Commercial Real Estate Capital Gains Tax

When you sell a commercial property for more than the purchase price, the profit you make is called a capital gain. In commercial real estate, this profit is subject to a tax known as capital gains tax. The rate at which you’re taxed on capital gains can vary based on how long you’ve owned the property and the total amount of gain.

Understanding capital gains taxes (CGT) on commercial real estate is essential for investors because it directly affects the net profit from the sale of a property. With smart planning and a solid grasp of how capital gains taxes work, you can leverage investment strategies, such as a 1031 exchange, to minimize your taxes and maximize your profit.

At Universal Pacific 1031 Exchange, we have over 35 years of experience in offering the best Qualified Intermediary services to help you defer capital gains tax through a 1031 exchange. We’re always available to help you facilitate a compliant and successful exchange and guide you throughout the process. Schedule a free consultation with us – let’s discuss how you can start your 1031 exchange.

In this article, we cover the basics of capital gains tax in commercial real estate investments and provide tax planning strategies for reducing your immediate tax burden. Having this understanding will help you maximize your investment returns while reducing tax liabilities.

What Is Capital Gains Tax on Commercial Real Estate?

Capital gains tax on commercial real estate refers to the tax you pay on the profit (capital gains) earned from the sale of commercial property. When you sell a commercial property or any capital asset at a higher price than the acquisition price, the profit that results from the sale is known as capital gains. The income taxes levied on this profit are called capital gains taxes.

Capital gains tax on commercial property is calculated based on the difference between the sale price of the property and its original purchase price. Also, improvements made to the investment property affect the taxes.

For example, if you purchased a house for $500,000 and sold it for $700,000, the profit on the sale would be $200,000. This profit is a capital gain and, thus, taxable. The exact amount of capital gains tax you pay varies depending on how long you’ve held the investment property and the tax laws in the jurisdiction where the property is located.

Types of Capital Gains Tax

There are two major categories of capital gains tax based on the length of time the property was held before the sale:

Short-Term Capital Gains Tax

Short-term capital gain is the profit you make from selling a commercial property you’ve owned for a short time, usually a year or less. Short-term capital gains tax rates are usually higher than long-term capital gains tax rates. So, if you want a quick profit, be prepared to pay more taxes compared to holding onto the asset for the long term.

Also, short-term capital gains tax on commercial real estate is usually considered the same as ordinary income. The federal income tax rates range between 10% and 37%, depending on your taxable income and filing status (single, married, or head of household).

Long-Term Capital Gains Tax

Long-term capital gains are the profit you realize from selling a property or an asset you’ve held for over a year. The tax payable on this gain is called long-term capital gains tax on commercial real estate. Remember, the exact tax rates and rules can vary depending on your taxable income and filing status.

What Are the 2025 Long-Term Capital Gains Tax Rates?

The 2025 long-term capital gains tax on commercial real estate is categorized under three broad income levels. Taxes for these levels are further determined by the taxpayer’s filing status, such as whether they are filing as a married couple. Based on these factors, we have the following:

It’s important to note that sometimes you may have to pay both federal capital gains taxes and state capital gains taxes, depending on the state where the property is located. For instance, states like Florida, Texas, and Arizona don’t impose a state capital gains tax on the profit you make from selling a property. In contrast, it’s demanded in other states like California, New York, and New Jersey.

How To Calculate Capital Gains Taxes on Commercial Real Estate

For commercial real estate investors, calculating capital gains tax on commercial property is an essential part of tax planning. The steps include:

1. Determine Your Basis: Start by determining your property’s basis. The basis comprises the original purchase price plus any additional costs such as closing costs, legal fees, and improvement costs.
2. Calculate Your Gain: Next, calculate your capital gains by subtracting your basis from the price you sold the property. For example, if you bought a property for $500,000 and sold it for $700,000, your gain would be $700,000 – $500,000 = $200,000.
3. Determine Your Holding Period: The holding period determines the tax rate apportioned to you. If you’ve held the commercial real estate for more than a year, you’ll file at the long-term capital gains tax rate. If it’s a year or less, you’ll pay short-term capital gains tax.
4. Apply the Applicable Tax Rate: Depending on your holding period and taxable income bracket, apply the appropriate long-term capital gains tax rate or short-term capital gains tax rate.
5. Consider Other Factors: Ensure to include any deductions, deferrals, or credits you may be qualified for. An example is the primary residence sale exclusion. Other deductions and benefits include mortgage interest deductions, pass-through deductions, tax credits, opportunity zones programs, or any other applicable state tax rules in your jurisdiction.
6. Calculate the Tax Owed: Multiply your gain by the applicable tax rate to determine the commercial real estate capital gains taxes owed. For instance, if your gain is $200,000 and the tax rate is 15%, your tax owed would be $30,000.
7. Report the Gain: Report the capital gains on your income tax return. Use IRS Form 8949 to report the sale of the property and Schedule D to calculate the tax. For 1031 exchange transactions, use Form 8824 instead. Also, note that different states have unique capital gains tax rates and reporting requirements. So remember to check the rules in your state.

