To transfer real estate out of an S-corp, the corporation moves the property to a shareholder through one of three methods — a property distribution, a direct sale, or a liquidating distribution — and the IRS taxes the transaction as though the corporation sold the property at fair market value, with the resulting gain passing through to shareholders on their K-1s. No cash has to change hands for the tax to hit. The mechanics, the method you pick, and a handful of related-party rules decide how large the bill is.
Get Three Numbers Before You Do Anything
Every tax consequence in this process comes out of three figures, and getting any of them wrong distorts everything downstream.
The first is fair market value. You need an independent appraisal of what the property would sell for on the open market. That is the number the IRS uses to compute gain and the number related-party transactions are measured against. Commercial and investment appraisals commonly run from $500 to more than $10,000 depending on complexity. Informal estimates invite audit trouble.
The second is the corporation’s adjusted basis: original purchase price, plus capital improvements, minus all depreciation claimed.1Internal Revenue Service. Topic No. 703, Basis of Assets The gap between adjusted basis and fair market value is the corporation’s realized gain or loss. A property bought for $400,000, improved with $50,000 in renovations, and depreciated by $120,000 has an adjusted basis of $330,000. If it now appraises at $600,000, the corporation is looking at a $270,000 gain.
The third is each shareholder’s stock basis: their after-tax investment in the corporation, adjusted upward for pass-through income and contributions and downward for losses and prior distributions. Stock basis controls whether a distribution is tax-free or triggers capital gain on the shareholder’s return. Tracking it is the shareholder’s job, and many people do it badly. If yours is a mess, reconstruct it with a tax professional before you move the property.
Pick a Transfer Method
There are three ways to move real estate out. The right one depends on whether the corporation is continuing to operate, whether the property has appreciated, and whether there is a mortgage on it.
Distribute the Property
The most common path is distributing the property to a shareholder as a non-cash distribution. No payment moves; ownership simply transfers. For tax purposes, the IRS treats it as if the corporation sold the property to the shareholder at fair market value.2Office of the Law Revision Counsel. 26 USC 311 – Taxability of Corporation on Distribution The gain flows through to all shareholders in proportion to their ownership, not only to the shareholder receiving the property.
On the shareholder’s side, the property’s fair market value first reduces their stock basis. Anything up to basis is a tax-free return of capital. Anything above basis is a capital gain.3Office of the Law Revision Counsel. 26 USC 1368 – Distributions The shareholder’s new basis in the property equals its fair market value at distribution.4Office of the Law Revision Counsel. 26 U.S. Code 301 – Distributions of Property
Sell the Property to the Shareholder
Instead of distributing, the corporation can sell the property to the shareholder at fair market value. The shareholder pays, the corporation recognizes gain or loss, and the shareholder’s new basis equals the purchase price. A sale sidesteps the distribution-ordering rules, but the shareholder needs cash or financing, and related-party provisions can change the character of the gain or block a loss entirely. More on those below.
Transfer as Part of a Complete Liquidation
If the corporation is winding down, the transfer can happen inside a complete liquidation. The corporation is treated as selling all its assets at fair market value, and gain or loss passes through.5Office of the Law Revision Counsel. 26 USC 336 – Gain or Loss Recognized on Property Distributed in Complete Liquidation Everything the shareholder receives is treated as payment for their stock, producing a separate gain or loss depending on stock basis.6Office of the Law Revision Counsel. 26 USC 331 – Gain or Loss to Shareholder in Corporate Liquidations That produces two layers of computation, and it only makes sense if you are actually dissolving the entity.
How the Corporation’s Gain Gets Taxed
Whichever method you use, the corporation recognizes gain as though it sold at fair market value.2Office of the Law Revision Counsel. 26 USC 311 – Taxability of Corporation on Distribution The gain passes through to shareholders on Schedule K-1 and lands on their individual returns. The S-corp itself owes no federal income tax on the gain unless the built-in gains tax applies.
Depreciation Recapture
This is where surprises happen. Some of the gain is not taxed as ordinary capital gain but as recaptured depreciation, at a higher rate.
For most commercial and residential rental property placed in service after 1986 and depreciated straight-line, the portion of gain attributable to prior depreciation is “unrecaptured Section 1250 gain,” taxed at a maximum rate of 25%.7Internal Revenue Service. Topic No. 409, Capital Gains and Losses That’s meaningfully higher than the 15% or 20% long-term capital gains rate on the rest of the appreciation.
Using the earlier numbers: of the $270,000 gain, $120,000 attributable to depreciation is taxed at up to 25% as it passes through. The remaining $150,000 of appreciation gets long-term capital gains treatment. If the corporation used accelerated depreciation or special allowances, some portion may be true ordinary-income recapture under Section 1250.8Office of the Law Revision Counsel. 26 USC 1250 – Gain From Dispositions of Certain Depreciable Realty
Built-In Gains Tax for Former C-Corporations
If the S-corporation used to be a C-corp, a second corporate-level tax can apply. Section 1374’s built-in gains tax hits any gain that already existed at the time of conversion, provided the property is disposed of within the five-year recognition period that starts with the first S-corp year.9Office of the Law Revision Counsel. 26 U.S. Code 1374 – Tax Imposed on Certain Built-In Gains The rate is the top corporate rate, currently 21%. This is a real double tax: the corporation pays at the entity level, and the remaining gain still passes through to shareholders. If the entity has always been an S-corp, or more than five years have passed since conversion, the tax doesn’t apply.
