Depreciation recapture: what happens when you sell a property you cost-segregated.

Ask an investor who's heard of cost segregation what the catch is, and you'll usually get the same answer: "Doesn't the IRS just claw it all back when you sell?" It's the right instinct. Depreciation recapture is real, and a cost segregation study does change its shape. But "claw it all back" is not what actually happens, and the gap between the fear and the mechanics is worth understanding before you decide a study isn't for you.

Here's what recapture is, how cost segregation changes it, and why, for most investors who hold and plan their exit, the math still lands in your favor.

What is depreciation recapture, exactly?

When you depreciate a rental, you deduct a slice of the building's cost each year against your income. That lowers your taxable income now, and it also lowers your basis in the property. When you sell, your gain is measured against that reduced basis, so part of what looks like "gain" is really the depreciation you already deducted, coming back into income. That coming-back is recapture.

The point most explanations skip: recapture is not one thing. It comes in two flavors, taxed at two very different rates, and cost segregation only touches one of them.

Does cost segregation create extra recapture?

Only on one slice, and it's a slice worth understanding.

A residential rental is normally depreciated straight-line over 27.5 years. That building depreciation is Section 1250 property. When you sell, the gain attributable to that straight-line depreciation is "unrecaptured Section 1250 gain," taxed at a maximum federal rate of 25%, not your ordinary rate. You owe that whether or not you ever ordered a study, because you'd depreciate the building either way.

A cost segregation study carves out the faster-wearing components (appliances, flooring, cabinetry, certain fixtures, land improvements) and moves roughly 20–35% of your basis into 5-, 7-, and 15-year buckets. The 5- and 7-year personal property is Section 1245 property, and Section 1245 recapture is taxed at ordinary income rates, up to the depreciation you took.

So the only "extra" recapture a study creates, versus plain-vanilla depreciation, is Section 1245 recapture on that accelerated personal-property slice. That is the whole catch. And as you'll see, it's the slice a well-planned exit can still defer, or erase outright.

Two flavors, two rates

Keep them straight and the rest of the math follows:

The building (straight-line, §1250) → unrecaptured §1250 gain, a maximum 25% federal rate. The reclassified personal property (§1245) → ordinary income rates, capped at the depreciation taken. Higher earners may owe the 3.8% net investment income tax on top, and your state may tax all of it as ordinary income regardless. None of that is unique to cost seg, but it's the honest full picture.

A worked example: a $525K rental sold after six years

Take a $525,000 single-family rental placed in service in 2026, with $420,000 of depreciable basis after backing out land. A study reclassifies 22% (about $92,000) into short-life property. With 100% bonus depreciation restored for property acquired (contract signed) and placed in service after January 19, 2025, that $92,000 is fully deductible in year one.

At a 32% marginal rate, that year-one deduction is worth roughly $29,440 in deferred tax. Hold six years and you'll also take about $71,600 of straight-line depreciation on the remaining $328,000 of building basis. Now you sell, at a gain large enough to absorb it all:

• The $71,600 of building depreciation returns as unrecaptured §1250 gain, taxed at a maximum 25%, about $17,900. You deducted it at 32%, so even here you've locked in a rate spread in your favor. This piece exists with or without a study.

• Up to $92,000 of accelerated depreciation comes back — the 5- and 7-year property as §1245 ordinary income, and the 15-year land improvements under the §1250 rules (accelerated-over-straight-line as ordinary income; the straight-line portion as unrecaptured §1250 gain, taxed at up to 25%). At the same 32% rate that's about $29,440 at the top end, roughly reversing your year-one deduction.

On that §1245 slice, if your rate hasn't changed, the rate is a wash. But you had the use of $29,440 for six years. Even at a modest 7% return, deferring that tax for six years is worth roughly $14,700 in real value, before you consider that you might sell in a lower-income year, and before the two moves below erase it entirely.

How do you defer, or erase, the recapture?

Two tools do most of the work.

A 1031 like-kind exchange defers the gain and recapture on the real property, the building, the land improvements, the §1250 slice. Since 2018, though, §1031 no longer covers personal property: the 5- and 7-year §1245 assets a cost segregation study carves out don't automatically ride along, and their recapture can be recognized at the exchange unless it's absorbed by equivalent §1245 property on the other side. The practical answer is planning: a cost segregation study on the replacement property typically generates the §1245 basis that soaks it up, pair the exchange with a new study and the deferral works the way people assume it does. One more precise caveat: an installment sale does not spread §1245 recapture, the code makes you recognize it in the year of sale, so plan the exit, don't improvise it.

And if you hold until death, your heirs take the property at a stepped-up basis equal to fair market value. The deferred depreciation, the entire recapture liability, simply disappears. "Buy, borrow, die" is a cliché because, on this specific point, it works.

Between those two, a hold-and-plan investor still has a full toolkit: defer the real-property side, plan the §1245 slice into the exchange, and let the step-up erase whatever's left. Deductions pulled forward, recapture planned for on the way out.

So is it still worth it?

For a buy-and-hold investor, usually yes. The building-level recapture is there regardless of what you do. The extra piece a study creates recaptures at ordinary rates only if you sell in a fully taxable sale at the same bracket, and even then you keep years of deferral, which has real, quantifiable value. Plan the exit (a 1031 paired with a study on the replacement property, or holding to a step-up) and the recapture question largely answers itself.

What you want is a study whose component allocations are documented and audit-ready, because the exit is exactly where a thin, undocumented basis gets tested. Every study we deliver is reviewed and signed off by a qualified licensed tax professional, for that reason. You can put rough numbers on your own property with our savings calculator before you ever talk to us.