California Depreciation Recapture on Investment Property Sales
California follows federal rules for depreciation recapture but has some important state-specific considerations when investment properties are sold. Here’s what California investors need to know:
Federal Treatment
- Depreciation taken is recaptured at a federal rate of 25% under Section 1250
- This applies to the lesser of total gain or total depreciation taken
- Must be reported on Form 4797 and Schedule D
California Specific Rules
- California taxes depreciation recapture at ordinary income tax rates (up to 13.3%)
- No special recapture rate like federal 25% rate
- Combined federal and CA tax on recapture can exceed 38%
- Must be reported on CA Schedule D-1
Planning Strategies
- Consider 1031 exchange to defer both federal and state recapture
- Installment sales can spread recapture over multiple tax years
- Opportunity zones may provide partial relief
Frequently Asked Questions
Q: Does California have a different depreciation schedule than federal?
A: No, California follows the federal MACRS depreciation schedules.
Q: Can I avoid depreciation recapture in California?
A: You can defer it through a 1031 exchange, but not permanently avoid it.
Q: What is the maximum combined tax rate on depreciation recapture?
A: Up to 38.3% (25% federal + 13.3% CA maximum rate)
Q: Do I have to recapture depreciation if I sell at a loss?
A: Yes, depreciation must be recaptured even if the property sells at a loss.
Q: How is depreciation recapture calculated in California?
A: It’s calculated on total depreciation taken, taxed at your ordinary income rate.
Q: Can rental property losses offset depreciation recapture?
A: Generally no, recapture is treated separately from other rental activities.
Q: Does California allow bonus depreciation?
A: No, California does not conform to federal bonus depreciation rules.
The Bottom Line
California’s treatment of depreciation recapture can result in significant tax liability when selling investment property. Careful planning, including consideration of 1031 exchanges and timing of sales, is crucial for California real estate investors to manage their tax exposure effectively.