Remember, tax laws and rates can change, and there may be additional factors or deductions that can affect your calculation, such as state taxes. It’s always recommended to consult with an experienced tax professional or qualified intermediary who specializes in commercial real estate to ensure you’re calculating your capital gains taxes accurately and taking advantage of any possible tax benefits or deductions.

Example Calculation of Capital Gains Tax 

Assume you purchased a shopping complex for $500,000 and spent $100,000 on improvements and claimed $50,000 in depreciation.

• Your adjusted basis: $500,000 + $100,000 – $50,000

Say you sell the property for $800,000 with a selling expense of $20,000, your selling price for tax purposes is $780,000.

• Capital Gain = Selling price – $Adjusted Basis
• Capital gains = $780,000 – $550,000 = $230,000

Assume your tax rate is 15%.

• Capital gains taxes = $230,000 x 15% = $34,500

9 Strategies to Minimize or Defer Capital Gains Taxes on Commercial Properties

To avoid or minimize capital gains taxes, you need to understand the tax code and plan strategically. There are various strategies you can employ to reduce the tax burden when you decide to sell a commercial property. Such strategies include:

1. 1031 Exchange

A 1031 exchange, also known as a like-kind exchange, allows you to defer paying capital gains taxes by reinvesting the proceeds from the sale of a property into another “like-kind” property. Effectively deferring capital gains taxes using this strategy requires you to adhere to the IRS requirements for 1031 exchanges. For instance, the IRS requires that both properties must be like-kind, used for investment or business purposes, and the transactions must be completed within the IRS timeline for 1031 exchanges.

2. Installment Sales

An installment sale allows the seller to spread the receipt of proceeds over several years, potentially lowering the tax bracket and reducing the overall tax rate on the gain. By receiving the payment in installments, you can defer the capital gains taxes (CGT) over the period payments are received, rather than paying all at once. Note that you must also adhere to the IRS regulations for installment sales to qualify.

3. Opportunity Zones Program

Introduced in the Tax Cuts and Jobs Act of 2017, opportunity zones are economically distressed communities where new investments may be eligible for preferential tax treatment under certain conditions. By reinvesting capital gains into a Qualified Opportunity Fund (QOF) that invests in these zones, you can defer and potentially reduce your capital gains taxes.

According to the IRS, if you keep your money in a QOF investment for at least five years, you’ll receive a 10% reduction in your CGT. Likewise, holding it for at least seven years gives a 15% reduction. If you hold the investment for at least ten years, the capital gains from the investment in the zone can be tax-free.

Also, ensure that the QOF has met the specified eligibility conditions before investing your money. One of these conditions includes investing at least 90% of its assets in Qualified Opportunity Zone property.

4. Conversion to Primary Residence

Under certain circumstances, converting a commercial property into your primary residence can allow you to take advantage of the Section 121 exclusion for capital gains on the sale of primary residences. Individuals can exclude up to $250,000 of gain from their income, and married couples can exclude up to $500,000. However, this strategy requires living in the property for at least two of the five years before the sale and is subject to other limitations.

5. Tax Loss Harvesting

Tax loss harvesting involves offsetting capital gains with capital losses. If you have other investments that have lost value, selling them to realize a loss can offset the gains from your commercial real estate property. This can be a complex strategy and requires careful timing and consideration of tax implications.

6. Charitable Trusts

Using a Charitable Remainder Trust (CRT) allows the property owner to donate the property to a trust, sell the property tax-free through the trust, and then receive income from the trust for a set number of years. Upon the termination of the trust, the remainder of the assets goes to the designated charity. This can provide immediate tax benefits and income, along with fulfilling philanthropic goals.

