $65,835 |
| Total tax from the sale | $392,655 |
| Cash after tax, before mortgage payoff | $2,487,345 |
The same building in a 1031 exchange
If the couple instead traded into a $3,200,000 replacement building through a 1031 exchange, reinvested all the net proceeds and replaced the debt, most of the $392,655 would be deferred. The replacement would carry a basis of about $3,200,000 − $1,510,000 = $1,690,000, so the gain waits inside the new building.
Three things change compared with a cash sale. The $180,000 of suspended losses stays suspended until a later taxable sale. Cash pulled out, or debt not replaced, is boot and is taxed, and part of it can fall in the 25% recapture layer. Items the study treated as personal property may not count as real property for the exchange, and the part of the price allocated to them can be taxed, so ask your CPA to check the cost segregation on both sides before you sign.
The deadlines are fixed: identify replacement property in writing within 45 days of closing and buy it within 180 days (or by your return due date, if earlier, unless you extend), with a qualified intermediary holding the money. Our 1031 exchange guide covers the rules in full.
How to sell a rental property without paying taxes now
You can’t sell a rental property for a gain and pay nothing, but you can postpone the tax, spread it out or, in a few cases, remove it. These are the methods owners use, with the trade-off each one carries.
- 1031 exchange: defers all of it if you buy equal or greater value and reinvest every dollar, but you have to stay in real estate and meet the 45- and 180-day deadlines.
- Installment sale: spreads the capital gain over the years you collect principal. Section 1245 recapture is still taxed in the year of sale, IRS Publication 537 says, even if no payment arrives that year.
- Opportunity zone fund: under the 2025 law, gain invested in a qualified opportunity fund on or after January 1, 2027 is deferred for up to five years, gets a 10% basis increase after five years (30% for rural funds), and an investment held 10 years can be stepped up to market value (IRS Notice 2026-40). Gain deferred under the old rules comes due at the end of 2026.
- Hold until death: heirs generally take a basis equal to market value under Section 1014, which wipes out the gain and the past depreciation. You keep the building, the tenants and the risk.
- Move in: turning a rental into your home does not clear the gain. Depreciation stays taxable and years as a rental after 2008 reduce the exclusion. Our capital gains tax on real estate guide shows the math.
- Offset it: losses on other investments or released passive losses reduce the taxable amount in the year of sale.
Contract decisions that change your tax
Several terms in the purchase agreement change your tax bill, so read them with your CPA before you sign, not after closing.
- Purchase price allocation: how much of the price goes to land, building and personal property sets the size of the ordinary-income recapture layer. Buyer and seller should report the same split.
- Closing date: closing on January 5 instead of December 28 moves the whole tax a year later and may change which brackets apply.
- Seller financing: a note you carry makes the deal an installment sale unless you elect out.
- Selling the LLC instead of the deed: for a single-member LLC the IRS generally treats it as a sale of the property; for a multi-member LLC, partnership rules apply and some gain can be ordinary.
- Deposits and prorations: tenant security deposits and prepaid rent credited to the buyer are part of the economics of the deal, and your preparer will need the final closing statement to sort them out.
When you pay tax after selling a rental property
You pay the tax for the year the sale closes, through estimated payments or withholding during that year and the balance with your return. Waiting until April can bring an underpayment penalty when the sale adds a large amount of income.
The usual safe harbor is paying 100% of last year’s tax through withholding and estimates, or 110% if last year’s AGI was over $150,000, per the 2026 Form 1040-ES. Meet it and you generally avoid the penalty even if you still owe a large balance in April.
| When | What happens | Form or rule |
|---|---|---|
| Before you sign | CPA models the tax; agree on the price allocation; engage a qualified intermediary if exchanging | Purchase agreement |
| Closing day | Title company reports the gross proceeds; state withholding taken if required | Form 1099-S; state forms such as CA Form 593 |
| Day 45 and day 180 | Identify, then close on replacement property (1031 only) | Treas. Reg. 1.1031(k)-1 |
| Next quarterly due date | Estimated payment covering the sale (Jan 15 for a September to December closing) | Form 1040-ES |
| April 15 of the next year | File the return reporting the sale and pay the balance | Form 4797; Form 8824 for an exchange; Form 6252 for an installment sale |
Rental property sale tax calculator
Use our capital gains tax calculator to estimate the tax on a rental sale from your price, basis, depreciation and state rate, and the depreciation recapture calculator if you need to estimate depreciation taken. The 1031 exchange calculator shows how much boot you would owe tax on if you trade down.
The calculators treat all depreciation as the 25% layer and don’t release suspended losses, so for a building with a cost segregation study or large carryforward losses, use them for a first number and have your CPA run the return.
Selling a rental building to Skyline
Skyline buys apartment buildings with five or more units across the country. We buy directly, close on your timeline, and can work inside 1031 deadlines. That can mean a January closing when that helps your tax year, a delayed closing while you line up a replacement, or a date set around your intermediary’s schedule. Tell us your timing and tax plan when you submit the property, and we will tell you plainly whether we can meet it.
Selling? Spread the tax with seller-carry terms
If a large tax bill is what is keeping you from selling, an installment sale may help. When you carry part of the price as a note, the gain is generally reported as you receive payments instead of all in the year of sale. Some parts of the gain, such as certain depreciation recapture, can still be due up front, so run the numbers with your CPA first.
Skyline Capital Investments buys apartment buildings with five or more units and can offer seller-carry terms, or a delayed closing that fits your 1031 timeline. Send the address and unit count and we typically respond within 48 hours. How seller financing works · How an installment sale is taxed · Seller financing calculator.
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