California’s depreciation recapture tax rate is your ordinary state income tax rate, which runs from 1% up to 13.3% on taxable income above $1 million. The state does not recognize the federal 25% cap on unrecaptured Section 1250 gain and does not give capital gains any preferential rate. Every dollar of recaptured depreciation, whether it came from a rental building or a piece of equipment, is stacked on top of your wages and other income and taxed at your marginal California bracket.
The practical consequence: a Californian selling a depreciated rental faces the federal 25% cap on recapture plus up to 13.3% at the state level, so the recaptured portion alone can carry a marginal rate above 38% before the federal Net Investment Income Tax is layered on.
California’s 2026 Ordinary Income Brackets
Because recapture is taxed as ordinary income, the rate you actually pay depends on where the recaptured amount lands in the bracket schedule. California has nine base brackets from 1% to 12.3%, and the Mental Health Services Tax adds a 1% surcharge on taxable income above $1 million, producing an effective top rate of 13.3%.1Franchise Tax Board. 2025 California Tax Rate Schedules
For 2026 single filers:
- 1% up to $11,079
- 2% from $11,079 to $26,264
- 4% from $26,264 to $41,452
- 6% from $41,452 to $57,542
- 8% from $57,542 to $72,724
- 9.3% from $72,724 to $371,479
- 10.3% from $371,479 to $445,771
- 11.3% from $445,771 to $742,953
- 12.3% from $742,953 to $1,000,000
- 13.3% over $1,000,000
Married-filing-jointly thresholds roughly double these numbers.2California Legislative Information. California Revenue and Taxation Code 17041 The Franchise Tax Board confirms the no-preference treatment directly: all capital gains are taxed as ordinary income.3Franchise Tax Board. Capital Gains and Losses
Run the numbers on a realistic case. Someone earning $300,000 in salary who recaptures $200,000 of depreciation will see that $200,000 taxed almost entirely at 9.3% and above, producing a California tax bill of roughly $19,000 to $22,000 on the recapture alone. A seller already above $1 million pays 13.3% on every recaptured dollar, which is $26,600 on the same $200,000.
The Combined Federal, State, and NIIT Picture
The California rate does not sit alone. Gain from selling a depreciated investment property is generally subject to the 3.8% federal Net Investment Income Tax under Section 1411 of the Internal Revenue Code, which applies to individuals with modified adjusted gross income above $200,000 single or $250,000 married filing jointly.4Internal Revenue Service. Questions and Answers on the Net Investment Income Tax
For a high-income California seller of a rental building, the combined marginal rate on recaptured depreciation can reach roughly 42%: the 25% federal recapture rate on unrecaptured Section 1250 gain, plus 3.8% NIIT, plus 13.3% California.5Office of the Law Revision Counsel. 26 USC 1 – Tax Imposed For equipment and other Section 1245 property, the federal portion is your full ordinary rate up to 37% rather than the 25% cap.6Internal Revenue Service. Federal Income Tax Rates and Brackets
Your California Recapture Number Isn’t Your Federal Recapture Number
California does not conform to federal bonus depreciation and never has.7Franchise Tax Board. 2024 Supplemental Guidelines to California Adjustments Under the One Big Beautiful Bill Act signed in 2025, the federal government permanently restored 100% bonus depreciation for qualifying property acquired after January 19, 2025. If you took 100% bonus federally on equipment or improvements, your California deductions followed a slower schedule, so your California basis is higher than your federal basis.
When you sell, the federal recapture will be larger than the California recapture, because you deducted more depreciation federally than California allowed. Track the two bases separately. The FTB requires Schedule D-1 whenever your California basis differs from federal, and this mismatch is one of the most common error sources on California returns for property investors.
Form 593 Withholding Takes Cash at Closing
When you sell California real property, the buyer, usually through escrow, must withhold a portion of the sales price and send it to the FTB as a prepayment of your state tax. This applies whether or not you live in California, and it is reported on Form 593.8Franchise Tax Board. Real Estate Withholding
Withholding is not required if any of the following apply:
- Sales price is $100,000 or less
- The property was your principal residence for at least two of the five years before sale
- You will not have a gain (amount realized does not exceed adjusted basis)
- The sale is a foreclosure
- The gain qualifies for nonrecognition in a like-kind exchange
- The seller is a California-based corporation, partnership, or LLC meeting specific requirements
You claim an exemption on Part III of Form 593 and give it to the escrow agent before closing.9Franchise Tax Board. 2025 Instructions for Form 593 Real Estate Withholding Statement Amounts actually withheld are credited against your tax liability on your return, but plan the cash flow at closing on high-value sales.