7. Cost Segregation Study

Cost segregation analysis involves a breakdown of the individual components of a property, such as flooring, roofing, doors, wiring, etc., aimed at determining their useful life. Once ascertained, you can leverage shorter-life assets to get accelerated depreciation deductions. So while this strategy doesn’t defer taxes, it can significantly reduce your capital gains tax bill.

8. New Markets Tax Credit Program (NMTC)

This program allows you to claim 39% of the value of your commercial real estate investments as federal tax credit over a period of seven years. The major condition is that the property must be in a qualified low-income community (QLIC).

According to Section 45D of the Internal Revenue Code, residential rental properties are not eligible for tax credits under this program. If your investment scope revolves around residential buildings, consider the Historic Tax Credit (HTC) program. However, consult your tax advisor about these tax incentive programs before making any decision.

9. State and Local Taxes (SALT) Deductions

The newly passed One Big Beautiful Bill increased annual SALT deductions from $10,000 to $40,000. This means after paying state-level taxes, a taxpayer can claim up to $40,000 in federal tax deductions on the sum spent.

What Is Depreciation Recapture and How Does It Affect Taxes?

Depreciation recapture is a tax provision that requires individuals or businesses to pay taxes on the portion of a gain from the sale of an asset that was previously deducted as depreciation. Hence, you’re only liable to pay depreciation recapture tax on a commercial real estate property if and only if at any point you had taken tax depreciation for the property.

Pursuant to the Internal Revenue Code (IRC) Section 1250, when the said property is sold above the depreciated value after the entity has received tax depreciation relief, the portion of the gain involved will be taxed at a maximum of 25%. For the remaining part of the profit, the entity will pay the applicable capital gains tax on commercial property. Here is a practical example:

Imagine you bought a commercial real estate property for $300,000, and over a period of five years, you took a total tax depreciation of $70,000. This means you showed the Internal Revenue Service that the said property has lost $70,000 in value within the given period, and such loss was accounted for when you’re paying your annual taxes.

Suppose you eventually sold the property for $500,000. In that case, the profit gained with respect to how much you bought it five years ago is:

• $500,000 – $300,000 = $200,000

However, according to your tax depreciation filings, the property is worth only:

• $300,000 – $70,000 = $230,000

This means the actual profit you made off the sale of commercial property after taking cognizance of depreciation is:

• $500,000 – $230,000 = $270,000

We will divide this profit into two parts: $70,000 liable for depreciation recapture and $200,000 for long-term capital gains tax. While the former is pegged at a maximum rate of 25%, the latter could be 0%, 15%, or 20% depending on your annual income.

• Depreciation recapture: 25% of $70,000 = $17,500
• Capital gain tax: 20% of $200,000 = $40,000 (assuming the taxpayer falls under the 20% income level)
• Total tax on the sale of the commercial property = $57,500

Hence, the IRS recaptured 25% of the depreciation tax benefits you enjoyed for five years before you sold the property.

How Do I Defer Depreciation Recapture?

Since depreciation recapture is paid alongside capital gain tax after the sale of commercial property, you can defer its payment using the same strategies highlighted in previous sections. Some of these strategies are 1031 exchange, opportunity zone, installment sale, step-up in basis, charitable trusts, etc. Each of them has unique benefits it affords you and will ultimately help you defer or avoid depreciation recapture at the point of sale.

The Impact of Recent Legislation on Commercial Real Estate Capital Gains

There has been no recent change in the commercial real estate tax law. However, Congress has been divided on what the legislative direction should be in 2025 and beyond.

The long-term capital gains tax for the sale of commercial property currently sits at 0%, 15%, and 20%, depending on the taxpayer’s annual income. On the other hand, the short-term variant for properties sold within a year of their purchase could go as high as 37% since the proceeds are considered ordinary income.

Before leaving office, the immediate past Biden administration proposed an increase in long-term capital gains tax on commercial property to 39.6% and a net investment income tax (NIIT) from 3.8% – 5%. They sum up to 44.6% in long-term commercial real estate capital gains for anyone who earns up to $1 million yearly.

While the Left lauded this as an opportunity to get high-income earners to commit more tax to the federal coffers from their sale of commercial property, the Right views it as a deterrent to making sustainable and rewarding real estate investment. However, the proposed bill faced congressional resistance and wasn’t passed into law before the new government came in.