Related-Party Rules That Can Backfire
A shareholder and their own corporation are related parties, and two provisions can turn a straightforward transfer into a more expensive one.
Losses Get Disallowed
If the corporation sells the property to a shareholder who owns more than 50% of the stock, directly or through family attribution, any loss on the sale is completely disallowed.10Office of the Law Revision Counsel. 26 USC 267 – Losses, Expenses, and Interest With Respect to Transactions Between Related Taxpayers The corporation cannot deduct it. The shareholders cannot claim it. The disallowed loss can reduce the shareholder’s gain if they later sell to an unrelated buyer, but if that later sale is also at a loss, the original disallowed amount disappears for good.
If several properties move in the same transaction, gain and loss are computed separately for each. You cannot net a gain on one against a loss on another inside a related-party deal.
Gain Gets Recharacterized as Ordinary Income
When the corporation sells depreciable property to a more-than-50% shareholder, any gain is recharacterized as ordinary income rather than capital gain, provided the property will be depreciable in the shareholder’s hands — meaning they plan to rent it out or use it in a business.11Office of the Law Revision Counsel. 26 USC 1239 – Gain From Sale of Depreciable Property Between Certain Related Taxpayers Ordinary rates can be nearly double long-term capital gains rates. A $200,000 capital gain taxed at 20% becomes a $200,000 ordinary gain taxed at up to 37% at the shareholder’s marginal rate. Section 1239 applies to direct sales, not distributions, which is one reason distribution is often the chosen route when the shareholder plans to keep depreciating the property.
If There’s a Mortgage
A mortgage complicates the transfer significantly. Most loan agreements contain a due-on-sale clause that lets the lender demand full repayment when ownership changes.12Office of the Law Revision Counsel. 12 U.S. Code 1701j-3 – Preemption of Due-on-Sale Prohibitions Moving property from an S-corp to a shareholder is exactly the kind of change that triggers it.
Two practical paths exist: the shareholder refinances the loan in their personal name, or they negotiate with the lender to assume the existing mortgage. A simple assumption may leave the corporation liable if the shareholder later defaults. A novation, in which the lender formally releases the corporation and substitutes the shareholder, gives a cleaner break. Both approaches require lender cooperation, and lenders are under no obligation to provide it.
The debt also changes the tax math. When a shareholder takes on the mortgage as part of a distribution, the balance counts toward the distribution’s value, which can push the total above the shareholder’s stock basis and create capital gain.
Corporate Approval and Recording the Deed
The board or shareholders, depending on your governance documents, must pass a formal resolution authorizing the transfer. The resolution should identify the property, name the receiving shareholder, state the fair market value, and label the transfer as a distribution, sale, or liquidating distribution. Date it and keep it in the minute book.
A new deed conveys legal ownership. A general warranty deed gives the shareholder the strongest title protection; a special warranty deed covers only issues that arose during the corporation’s ownership and is common in corporate transfers; a quitclaim deed conveys whatever the corporation has with no guarantees. An authorized corporate officer signs the deed before a notary, and the deed is then filed with the county recorder or land registry where the property sits. Recording fees generally run $10 to $90 per page. Many states and localities impose transfer taxes on real estate conveyances; some exempt corporation-to-shareholder transfers and some don’t, and rates can reach several dollars per thousand of value. Check the local rules before closing.
Keep the recorded deed, the signed resolution, the appraisal, and lender correspondence in the corporate records. If the IRS questions the transaction years later, those documents are the proof that it was properly authorized and valued.
What to File
The corporation reports the deemed sale on Form 4797, using fair market value as the sale price.13Internal Revenue Service. About Form 4797, Sales of Business Property Depreciation recapture is computed in Part III, with unrecaptured Section 1250 gain reported separately on Schedule D.14Internal Revenue Service. Instructions for Form 4797 (2025)
On Form 1120-S, the distribution is reported on Schedule K, Line 16d. Attach a statement showing the acquisition date, the distribution date, the fair market value on the distribution date, and the corporation’s basis.15Internal Revenue Service. Instructions for Form 1120-S (2025) Each shareholder’s pro rata share of the gain and the distribution flows through on their Schedule K-1. For calendar-year S-corps, Form 1120-S is due March 15, and Form 7004 filed by that date extends the return six months to September 15.
Out-of-Pocket Costs Beyond the Tax Bill
Several cash outlays travel with the transfer regardless of which method you use:
- A commercial appraisal, commonly $500 to more than $10,000 depending on the property.
- State or local transfer taxes, ranging from zero to several dollars per $1,000 of value.
- Recording fees, typically $10 to $90 per page.
- A new owner’s title insurance policy, particularly worth considering if the deed is a special warranty or quitclaim.
- Attorney and CPA fees. Between the resolution, deed preparation, lender negotiation, and multi-layered tax calculations, professional help is a practical requirement.
The tax pieces — depreciation recapture, potential built-in gains tax, related-party recharacterization, and capital gain on distributions above stock basis — interact in ways that aren’t obvious until someone models the numbers. Running that full calculation before you commit to a method is the single most consequential step in the process.