Tax-Saving Strategies for Real Estate Investors: How to Pay Less & Keep More This Year
When folks are asked if taxes are too high, they usually say yes, way too high. Of course, most of us want to pay less in taxes, but let’s look at it from a historical perspective. As I’m writing this, the federal tax rate in the highest bracket is 39.6%. Starting in 1939, the top rate was 75%. It rose to 91% during WWII all the way until 1965, when it decreased to 70%. The 91% tax rate was on income of $200K and above. (For the full chart of the tax rates through history, click here.)
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For most of us, taxes are our biggest expense. So, if we assume that the tax rate itself isn’t too high, why are so many people paying more and keeping less?
Maybe Your Deductions Are Too Low
Although I’m not an accountant, I do know that the majority of people aren’t even close to taking all the legal deductions they could. Saving on taxes and investing that money is probably one of the most underutilized ways for people to really build wealth. The reason I know this is because much of my own wealth was built this way.
Using the Tax Laws to Build Wealth
One strategy is to have the right entity structures and to organize your business plan, especially before the December 31st tax deadline of the current year. It’s really best to know the tax laws and strategies that relate to you the most. For example, utilizing an S-Corporation may make more sense to flip houses in so you can run expenses, like medical, through — and it’s not subject to social security tax.
Owning a business can create many tax saving opportunities, as does owning real estate. Deductions include taxes, mortgage interest, repairs, and the best one, of course, depreciation (phantom income). There's also many other tax-deductible expenses, like company vehicles, meals, travel and entertainment, and office supplies.
Another strategy is to utilize the 60-day IRA rollover option to fund real estate deals. This gives you premature access to retirement capital without tax or penalty.
Don’t Fear the IRS
I believe the number one reason people pay way too much in taxes is that they fear the IRS. You really just need to be organized and keep good records. Keep in mind also that many write-offs can be accelerated.
You can also try to convert nondeductible expenses into deductible ones. For example, years ago I use to pay for my wife's non-deductible auto loan with our deductible HELOC (Home Equity Line of Credit).
Another strategy is to try to increase deductions before year-end or try to postpone or defer income. I’ve even used income splitting strategies with family. It also may make sense to utilize retirement plans, 1031 exchanges, and even some family limited partnerships. Sometimes, you could even reclassify income. You can also save on payroll taxes and expenses by providing fringe benefit plans in place of increased salary or by using independent contractors, consultants, or even virtual assistants.
Increase Your Deductions
It’s also possible to increase your depreciation deductions on rental properties by utilizing cost segregation, a method by which the parts or sections of a property are individually depreciated at different, more accelerated rates. This could allow you to take more deductions sooner and use the money to re-invest.
Another way to increase your deductions is to hire a family member who’s in a lower tax bracket, as you may be able to deduct more business expenses. Some real estate investors also acquire a real estate salesperson’s license in order to create a business with additional business deductions.
As you can see, there are way too many deductions and strategies to mention in one article. But what holds most people back from saving and investing the money they would’ve spent in taxes is that they don’t take the time to learn about the tax code or stay organized.
So, as a real estate investor, what are some of your favorite tax saving strategies?
Let me know with a comment!