Depreciation Recapture on US Rental Property for Canadians: 2026 Guide

When you sell a US rental property, the total gain breaks into two distinct pieces with different tax rates:

• Section 1250 unrecaptured gain — the portion of the gain equal to accumulated MACRS depreciation claimed (or allowable) during ownership. Taxed at a maximum federal rate of 25%. This is separate from the standard long-term capital gains rates of 0%, 15%, or 20%.
• Remaining capital gain — the appreciation above your original purchase price. Taxed at standard long-term capital gains rates (0/15/20% depending on taxable income). For most non-resident Canadian landlords, this rate is 15% or 20%.

The 25% recapture rate exists because the annual depreciation deductions were taken against ordinary income (reducing Schedule E taxable income year by year). Without recapture, investors would effectively convert ordinary income deductions into low-rate capital gains — the IRS closes that gap at sale.

Note: Section 1250 recapture for real property is different from Section 1245 recapture (which applies to personal property and equipment and is taxed at full ordinary income rates). For residential real property under MACRS straight-line, the unrecaptured amount is taxed at the 25% cap — not ordinary rates.

Walk through this sequence for any Canadian-owned US rental property sale:

1. Calculate accumulated depreciation to date. Add up the MACRS depreciation claimed on Form 4562 / Schedule E for every year you owned the property. If you purchased mid-year, apply the mid-month convention to year 1 and the final year.
2. Calculate adjusted basis.Adjusted basis = original purchase price + capitalized improvements − accumulated depreciation.
3. Calculate total realized gain.Total gain = net sale price (after commissions and closing costs) − adjusted basis.
4. Split the gain.The Section 1250 recapture portion = the lesser of (accumulated depreciation) or (total gain). The remaining gain = total gain − recapture portion.
5. Apply rates. Recapture portion: max 25% federal. Remaining portion: 15% or 20% long-term capital gains.

Concrete example — 10-year hold:

• Purchase price: $400,000 ($300,000 building + $100,000 land)
• Annual MACRS depreciation: $300,000 ÷ 27.5 = $10,909/year
• 10 years accumulated depreciation: $109,091
• Capital improvement in year 4 (new HVAC): $12,000 → own 27.5-year clock from year 4; approximately $2,400 additional depreciation by year 10
• Total accumulated depreciation (approx.): $111,491
• Adjusted basis: $400,000 + $12,000 − $111,491 = $300,509
• Net sale price: $560,000
• Total gain: $560,000 − $300,509 = $259,491
• Section 1250 recapture: $111,491 × 25% = $27,873 US federal tax
• Remaining capital gain: $259,491 − $111,491 = $148,000 × 15% = $22,200 US federal tax
• Total US federal tax on sale: approximately $50,073

On top of this, FIRPTA withholds 15% of $560,000 = $84,000 at closing. The actual tax is $50,073 — the $33,927 excess is refunded via your 1040-NR for the year of sale, typically 12-18 months later.

This is the most expensive mistake Canadian landlords make with US depreciation: skipping depreciation for years, assuming it is optional, and then discovering at sale that the IRS still calculates recapture as if the depreciation had been claimed all along.

The IRS rule is explicit: recapture is calculated based on depreciation “allowed or allowable.” If you owned the property for 8 years and never filed a depreciation deduction — perhaps because your return was self-prepared and depreciation was missed — the IRS computes your adjusted basis as if you had claimed 8 years of MACRS. Your adjusted basis is lower, your gain is higher, and the recapture bill is the same as if you'd claimed every dollar.

In plain terms: you paid tax every year anyway (through reduced deductions), but you receive no benefit in the year of sale for having “not claimed” depreciation. You get the worst of both worlds.

The fix before sale: file amended 1040-NR returns (Form 1040-X equivalent for non-residents) to claim the missed depreciation for the open years. IRS permits catch-up via Form 3115 (Change in Accounting Method) — in many cases you can catch up all missed depreciation in a single year through a Section 481(a) adjustment without amending every prior return. Do this before the sale, not after. A cross-border CPA who specializes in non-resident US real estate can determine which route applies to your situation.

US MACRS depreciation is mandatory — you have no choice. But Canadian CCA (Capital Cost Allowance) on T776 is optional. This choice has major consequences at sale.

If you claimed Canadian CCA:CRA calculates CCA recapture as income in the year of disposition. Recapture = proceeds of disposition (capped at original cost) − Undepreciated Capital Cost (UCC). This recapture is taxed at your full Canadian marginal rate — not at the preferential 50% capital gains inclusion rate. For a landlord in a 33% marginal bracket, CCA recapture is taxed at 33%. Combined with US Section 1250 recapture at 25%, this means the same dollars that generated deductions in two countries are recaptured in two countries at the same time.

The standard recommendation from cross-border CPAs: skip Canadian CCA entirely on T776. The accumulated CCA savings over 10-15 years are typically close to the recapture tax at sale — with the recapture hitting in a single high-income year (the sale year) that pushes you into a higher marginal bracket. The net result over the investment lifetime is often negative after accounting for the bracket effect.

When CCA might still be worth claiming: you have a specific sale year planned in which you have significant Canadian losses to offset the recapture, you plan to hold until death (where estate planning can sometimes address the recapture), or your cross-border CPA has modeled the full lifetime net present value and confirmed a positive result. Never default to claiming CCA without that analysis.

