The short answer
Gain on a rental held more than a year is taxed at 0%, 15% or 20% depending on where it lands on top of your other taxable income: in 2026 the 15% rate runs to $613,700 for joint filers and $545,500 for single filers, with 20% above that. The depreciation you claimed is taxed first, at ordinary rates capped at 25%, and the 3.8% net investment income tax applies once modified AGI passes $250,000 joint or $200,000 single. Most states add their ordinary rate on the full gain. A 1031 exchange defers all three federal layers and, in conforming states, the state layer too.
At a glance
| Long-term rates | 0% to $98,900 joint and $49,450 single; 15% to $613,700 and $545,500; 20% above |
|---|---|
| Depreciation layer | Unrecaptured section 1250 gain at ordinary rates, capped at 25% |
| NIIT | 3.8% on the lesser of net investment income or MAGI over $250,000 joint, $200,000 single |
| Short-term | Held one year or less: ordinary rates up to 37% |
| Holding period | More than one year; an exchange tacks the old property's holding period onto the new one |
| Forms | Form 4797, Schedule D, Form 8960; Form 8824 for an exchange |
| State | Most states tax the gain as ordinary income; nine have no income tax |
| Deferral | Section 1031 defers every federal layer except boot |
Three federal rates apply to the long-term gain, and the gain itself pushes you up through them
Section 1(h) taxes net capital gain at 0% up to a first breakpoint, 15% up to a second and 20% above it, with the breakpoints indexed each year under section 1(j)(5). For 2026, Rev. Proc. 2025-32 sets them at $98,900 and $613,700 for joint filers, $49,450 and $545,500 for single filers, $66,200 and $579,600 for heads of household, and $3,300 and $16,250 for estates and trusts.
The bands are measured against taxable income with the gain included, and the gain stacks on top of everything else. A couple with $80,000 of other taxable income and a $400,000 gain therefore pays 0% on the first $18,900 of gain, 15% on the rest, and would reach 20% only if the total passed $613,700. The rate is never a flat 15%, which is the point of the layered view on how much tax you really pay without a 1031.
The holding period under section 1223 must exceed one year for these rates; a rental sold sooner is taxed at ordinary rates. Property received in an exchange inherits the holding period of the property given up.
Depreciation is taxed first at ordinary rates but never above 25%, and allowed or allowable means you owe it even if you never claimed it
Section 1(h)(6) defines unrecaptured section 1250 gain as the long-term gain that would be ordinary income if section 1250 recaptured all depreciation rather than only the excess over straight line. Because residential rentals are depreciated straight line over 27.5 years, almost all of the depreciation you claimed falls into this layer, which section 1(h)(1)(E) taxes at 25% as a ceiling: it sits on top of your ordinary income and is taxed at 10%, 12%, 22% or 24% until those brackets run out.
Publication 527 reduces basis by depreciation you deducted or could have deducted, so an owner who skipped depreciation still has the layer. Components written off faster, such as appliances or cost-segregated fixtures, are section 1245 property and their depreciation is ordinary income with no cap. How much depreciation recapture when you sell a rental and recapture on depreciation you never claimed go deeper.
The 3.8% net investment income tax and the state rate sit on top of both layers
Section 1411 adds 3.8% of the lesser of net investment income or modified AGI above $250,000 joint, $200,000 single or $125,000 married separate, thresholds that have never been indexed. Gain from a rental counts in full, and the gain itself lifts MAGI over the line, so a modest-income owner with one large sale pays it. The Form 8960 instructions exclude only gain not recognized under section 1031 or 121, and offer a 500-hour exception for real estate professionals.
State tax is the fifth layer. Most states tax the gain as ordinary income at their top rate, nine tax nothing, and a few exclude part of the gain or add a surtax above $1 million; the state capital gains rates page lists all fifty.
Worked example: a single owner selling an $800,000 rental in 2026
Hypothetical, round figures. A single filer bought a rental in 2012 for $350,000, claimed $130,000 of straight-line depreciation, and sells in 2026 for $800,000 with $48,000 of commissions and closing costs. Other taxable income is $120,000 and adjusted gross income without the sale is $136,100. Amount realized is $752,000, adjusted basis $220,000, gain $532,000.
The $130,000 depreciation layer stacks on $120,000: $81,775 fills the rest of the 24% bracket (to $201,775) for $19,626, and the remaining $48,225 would fall in the 32% bracket, so the 25% ceiling applies, $12,056. Layer total $31,682. The $402,000 capital gain layer then stacks from $250,000: $295,500 at 15% up to $545,500 is $44,325, and $106,500 at 20% is $21,300, for $65,625. NIIT is 3.8% of the lesser of $532,000 or MAGI of $668,100 less $200,000, so $468,100, for $17,788.
Federal tax on the sale is $115,095, 21.6% of the gain, and a flat 5% state tax would add $26,600 for $141,695, or 26.6%. Had the same gain been exchanged, the federal and conforming-state figures would be zero this year and the full $752,000 would have gone into replacement property. Run your own numbers with your CPA.
What a 1031 exchange, boot and holding to death change
Section 1031 defers every layer by carrying the gain into the replacement property's basis under section 1031(d), and section 1250(d)(4) and section 1245(b)(4) limit recapture in an exchange to the gain actually recognized. Cash or debt relief you keep is boot and is taxed, with the depreciation layer taken first; boot taxed as recapture or capital gain first shows the ordering.
Replacement property can be a building you manage or a fractional interest in a traditional DST, and a cash out DST structure addresses owners who want liquidity without a taxable sale. Holding the replacement until death resets basis under section 1014, which 1031 versus holding for step-up weighs.
Related questions
Is my rental gain taxed at 15% or 20%?
It depends on taxable income with the gain included: 15% up to $613,700 joint or $545,500 single in 2026, 20% on the part above. The depreciation layer and your other income fill the lower brackets first.
Do I pay 25% on all the depreciation I claimed?
Only on the part that would otherwise land in a bracket above 25%. Depreciation stacked into the 22% or 24% brackets is taxed at those rates; the 25% figure in section 1(h)(1)(E) is a ceiling.
Does the gain itself count toward the NIIT threshold?
Yes. Modified AGI includes the gain, so a seller with $90,000 of wages and a $300,000 gain is over the $200,000 single threshold and owes 3.8% on the excess. Deferred exchange gain is excluded.
Which forms report the sale?
Form 4797 Part III computes the depreciation layers, the capital gain flows to Schedule D, Form 8960 computes the NIIT, and Form 8824 reports an exchange. How to fill out Form 8824 walks through the last one.
Does an exchange defer the state tax as well?
In states that follow the federal deferral, yes, though several track the deferred gain or claw it back if the replacement is out of state. Does a 1031 defer state capital gains tax lists the exceptions.
Sources
Checked against these publications on September 30, 2026. Rules and figures change; confirm the current version with your CPA or attorney before you act. This page is general information, not tax or legal advice.
- IRC section 1, tax imposed (1(h) and 1(j)(5))
- Rev. Proc. 2025-32, 2026 inflation-adjusted items
- IRC section 1250, gain from depreciable realty
- IRC section 1245, gain from depreciable property
- IRC section 1411, net investment income tax
- Instructions for Form 8960
- Instructions for Form 4797
- IRS Publication 527, Residential Rental Property
- IRC section 1223, holding period
- IRC section 1031, like-kind exchanges