If you’re selling a rental property, you might think it’s as simple as “sell, report, pay tax, move on.”

If only it was that easy! The IRS (and California) have a few extra steps for you – and if you don’t plan ahead, you could be in for a NOT SO FUN surprise come the tax time.
I work with a lot of rental property owners, and I can tell you this: the number one thing that catches people off guard is depreciation recapture. Let’s talk about what that means – and how I help clients avoid overpaying (or underpaying) when they sell.

Here’s the thing about depreciation: you get a nice deduction every year while you own the rental. But when you sell, the IRS says, “Great, now give me some of that back.”
That’s what depreciation recapture is – all the depreciation you’ve taken reduces your property’s basis, and that portion of the gain gets taxed at ordinary income rates (up to 25%), NOT capital gains rates.
So yes, even if your overall capital gain is excluded or offset, you still have to pay tax on that depreciation. I always calculate the total before we do anything else, so you know what’s coming. No surprises.

Figuring Out Your Actual Gain

After we deal with depreciation recapture, we still have to figure out the capital gain. Here’s how I do it (without drowning you in tax jargon):
1. Start with what you paid for the property.
2. Add what you spent fixing it up over the years.
3. Subtract all that depreciation you took (yes, again – it matters).
4. Subtract the selling costs like commissions, escrow fees, warranties, and those random fees. This gets us to the adjusted basis and the actual gain you’ll report on your return.

California Wants Its Cut Too: Form 593

If your property is in California, there’s one more layer: escrow will hand you Form 593 and ask you to complete it for state withholding.
You get two choices:

• Default Method: California takes 3.3% of the sales price.
• Alternative Method: We calculate withholding based on the actual gain, which is usually much lower.

Guess which one I recommend? (Hint: the one where you don’t overpay thousands of dollars just to wait for the state to send you a refund next spring.)
I prepare the calculation so you can give escrow the correct number to withhold – and keep more of your money working for you.

Why This Matters

Doing this right keeps you from:

• Overpaying at closing and waiting months for a refund.
• Underpaying and getting a scary letter later.
• Having mismatched numbers that trigger IRS or FTB notices.

My Pro Tip: If you’re selling a rental, talk to me before you close. I’ll calculate your depreciation recapture, figure out your basis, and make sure you’re using the right withholding method – so you don’t end up with an unpleasant tax surprise.