Claimed a home office? The sale is not that simple

A great many people started claiming a home office in 2020 and have claimed one every year since. Most of them believe that when they sell, the home-sale exclusion covers everything.

It generally does not cover the depreciation. That part sits outside the exclusion entirely, and it is owed under a rule that surprises people: it can apply whether or not you actually claimed it.

Depreciation sits outside the exclusion

Section 121 lets a qualifying seller exclude up to $250,000 of gain, or $500,000 on a joint return. But you cannot exclude the portion of gain equal to depreciation adjustments allowed or allowable after 6 May 1997 (Publication 523).

That amount is treated as unrecaptured Section 1250 gain, taxed at a rate of up to 25%, and reported on Form 4797 rather than simply disappearing into the exclusion. It is a separate calculation sitting alongside the exclusion, not something the exclusion absorbs.

So a seller who is comfortably under the $250,000 limit — who would otherwise owe nothing at all — can still have tax to pay purely because of the office in the spare bedroom.

“Allowed or allowable”

This is the phrase worth reading twice. The rule reaches depreciation allowed or allowable— meaning the amount you were entitled to take, not merely the amount you actually took.

If you were eligible to depreciate the business portion of your home and did not claim it, the recapture calculation can still be based on what you could have claimed. Skipping the deduction does not reliably avoid the consequence; it can mean paying the tax without ever having received the benefit.

This is squarely a question for your tax professional, and it is the single best reason to raise a past home office with them well before you list the house rather than during the closing week.

The simplified method is different

There are two ways to claim a home office. The regular method apportions actual expenses and includes a depreciation deduction for the business part of the home. The simplified method uses a flat rate per square foot up to a maximum area (Publication 587).

For years in which the simplified method was used, the depreciation deduction is treated as zero — so those years generally do not create a recapture problem on sale. People often switch between the two methods over the years without noting which was used when, and that is exactly the record that decides how much of this applies.

If you ever rented the place

The same principle reaches further than home offices. If the property was a rental for any period — you moved and let it out rather than selling, took in a lodger, ran it as a short-term let — depreciation for that period is subject to the same treatment.

Renting is also where a second rule can appear: periods of non-qualified use can reduce the share of gain you may exclude. It has significant exceptions, and the most important one is that time after the last date the home was your principal residence generally does not count against you. Which way it falls depends on the order of events, not simply on whether you rented at all.

What to keep

The recapture figure is built from records, and they are the records people are least likely to have kept:

• Which years a home office was claimed, and which method was used in each
• The square footage or percentage treated as business use, and any year it changed
• The depreciation actually taken each year — usually on Form 8829
• For any rental period: the dates, and the depreciation schedule that went with it
• Improvements made to the business portion, which are treated differently from improvements to the rest of the home

None of this is exotic paperwork. It is simply paperwork that becomes very hard to reassemble ten years and two accountants later, when the return that holds the answer is in an archive nobody kept.

What records to keep, and for how long covers the rest of the file.