What Exactly Are Real Estate Loopholes and How Can They Benefit You?
As a real estate investor, you need to make sure you minimize your tax liabilities. There are a number of real estate loopholes that allow you to do that.
Limiting your tax bill can give you the funds you need to make improvements to your properties or invest in other properties.
The mistake that many investors make is that they think the loopholes only apply to the wealthiest investors. This isn’t true!
They’re available and legal for all investors. It’s just that the wealthy investors who know about them because they can afford the best advisors.
You can step up your investments and use the secret loopholes that the rich have used for years. Are you ready to learn what they are?
Read on to learn the top loopholes of real estate.
1. Pass-Through Business Income
In 2017, Congress passed the Tax Cuts and Jobs Act. While it’s arguable what the results of this bill were, investors still have plenty of reasons to rejoice.
That’s because there was a business loophole added that allows investors to write off 20% of their business income.
If you earn $157,500 a year or less ($315,000 for married filing jointly), you can deduct 20% of your business income from your taxable income.
That only applies to certain types of businesses, such as LLCs, partnerships, sole-proprietorships, and S-Corporations are eligible to take the deduction.
Does this apply to real estate investors? Absolutely. Even income earned through real estate investment trusts qualifies because they are considered to be pass-through entities.
2. 1031 Exchange
Have you wanted to sell a property and invest in another one but didn’t want to pay the capital gains tax on the property?
Don’t let capital gains taxes deter you from upgrading properties in your portfolio. You can defer the capital gains taxes using a real estate loophole.
A 1031 Exchange is written about in IRS Code Section 1031. This tells you that you can sell a property used for business purposes (like an investment property or business warehouse), and use those funds to purchase your new property.
There are a number of rules and deadlines that you need to know to make this work. For example, the IRS sets deadlines to make the exchange happen. If you sell a property, you have 45 days to identify your new property and 180 days to close on it.
You also have to use a person called a qualified intermediary. They are the ones that handle the paperwork and the funds of your transaction. They help you meet the IRS deadlines because if you’re one minute late, the transaction fails and you have to pay capital gains taxes.
3. 721 Exchange
Another one of the hidden loopholes of real estate is similar to a 1031 exchange. A 721 exchange lets you defer capital gains on the profits of a sold property.
With a 1031 exchange, you have to invest in another property that is considered to be “like-kind.” In a 721 exchange, you don’t have to put your profits into a property.
This loophole allows you to invest them with a real estate investment trust or another partnership.
That opens so many doors for you. If you want to diversify your investments or you don’t want to manage real estate property anymore, this is a good option and you get many tax benefits from doing so.
4. Depreciation Deductions
Let’s say you bought an investment property for $300,000. You could write off the entire purchase of the home as a business expense. That would be a great refund for you, but you might miss out on a smart tax strategy.
Depreciation allows you to write off a portion of the expense over many years. For a commercial property, you can write off the expense over 39 years. That means you would deduct over $7000 per year for 39 years.
For a rental, you can write off the purchase over 27.5 years, making you eligible to deduct more than $10,000.
5. Home Office Deduction
Do you have a home office that you work out of? Yep, that’s a deduction that you should take as long as you meet the minimum requirements. You have to use a space in your home that’s only used for business.
An office that doubles as a guest bedroom or game room doesn’t count.
If you do have a dedicated office, you can deduct a percentage of your home expenses, like your mortgage payments and utilities. This applies to renters, too.
6. Interest and Related Expenses
Many real estate investors forget about the most basic real estate tricks to save money. These include deducting any business expenses and interest paid on the properties.
Interest is a massive tax deduction, especially if you just purchased a property. Most of your early payments in a property apply to the interest on the loan.
If you had repairs on a rental property, they’re deductible. If you have to clean a unit, that’s another deductible expense.
You have to keep incredible records because if you ever get audited, you could be in for huge fines. Make sure you keep track and file every single receipt, even if it was a few bucks for cleaning supplies.
Use the Real Estate Loopholes to Your Advantage
Every investor should look at their tax obligations and minimize them as much as possible. That doesn’t mean that you should do something illegal. There are many real estate loopholes that you can use to lower your tax burden.
That’s money that you can invest elsewhere or use for yourself. There’s no reason why you can’t take advantage of these loopholes. You just have to know what they are and have a good tax professional to make sure you take the right deductions.
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