Even before winning the November 2024 general election, President Trump has been quite vocal against the Biden administration’s tax moves. Pursuant to this, President Trump signed the One Big Beautiful Bill into law on July 4th, 2025. The law, which is an improvement on the Tax Cuts and Jobs Act of 2017, reintroduced 100% bonus depreciation and increased State and Local Taxes (SALT) deductions from $10,000 to $40,000.

100% bonus depreciation, on the other hand, is an initiative that will help property owners recuperate instant tax benefits for every repair, renovation, or investment they make on their property. While these aren’t laws yet, they shape the legislative expectations on commercial real estate and could easily drive investments in the industry if implemented.

Looking to Defer Capital Gains Taxes on Your Commercial Real Estate?

As we’ve clearly established in this article, it is 100% legal to defer capital gain tax on commercial property. The first step to doing this is understanding the concept of capital gain taxes and their calculations in order to make informed investment decisions, minimize tax liabilities, and maximize returns.

The next step is choosing the preferred strategy. While there are several ways to defer capital gains taxes on commercial real estate sales, a 1031 exchange is the most common and reliable strategy. While it doesn’t mean a tax write-off, it allows you to indefinitely avoid these taxes for as long as you want without breaking any law.

At Universal Pacific 1031 Exchange, we offer the best qualified intermediary for 1031 like-kind exchanges in California and other states in the US. We have highly experienced, licensed CPA professionals who will guide you through every necessary step to successfully complete this process in line with the provisions of the IRC.

Schedule a free 1031 exchange consultation with us today and take the first step towards reducing your tax burdens.

FAQ

These are some of the frequently asked questions on capital gains taxes from investors selling commercial real estate.

What Is Capital Gains Tax on Commercial Property?

Capital gains tax is the tax you pay to the government based on the profit you made from the sale of a relinquished property. Capital gains on commercial property are taxed based on the holding period, your income bracket, filing status, and applicable state tax system.

Who Needs to Pay Capital Gains Tax on Commercial Property?

Capital gains tax on commercial property is typically paid by the taxpayer on record, except in certain entity structures where gains and losses are passed through to the owners.

When Does It Make Sense to Pay Capital Gains Taxes Instead of Deferring?

The best time to sell your property for cash and bear immediate capital gain tax liabilities is when you need the funds for an emergency, such as clearing serious medical bills. Alternatively, you may still conduct a 1031 exchange and take a loan against the new property.

What’s the Major Difference in Short vs. Long-Term Capital Gains Taxes?

Short-term capital gains taxes are paid at your ordinary income tax rate, ranging from 10% to 37%. On the other hand, long-term capital gains taxes, which are for properties held for over a year, come at lower rates of 0% – 20%.

What Are the Tax Implications of Capital Gains in Real Estate?

The exact capital gains tax implications you would face in a real estate transaction depend on how long you held the property before the sale, the structure of the sale, and your annual income. Holding a property for up to a year before selling will significantly reduce your capital gains tax liability.

However, one of the best ways to handle your capital gain tax burden is to sell the property through a 1031 exchange.

What Are the Tax Implications of Selling a Commercial Property?

Some of the tax implications of selling a commercial property are capital gains tax, depreciation recapture, NIIT, excise tax, recording fee, transfer tax, property tax, and other state and local taxes.

What Are the Factors That Affect Capital Gains Tax?

The major determinants of how much capital gains tax you will pay from a real estate transaction are the holding period, how much profit you made, and your filing status. Location is also an important factor because some states impose state income taxes on real estate gains in addition to your federal capital gains taxes.

What Are the Strategies to Minimize Capital Gains Tax

You can take advantage of tax deductions, exemptions, and tax credits you qualify for. Notable examples are the Section 121 capital gains exemption for primary residence, depreciation deductions, the Opportunity Zones program, and the Section 45D New Markets Tax Credit.

Are There any Tax Incentives for Investing in Commercial Real Estate?

Yes, investing in commercial real estate makes you eligible for tax credits, such as the New Markets Tax Credit (NMTC), Low-Income Housing Tax Credit (LIHTC), and Historic Tax Credit (HTC) programs. While the NMTC and HTC give you 39% and 20% tax credits, respectively, you can get up to 70% under the LIHTC.