IRS Instruction 4797 – Selling or exchanging business assets can trigger complex tax consequences, including depreciation recapture and special gain/loss treatments. The IRS requires Form 4797 (Sales of Business Property) to report these transactions accurately. This comprehensive guide, based on the official 2025 Instructions for Form 4797 (revised July 2025), explains the form’s purpose, who must file it, how to complete each part, key rules like depreciation recapture, and practical tips.
Properly using Form 4797 helps you classify gains as ordinary income or capital gains, avoid penalties, and potentially reduce your tax bill through proper loss reporting.
What Is Form 4797 and Why Is It Important?
Form 4797 reports the sale, exchange, or involuntary conversion of business property. It also handles depreciation recapture under sections like 1245 and 1250, turning what might seem like capital gains into ordinary income (taxed at higher rates).
Key transactions reported include:
- Real or depreciable property used in a trade or business (held more than 1 year).
- Involuntary conversions (e.g., condemnations, but not casualty/theft losses, which go on Form 4684).
- Oil, gas, mineral properties, and certain section 126 cost-sharing payments.
- Section 179 property dispositions and recapture when business use drops to 50% or less.
- Gains/losses from mark-to-market elections by traders (section 475(f)).
- Qualified section 1231 gains deferred into a Qualified Opportunity Fund (QOF).
Note: Do not use Form 4797 for inventory, property held primarily for sale to customers, or most personal-use assets. Casualty/theft losses use Form 4684, and like-kind exchanges require Form 8824.
Pro tip for SEO/searchers: Searching for “Form 4797 instructions” or “depreciation recapture business property sale” often leads here—always download the latest PDF from IRS.gov for your tax year.
Who Must File IRS Form 4797?
You must file if you are an individual, partnership, S corporation, or other entity with reportable transactions involving business property. Partners and S corp shareholders report their share from Schedule K-1 (boxes for section 1231 or 179 gains/losses).
File Form 4797 with your Form 1040, 1120, 1065, or other income tax return. Attach related forms like Form 6252 (installment sales), Form 8824 (like-kind exchanges), or Form 8997 (QOF investments).
Understanding the Three Main Parts of Form 4797
The form divides into three parts for proper classification:
Part I: Sales or Exchanges of Property Used in a Trade or Business and Involuntary Conversions (Section 1231 Property)
This section covers most long-term (held >1 year) business property sales. Net gains often receive favorable long-term capital gain treatment on Schedule D, but prior-year section 1231 losses can recharacterize gains as ordinary income (lookback rule, line 8).
What goes here:
- Real/depreciable business property held >1 year.
- Involuntary conversions of business/capital assets held >1 year (non-casualty).
- Livestock and certain timber/coal/iron ore dispositions.
Gains flow to line 7, with net results carrying to Schedule D if qualifying.
Part II: Ordinary Gains and Losses
Use this for short-term transactions (held 1 year or less) or specific ordinary items not in Part I or III.
Examples:
- Ordinary losses from section 1244 small business stock (up to $50,000/$100,000 MFJ).
- Gains/losses from mark-to-market traders.
- Abandonments or de minimis safe harbor property.
- Deferred gains from qualifying electric transmission transactions (section 451(k)).
Losses here are fully deductible against ordinary income (subject to at-risk and passive activity rules on Forms 6198/8582).
Part III: Gain from Disposition of Property Under Sections 1245, 1250, 1252, 1254, and 1255 (Depreciation Recapture)
This critical section calculates how much depreciation (or other deductions) must be “recaptured” as ordinary income.
Key recapture rules:
- Section 1245 — Applies to personal property and certain real property improvements. Recaptures all depreciation as ordinary income (up to the gain amount).
- Section 1250 — For depreciable real property. Recaptures “additional depreciation” (excess over straight-line) as ordinary income. For post-1986 MACRS property using straight-line, unrecaptured section 1250 gain is taxed at a maximum 25% rate on Schedule D (not ordinary).
- Other sections — 1252 (farmland with soil/water deductions), 1254 (oil/gas), 1255 (certain cost-sharing).
Calculation basics (lines 19–32):
- Line 20: Gross sales price.
- Line 21: Adjusted basis.
- Line 22: Depreciation allowed/allowable (including section 179).
- Gain = Sales price – Adjusted basis; then allocate recapture portion to ordinary income (line 31 flows to Part I or II).
Where to report different property types (summary table from instructions):
| Type of Property | Held ≤1 Year | Held >1 Year |
|---|---|---|
| Depreciable tangible (gain) | Part II | Part III (1245) |
| Depreciable real (gain) | Part II | Part III (1250) |
| Farmland with soil/water deductions (gain) | Part II | Part III (1252) |
| Livestock (cattle/horses, gain) | Part II | Part III (1245) |
Special Rules and Transactions
- Like-kind exchanges — Report on Form 8824; any recognized gain/loss goes to Form 4797 (lines 5 or 16 for real property).
- Installment sales — Use Form 6252; recognized gain flows to Form 4797.
- Section 179 recapture — Report in Part IV if business use ≤50%. Recaptured amount is added to income.
- Partial dispositions of MACRS assets — Report gains/losses on Form 4797; track via lines 1b/1c.
- QOF deferral — Defer qualified section 1231 gains (negative amount on line 2, column g).
At-risk and passive activity limitations apply—use Forms 6198 and 8582 as needed.
How to Calculate Gain or Loss Step-by-Step?
- Determine gross sales price (cash + FMV of property received + liabilities assumed by buyer + selling expenses).
- Calculate adjusted basis (original cost + improvements – depreciation/credits/amortization).
- Gain/Loss = Sales price – Adjusted basis.
- Apply recapture in Part III.
- Classify remaining gain (e.g., section 1231) or loss.
For mixed-use property (e.g., home office), allocate based on fair market value or square footage. Keep detailed records.
Common Mistakes to Avoid
- Forgetting to recapture depreciation (leads to IRS notices and higher taxes later).
- Misclassifying property type (1245 vs. 1250).
- Not attaching required forms (8824, 6252, K-1 details).
- Ignoring lookback rules for prior section 1231 losses.
- Failing to allocate basis properly in partial sales.
Filing Tips and Deadlines
- Deadline — Attach to your timely filed tax return (April 15 for individuals, extensions apply; March 15 for partnerships/S corps).
- Download the latest instructions and form at IRS.gov/Form4797.
- Use tax software or consult a CPA for complex transactions.
- Retain records for at least 3–7 years.
Related IRS Publications: Pub 544 (Sales and Other Dispositions of Assets), Pub 946 (How To Depreciate Property), Pub 537 (Installment Sales).
Frequently Asked Questions (FAQs)
Do I need Form 4797 if I sold my rental property?
Yes, typically. Report building recapture in Part III and section 1231 gain/loss in Part I.
What if I have a loss?
Ordinary losses (Part II) are more beneficial than capital losses.
Is there a worksheet for section 179?
Yes—the instructions include a worksheet for partnerships/S corps disposing of section 179 property.
Where can I get the PDF?
Direct download: IRS Form 4797 Instructions PDF.
Conclusion
Mastering IRS Form 4797 instructions ensures you report sales of business property correctly, optimize your tax position, and stay compliant. Depreciation recapture and section 1231 rules can significantly impact your tax bill, so accuracy matters.
This guide is for informational purposes only and is not tax advice. Tax laws change, and your situation may require professional help. Always verify with the latest official IRS resources or a qualified tax advisor.
For the most current details, visit IRS.gov/Form4797 or consult Publication 544. Proper planning and documentation can save you money and stress during tax season.