Real Estate Tax Advantages and Why You Should Claim Them Without Concern

Most people who invest in real estate are aware of the tax advantages, and usually invest in a good CPA to help them take maximum advantage of those benefits. For those who are considering investing in real estate but who have not yet taken the plunge, the advantages are not so clear, so I discuss some of the advantages below.  However, before I discuss some of those advantages, I want to address a common fear or misconception around these tax breaks. 

A common fear or misconception is that by claiming legal and valid real estate related tax deductions, that you are somehow violating IRS rules and are taking a risk by doing so.  The fact is that nothing could be further from the truth.

One of the reasons that investing in real estate is such a smart decision is because the federal government recognizes how helpful real estate investing is, and they create specific tax breaks as rewards for investing in the country, and doing your part to boost the economy.  Taking advantage of these completely legal tax breaks is not wrong, nor risky.  It is expected and encouraged by Uncle Sam.

The only reason people run afoul of the IRS is when they get overly aggressive (i.e. greedy), and take deductions that they actually didn’t earn or aren’t entitled to.  As long as your CPA stays within the rules, you really have nothing to be concerned about in this regard.  And even if for some reason a red flag goes up when the IRS processes your tax return, as long as your CPA followed guidelines, then you have nothing to worry about.  Usually a simple “plain English” letter of explanation is sufficient to satisfy their inquiry, and all goes back to normal, and your CPA can take care of this for you.

With that addressed, yes, there are numerous tax advantages to investing in real estate.  Some are first year breaks, meaning you immediately get a tax break in the year you buy the property, and some of the tax breaks are spread out, usually over 15 years, as is the case with depreciation of the property.

Depreciation provides an incredible tax break because it “pretends” that the property is losing value over it’s life, and you deduct that loss of value from your taxes.  But 99.9% of the time, the property is actually appreciating, and sometimes very rapidly. The catch is that when you “cash out” of the property, the IRS treats your gain (because they base in on the depreciated value)  as larger than it is than if you looked solely at the “buy price” and the “sell price”. 

However, thanks to Uncle Sam, they provide a nice tax break in the form of 1031 Exchanges.  Named after a portion of the Federal tax code, 1031 Exchanges provide a legal and common mechanism that lets you make a large profit on a property, and roll the profits into a “new” property (new for you, not a brand new building) and defer all of the taxes on the profits until you eventually cash out.  During this, you can take some of the profit out for immediate use, and only pay the relatively low long-term capital gains tax rate, so your profits aren’t “locked up” forever.  You can take some cash out as you need it and pay relatively modest taxes rates on the gain.

So don’t let Uncle Sam’s “investment incentives” also known as real estate tax breaks keep you from investing.  They were created to encourage you to invest, and claiming these deductions is your legal right (some would even say your legal obligation), and there is nothing wrong whatsoever with taking advantage of what is rightfully yours.  Just find a solid CPA to help guide you, and let them know you want to take full advantage of tax breaks, but not “push your luck” by over-claiming deductions.  Then you can sleep well at night knowing you are building incredible wealth through real estate investing. To see a list of additional tax advantages, click here for an article on the subject.

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