The same sale that triggers US Section 1250 recapture also triggers a Canadian capital gain on Schedule 3 of your T1 return. Canada taxes residents on worldwide income — the sale of your US property must be reported in Canada in the same tax year.

Canadian capital gains inclusion rate: the 2025 budget had proposed a 2/3 inclusion rate, but the Conservative government reversed that proposal. The current inclusion rate for individuals remains 50%. A $148,000 capital gain has $74,000 included in Canadian income, taxed at your marginal rate (say 33%) = approximately $24,420 Canadian tax on the appreciation portion.

Foreign tax credit (FTC) mechanics: the US federal tax you pay on the same gain can be claimed as a foreign tax credit on Canadian Form T2209. The FTC is limited to the Canadian tax attributable to the foreign-source income — it cannot exceed what Canada would have charged on the same income.

Where the FTC limit bites:the Section 1250 recapture portion is taxed at 25% in the US. In Canada, the same amount is a capital gain at 50% inclusion, so the Canadian tax on it is 50% × marginal rate. If your marginal rate is 33%, the Canadian effective rate on this income is 16.5% — which is lowerthan the 25% US rate. The excess US tax (25% − 16.5% = 8.5%) cannot be credited in Canada. That 8.5 percentage point gap represents real double taxation that cannot be recovered.

This is a structural mismatch in the Canada-US tax treaty that applies specifically to depreciation recapture. It is not an error — it is the cost of having claimed mandatory US depreciation deductions that Canada did not allow you to mirror.

A Section 1031 like-kind exchange allows a US taxpayer to defer ALL capital gains and depreciation recapture by rolling the proceeds into a qualifying replacement US property. No gain is recognized in the year of sale — the deferred gain carries into the basis of the replacement property.

The problem for Canadian landlords: CRA does not recognize the 1031 exchange.From Canada's perspective, you sold a property. Full stop. You must report the disposition on Schedule 3 of your T1 in the year of the exchange — Canadian capital gains tax is due in that year, regardless of what you bought with the proceeds.

The timing mismatch that results:

• Year of exchange: you pay Canadian tax on the full capital gain (no US FTC available because the US deferred the gain — you have no US tax to credit).
• Year of eventual sale of the replacement property: you pay US tax on the deferred gain from both properties combined (plus new depreciation recapture on the replacement). No FTC available because Canada already taxed the original gain years earlier.

The result: both the original and the replacement gain get taxed twice — once in each country, in different years, with no FTC available to offset. The 1031 exchange that helps US-resident investors can actually increase the lifetime tax burden for Canadian landlords.

Recommendation: do not use a 1031 exchange as a Canadian landlord without modeling the Canadian tax impact with a cross-border CPA. In most cases, a clean sale — with FTC applied to the capital gain portion — produces a lower total tax bill than a 1031 followed by two separate Canadian tax events.

FIRPTA (Foreign Investment in Real Property Tax Act) requires the buyer's closing agent to withhold 15% of the gross sale price when a foreign person (including a Canadian resident) sells US real property. On a $560,000 sale, that is $84,000 withheld at closing — regardless of how much actual tax is owed.

Reducing FIRPTA withholding with Form 8288-B: you can apply to the IRS for a withholding certificate by filing Form 8288-B at least 90 days before closing. The certificate reduces withholding to the estimated actual tax — which is typically far less than 15% of gross price. In the example above, actual tax of $50,073 on a $560,000 sale = 8.9% of price; the 15% FIRPTA rate would over-withhold by $33,927.

If you do not file Form 8288-B, the full 15% is withheld and you recover the excess by filing your 1040-NR for the year of sale (typically refunded 12-18 months after closing). The 8288-B route keeps cash in your hands at closing.

For a detailed FIRPTA walkthrough, see our FIRPTA Withholding Complete Guide.

Depreciation recapture cannot be eliminated — but it can be managed:

• Hold longer than one year. All recapture on residential real property under MACRS straight-line is already at the maximum 25% rate (not ordinary income rates), so this condition is automatically met for Canadian landlords who hold at least one full year. There is no additional benefit from holding 2 vs. 10 years on the recapture rate itself (though the appreciation portion benefits from long-term LTCG rates).
• Installment sale (Section 453). Rather than receiving the full sale price at closing, structure the sale as a seller-financed installment over multiple years. Each annual payment includes a proportional share of principal gain — spreading the recapture and capital gains over multiple tax years. This can prevent a single-year income spike that pushes you into higher brackets in both countries. Note: the Section 453 installment method is recognized by CRA for the Canadian side only if the specific facts qualify — get advice.
• Catch up missed depreciation before sale.If you skipped MACRS deductions in any year, file Form 3115 to catch up and lower your adjusted basis (and increase your deductions taken) before selling. The “allowed or allowable” recapture applies either way — you might as well have claimed the deductions.
• Do not claim Canadian CCA. Eliminating Canadian CCA recapture removes one layer of double-recapture.
• Track improvements meticulously. Capital improvements add to your basis and reduce your net gain — a $30,000 kitchen renovation that is fully documented and properly capitalized reduces the gain by $30,000. Undocumented improvements cannot reduce the gain.
• No principal residence exclusion on rental property. The Section 121 exclusion ($250,000 / $500,000 for primary residences) does not apply to investment rental property. If the property was your primary residence for 2 of the last 5 years before sale, there is a partial exclusion calculation — but for property held exclusively as a rental, this is not available.