Paying the Tax Now in a Low Bracket vs Deferring Forever With 1031 and DSTs

The zero-rate band ends at $98,900 of taxable income, and your own sale is what fills it

Rev. Proc. 2025-32 sets the 2026 maximum zero rate amount at $98,900 of taxable income for a joint return and $49,450 for a single filer, with the 15% band running to $613,700 and $545,500. Those are taxable income figures, measured after deductions, not gain figures.

Work backwards to see how much room there really is. A couple both aged 66 take a $32,200 standard deduction, $1,650 each for age, and the $6,000 per person senior deduction available for 2025 through 2028, which is $47,500 of deductions; they can therefore report about $146,400 of income and still keep taxable income at the zero-rate line.

That is the whole window, and a capital gain counts toward it dollar for dollar. Sell one rental with a $200,000 gain and the band is gone for the year, which is why this strategy is about slicing a portfolio, not about timing one big sale.

The depreciation layer never reaches zero, however low your bracket is

Unrecaptured section 1250 gain is taxed at a maximum 25% rate under IRS Topic 409, and it sits in its own group rather than in the net capital gain that the zero rate applies to. A landlord who has held a property for fifteen years often finds that layer is the larger half of the gain.

In a genuinely low bracket the layer is taxed at your ordinary rate instead, so 25% is the ceiling rather than the bill. That is real relief, but it is not zero, and it is the reason a bracket-harvesting plan produces tax every single year rather than none.

Everything above that layer, the pure appreciation, is what the zero rate can reach. Split your gain into the two layers before you model anything; calculating adjusted basis is the first step, not an afterthought.

Hypothetical: four rentals, one year against four, and a swing near $57,000

Hypothetical, round numbers. A couple both aged 66 have no other income and four rentals, each with a $120,000 gain made up of $30,000 of depreciation and $90,000 of appreciation, and 2026 deductions of $47,500.

Selling one a year: adjusted gross income is $120,000, taxable income is $72,500, and the $90,000 appreciation layer sits inside the zero-rate band. Only the $30,000 depreciation layer is taxed, at no more than 25%, so at most $7,500 a year and roughly $30,000 across the four years, with no net investment income tax at any point.

Selling all four in one year: the gain is $480,000, the senior deduction disappears above $150,000 of modified adjusted gross income, and taxable income is about $444,500. The depreciation layer is still capped at $30,000, the $324,500 of taxable appreciation is largely pushed above the zero-rate line and taxed at 15% for roughly $48,675, and the 3.8% tax applies to the $230,000 by which modified AGI exceeds $250,000, adding $8,740.

That is roughly $87,400 against roughly $30,000 for the same four properties and the same total proceeds. The exact figure depends on how the Schedule D Tax Worksheet stacks the two layers, but the direction and the size of the gap do not.

Three costs of a harvest year that never appear in the bracket table

The bracket table is not the whole price of realizing gain, and each of these can cost more than the capital-gain tax itself for a household living on modest income.

• Social Security: capital gain counts in provisional income under section 86, so a gain year can push a couple past the $44,000 adjusted base amount and make up to 85% of benefits taxable, on top of the gain.
• The senior deduction: $6,000 per person for taxpayers 65 and older phases out above $150,000 of modified adjusted gross income on a joint return, so a large sale quietly removes up to $12,000 of deductions.
• The 3.8% tax: the $250,000 joint and $200,000 single thresholds are fixed in statute and have never been indexed, so they arrive sooner every year in real terms.
• State income tax, which in most states has no preferential capital-gain rate at all and no zero-rate band to protect.

What deferring forever actually buys, and when it stops being worth it

Deferral keeps the tax working for you and can end it altogether. Exchange the four properties into DST interests and the entire $480,000 of gain stays invested; hold to death and section 1014 resets the basis for your heirs, so the deferred tax is never paid by anyone.

The cost is that you stay in real estate. A DST interest is illiquid, distributions are not guaranteed, and an exchange must be planned around 45 and 180 days rather than around your own calendar.

Deferral stops being the obvious answer in three situations: when the whole gain would be taxed at or near zero anyway, when a fully taxable sale would release suspended passive losses that section 469(g)(1) keeps locked inside an exchange, and when the family has no intention of holding anything until death.

The low-bracket window is narrower than it looks, so sequence it early

The window opens when earned income stops and closes when other income starts. Claiming Social Security, beginning required distributions at 73, or a spouse's part-time work can all fill the band that a sale was supposed to use.

A workable sequence is to sell the highest-basis property first, keep taxable income under the zero-rate line each year, and exchange the low-basis properties whose depreciation layer alone would exceed the band. That hybrid is common and entirely legitimate, and the side-by-side numbers show what full deferral looks like by comparison.

Confirm the numbers and the year-by-year projections with your CPA before you list anything. Breakwater Exchange has brokered 1031 exchanges for over twenty years, with DST transactions past the billion-dollar mark, and we can map which properties belong in an exchange while the rest are sold into low-bracket years.