What Is Form 4797? Sales of Business Property and Depreciation Recapture

Form 4797 is the IRS form you attach to your tax return to report the sale, exchange, or other disposition of property used in a trade or business. It does more than record the transaction: it sorts your gain or loss into three tax buckets — ordinary income from depreciation recapture, Section 1231 gain eligible for long-term capital gains rates, and ordinary loss deductible against your other income. Getting the sorting right is the whole point of the form, because each bucket is taxed differently.

Who Files Form 4797 and When

You file Form 4797 for the year in which you dispose of business property. The IRS instructions list several triggering events beyond a straightforward sale:

Selling or exchanging business real estate or equipment, including buildings, machinery, vehicles, and land used in the business.
Involuntary conversions, such as condemnation or seizure through eminent domain, when the event is not a casualty or theft reported on Form 4684.
Section 179 recapture when business use of an expensed asset drops to 50% or below (reported in Part IV).
Dispositions reported to you on a Schedule K-1 from a partnership or S corporation.
Sales of noncapital business assets that aren’t inventory, such as accounts receivable.

If none of these events occurred during the year, you don’t need the form.¹ Casualty and theft losses of business property generally start on Form 4684, though the resulting gain or loss can flow through Form 4797.²

What Counts as Section 1231 Property

Most transactions on Form 4797 involve Section 1231 property, and the category matters because it gets a uniquely favorable treatment: net gains are taxed at long-term capital gains rates, while net losses are fully deductible against ordinary income.

Section 1231 property is depreciable property and real property used in a trade or business and held for more than one year. Typical examples are commercial buildings, manufacturing equipment, office furniture, business vehicles, and the land under your business real estate. Timber, coal, domestic iron ore, and certain livestock also qualify. Livestock has its own holding periods: 24 months for cattle and horses, 12 months for other livestock.³

Some property is specifically excluded. Inventory and anything held primarily for sale to customers is ordinary business income, not Section 1231 property. Patents, copyrights, and creative works held by their creator are also excluded. Capital assets held for one year or less belong on Form 8949 and Schedule D, not Form 4797.⁴

When you sell business real estate that includes both a building and land, split the sale price between the two based on fair market value. The building triggers depreciation recapture; the land does not, so they are reported in different parts of the form.²

The Four Parts of the Form

Part I: Section 1231 Gains and Losses

Part I is where Section 1231 transactions land — sales of business property held more than one year. Non-depreciable business property like land goes directly here, and the remaining gain from depreciable property flows here after the recapture calculation in Part III. All Section 1231 gains and losses are netted in Part I to determine whether the combined result is a long-term capital gain or an ordinary loss.⁵

Part II: Ordinary Gains and Losses

Part II handles ordinary gains and losses that don’t belong in Part I or Part III. That includes property held one year or less, plus the ordinary-income amounts that flow in from the depreciation recapture calculations in Part III. The Part II total transfers to Schedule 1 of Form 1040.¹

Part III: Depreciation Recapture

Part III is where you compute recapture under Sections 1245 and 1250. When you sell depreciable business property held more than one year at a gain, this is your first stop. You compute the total gain, determine how much is ordinary income due to recapture, send the ordinary portion to Part II, and send any remaining gain to Part I for Section 1231 netting.⁵

Part IV: Section 179 and Listed Property Recapture

Part IV covers a specific situation: recapture triggered when business use of an asset drops to 50% or below. If you previously expensed an asset under Section 179 or claimed depreciation on listed property such as a vehicle or computer used partly for personal purposes, and business use falls under the threshold, Part IV calculates what you owe back.⁵

Where to Start Based on What You Sold

Your starting point is the adjusted basis: original cost minus all depreciation you’ve claimed. Subtract adjusted basis from net sale proceeds and you have your recognized gain or loss. Where that number goes depends on the type of property and whether the result is a gain or a loss:

Depreciable property held over one year, sold at a gain: start in Part III to calculate recapture. The ordinary portion flows to Part II (line 13); the remaining Section 1231 gain flows to Part I.
Depreciable property held over one year, sold at a loss: report directly in Part I. There is no recapture on a loss.
Non-depreciable property held over one year, such as land: report directly in Part I.
Property held one year or less: report in Part II as an ordinary gain or loss.

The IRS instructions confirm that depreciable tangible business property held more than one year and sold at a gain begins in Part III.⁵

How Depreciation Recapture Works

Depreciation recapture prevents you from claiming ordinary deductions on the way down and capital gains treatment on the way up. Every year you own a business asset, depreciation reduces your taxable income at ordinary rates. If you later sell the asset for more than its depreciated value, the IRS claws back some or all of those prior deductions by taxing part of the gain as ordinary income. How much gets recaptured depends on whether your property is Section 1245 or Section 1250.

Section 1245 Property

Section 1245 covers depreciable personal property: machinery, vehicles, computers, furniture, and certain tangible property used in manufacturing or production. The rule is aggressive. Your entire gain is treated as ordinary income up to the total depreciation you previously claimed. Only gain above that amount qualifies for capital gains treatment.⁶

Say you bought equipment for $100,000, claimed $60,000 in depreciation (leaving an adjusted basis of $40,000), and sold it for $85,000. Your total gain is $45,000, and all $45,000 is ordinary income because it doesn’t exceed the $60,000 of depreciation you claimed. Sell it for $120,000 instead, and $60,000 of the $80,000 gain is ordinary income (the full depreciation amount) while the remaining $20,000 is Section 1231 gain eligible for capital gains rates.