Ways to Defer or Reduce the Recapture Tax
Section 1031 Like-Kind Exchange
A Section 1031 exchange lets you swap one investment or business property for another of equal or greater value and defer the entire gain, including depreciation recapture. California conforms to the federal rules as of January 1, 2025, with the exchange limited to real property.10Franchise Tax Board. Reporting Like-Kind Exchanges To defer the full gain, you must reinvest all net equity in qualifying replacement property and replace any debt with new debt or additional cash.
California adds a tracking rule the federal government does not. If you exchange California property for replacement property outside the state, you must file FTB Form 3840 every year until the deferred gain is eventually recognized. Miss a filing and the FTB can issue a proposed assessment to recapture the deferred gain plus penalties and interest. This obligation follows the gain indefinitely, even through later exchanges into other out-of-state properties.
Stepped-Up Basis at Death
Under Section 1014 of the Internal Revenue Code, property inherited from a decedent generally receives a basis equal to its fair market value at the date of death.11Office of the Law Revision Counsel. 26 U.S. Code 1014 – Basis of Property Acquired From a Decedent The step-up wipes out accumulated depreciation for income tax purposes, so an heir who sells immediately would owe little or no recapture because the new basis closes the gap with the sale price. For older investors with substantial built-in recapture, holding until death can be the single most tax-efficient strategy, though the trade-offs go well beyond taxes.
Installment Sales Will Not Spread the Recapture
Spreading payments over multiple years through an installment sale does not spread the recapture. Under Section 453(i), the full amount of depreciation recapture must be recognized in the year of sale, even if most payments arrive later.12Office of the Law Revision Counsel. 26 U.S. Code 453 – Installment Method Only gain above the recapture amount qualifies for installment treatment, so a substantial tax bill can land in year one while buyer payments trickle in.
Primary Residence Does Not Erase Recapture
California conforms to the federal Section 121 exclusion, which lets you exclude up to $250,000 of gain ($500,000 married filing jointly) when you sell a home you owned and used as your principal residence for at least two of the five years before the sale.9Franchise Tax Board. 2025 Instructions for Form 593 Real Estate Withholding Statement The exclusion does not erase depreciation recapture. If you claimed depreciation on a home office or converted a rental to your primary residence, depreciation deducted after May 6, 1997 must still be recaptured as unrecaptured Section 1250 gain federally and as ordinary income in California.
For mixed-use property where the rental or business portion was a separate structure, like a guest house you rented, you must allocate the gain, and Section 121 applies only to the residence portion. If the business use was inside the same dwelling unit, such as a home office in a spare bedroom, no allocation is required, but you still owe recapture on the depreciation you claimed.
Reporting the Recapture on Your California Return
Reporting starts federally on IRS Form 4797, which separates ordinary income recapture in Part III from other gains and flows to Form 1040.13Internal Revenue Service. Instructions for Form 4797 – Sales of Business Property
On the California side, use FTB Schedule D-1 if your California basis differs from your federal basis. If you ever claimed federal bonus depreciation, Section 179 expensing that California limited, or any other depreciation difference, you must complete Schedule D-1 to recalculate the gain using the California basis.14Franchise Tax Board. Instructions for Schedule D-1 Sales of Business Property The ordinary income from Schedule D-1 flows to Form 540 for residents or Form 540NR for nonresidents and part-year residents, where it is added to your other income and taxed at your marginal rate.
If your California and federal bases match, you can generally rely on the federal Form 4797 figures without a separate Schedule D-1. Even then, California taxes the recapture at ordinary rates rather than the federal preferential rates, so applying the state rate to the federal tax amount will give you the wrong answer.
Estimated Tax Payments After a Large Sale
A large recapture event can produce a six-figure tax bill that payroll withholding will not cover, and both the IRS and the FTB impose underpayment penalties if estimated payments are late. Federally, you avoid the penalty by paying at least 90% of your current-year tax, or 110% of your prior-year tax if your adjusted gross income exceeded $150,000.4Internal Revenue Service. Questions and Answers on the Net Investment Income Tax California follows a similar structure. If you know the sale is coming, make a large estimated payment in the quarter it closes. Any amount withheld through Form 593 at closing counts toward your California estimated tax obligation and provides some cushion.