Re-capture tax from depreciating your rental

[Sean Ratcliff]

Hello BP,

Hope you can help me out.  If I was to move back into my rental home for 2 out of the last 5 years I would not need to pay capital gains.  My question is what if I depreciated my rental for 15  years and then decide to move into it for 2 years, would I have to pay re-capture tax?

[Michael Plaks]

@Sean Ratcliff

Spare the messenger, you will not like the message. 

Yes, you do have to pay taxes on recapture of all past depreciation. Much worse, you do NOT escape capital gain taxes by moving back for 2 years, contrary to popular misunderstanding.

You only have a small partial exclusion, and the formula is based on dates. Let's say you moved back at the beginning of this year. You will live there for all of 2017 and 2018. Then you look back all the way to 2009 (the year when this rule was introduced) - and you have 10 years to count.

Out of those 10 years, 8 were rental years and 2 homestead. You only get to exclude 2/10, or 20% of your capital gain. The 80% of capital gain is taxable PLUS 100% depreciation recapture.

Sorry for busting this nice dream, but it's the law. Which, by the way, was specifically designed to destroy this strategy. It worked prior to 2009, but not anymore.