Section 1250 Property

Section 1250 covers depreciable real property that isn’t Section 1245 property, mainly commercial and residential rental buildings. Only “additional depreciation” is recaptured as ordinary income, meaning the amount by which your actual depreciation exceeded straight-line depreciation.⁷

In practice, most real property placed in service after 1986 already uses straight-line depreciation, so there is usually zero additional depreciation to recapture under Section 1250. A separate rule picks up where Section 1250 leaves off.

The 25% Rate on Unrecaptured Section 1250 Gain

Even when Section 1250 requires no ordinary recapture, the straight-line depreciation you claimed on real property faces a maximum tax rate of 25%. This “unrecaptured Section 1250 gain” equals the lesser of your recognized gain or the total depreciation you claimed.⁸ It’s taxed at a maximum of 25%, which sits between ordinary income rates and the long-term capital gains rates of 0%, 15%, or 20%.⁹ Any remaining gain beyond the depreciation amount is taxed at the regular long-term capital gains rates.

The Five-Year Lookback on Section 1231 Gains

Before a net Section 1231 gain from Part I can be treated as long-term capital gain, you have to apply the lookback rule. This recharacterizes current-year Section 1231 gains as ordinary income to the extent you deducted net Section 1231 losses as ordinary losses during the previous five tax years.³

The logic is simple. Section 1231 losses get treated as ordinary losses, deductible against wages, business income, and other ordinary income, while Section 1231 gains get treated as capital gains taxed at lower rates. Without the lookback, a taxpayer could alternate losses and gains across years to get the best of both. The rule forces you to pay back prior ordinary loss deductions before benefiting from capital gains rates. Only the portion of the current-year gain that exceeds those unrecaptured prior losses qualifies for long-term capital gains treatment, and once a prior loss has been offset it’s used up.

Pass-Through Entities and K-1s

If you’re a partner in a partnership or a shareholder in an S corporation, you don’t escape Form 4797 just because the entity made the sale. Your share of the gain or loss appears on your Schedule K-1, and you carry those amounts to your individual Form 4797.⁵

Section 1231 gains from a partnership appear in box 10 of Schedule K-1 (Form 1065); S corporation Section 1231 gains appear in box 9 of Schedule K-1 (Form 1120-S). Both go into Part I of your Form 4797. The five-year lookback rule still applies on your individual return, so K-1 gains may still be recharacterized as ordinary income if you had prior Section 1231 losses.⁵

One trap catches people off guard. If the partnership or S corporation previously passed through a Section 179 deduction to you and later sells or disposes of that property, you must report your share of the recapture on Form 4797, even if you weren’t a partner or shareholder when the original deduction was claimed.²

Involuntary Conversions and Section 1033 Deferral

Form 4797 also reports involuntary conversions, situations where business property is taken through condemnation or eminent domain, or converted through events other than casualty or theft.²

When an involuntary conversion produces a gain, Section 1033 lets you defer recognizing it if you reinvest the proceeds in similar replacement property within the required time frame. The general replacement period is two years after the close of the first tax year in which you realize any part of the gain. For condemned real property, you get three years. You can also apply to the IRS for an extension of either deadline.¹⁰

To elect deferral, report the details of the replacement property in a statement attached to your return for the year you acquire it. If you haven’t yet purchased the replacement by the filing deadline but expect to within the replacement period, you can elect deferral on your timely filed return and amend later if necessary.

How the Numbers Land on Your 1040

The final figures from Form 4797 land in different places on your return depending on their character:

Net Section 1231 gain from Part I, after the lookback rule, transfers to Schedule D as a long-term capital gain and is taxed at 0%, 15%, or 20% depending on your income.
Net Section 1231 loss from Part I is treated as an ordinary loss and directly reduces your adjusted gross income, a meaningful advantage over capital losses, which are capped at $3,000 per year against ordinary income.
Ordinary income from recapture and other Part II amounts flow to Schedule 1 (Form 1040), line 4, and are taxed at your regular income tax rates.¹
Unrecaptured Section 1250 gain is reported on the Schedule D worksheet and taxed at a maximum rate of 25%.

A single property sale can generate all of these consequences at once. Selling a commercial building at a significant gain might produce ordinary recapture income taxed at your marginal rate, unrecaptured Section 1250 gain taxed at up to 25%, and a remaining Section 1231 gain taxed at capital gains rates. The form’s multi-part structure exists to sort those different tax treatments out of what looks like one transaction.

1
Internal Revenue Service. Form 4797 – Sales of Business Property
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Internal Revenue Service. Instructions for Form 4797 – Sales of Business Property
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Office of the Law Revision Counsel. 26 USC 1231 – Property Used in the Trade or Business
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Internal Revenue Service. Instructions for Schedule D (Form 1040)
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Internal Revenue Service. Instructions for Form 4797 (2025)
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Office of the Law Revision Counsel. 26 USC 1245 – Gain From Dispositions of Certain Depreciable Property
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Office of the Law Revision Counsel. 26 USC 1250 – Gain From Dispositions of Certain Depreciable Realty
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Internal Revenue Service. 26 CFR Part 1 – TD 8836 Capital Gains, Installment Sales, Unrecaptured Section 1250 Gain
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Office of the Law Revision Counsel. 26 USC 1 – Tax Imposed
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Office of the Law Revision Counsel. 26 USC 1033 – Involuntary Conversions