Americans may be quick to propose higher taxes for other people, but we\u2019re less enthusiastic to pay higher taxes ourselves.<\/p>\n\n\n\n
Fortunately, the U.S. tax code allows plenty of options to reduce your tax bill<\/a>. It does require you to actually pay attention, form a tax strategy, and plan ahead\u2014which most Americans aren\u2019t willing to do.<\/p>\n\n\n\n As the year draws to a close, consider the following financial moves to slash your tax bill and keep more of your hard-earned money in your own pocket instead of Uncle Sam\u2019s grasping paws.<\/p>\n\n\n\n The IRS charges you capital gains taxes on the net sum of your long-term gains and losses. So in a year when you rake in particularly high profits \u2014 say from selling a property or a real estate syndication going full-cycle \u2014 you can avoid capital gains taxes<\/a> by offsetting those gains with losses.<\/p>\n\n\n\n No, that doesn\u2019t mean you should go out and intentionally buy bad investments to lose money. All you have to do is invest in a new real estate syndication (a group investment). <\/p>\n\n\n\n The \u201clazy 1031 exchange<\/a>\u201d works like this. Bonus depreciation and accelerated depreciation from a cost segregation study<\/a> combine to give you an on-paper loss on your tax return, which offsets your gains. <\/p>\n\n\n\n You don\u2019t have to hassle with qualified intermediaries<\/a> or strict timelines. You just need to invest in a new passive real estate syndication in the same calendar year. <\/p>\n\n\n\n As a drawback, real estate syndications typically require a high minimum investment ($50K-100K). But you can go in on these with other like-minded investors to cut that down. For example, in our Co-Investing Club we vet new deals together every month, and members can invest in any of them with $5K. That makes it not only easier to invest, but easier to diversify and spread money across many investments. <\/p>\n\n\n\n Talk to your accountant, yada yada yada, but you can typically offset gains from real estate with losses from stocks.<\/p>\n\n\n\n Again, that doesn\u2019t mean you need to make bad investments or \u201csell low.\u201d You simply sell off your index funds while they\u2019re down, and immediately re-buy similar index funds.<\/p>\n\n\n\n But not too <\/em>similar. The IRS frowns on it when you swap a virtually identical ETF for another one. You might sell a small-cap US index fund for a mid-cap US index fund one month. Maybe another month you swap a large-cap fund for a tech-heavy fund. <\/p>\n\n\n\n Some robo-advisors even do this for you. I use Charles Schwab\u2019s free robo-advisor, which includes tax loss harvesting for some accounts. <\/p>\n\n\n\n None of us are prescient investors that get every investment right; we all make mistakes. And years when you bring in high gains make great opportunities to acknowledge those mistakes, cut your losses, and reinvest the money in better long-term investments.<\/p>\n\n\n\n Say you sold a long-term rental property this year for a $25,000 profit. You don\u2019t love the idea of paying capital gains taxes on $25,000. So you look at your stock portfolio to review your stocks\u2019 performance.<\/p>\n\n\n\n You notice a few underperformers that just haven\u2019t worked out the way you thought they would. You could wait around for another three years, hoping they turn around. Or you could acknowledge you lost that round, sell them, and reinvest them in index funds or rental properties or through a robo-advisor or some other strategy altogether.<\/p>\n\n\n\n You sell them for a $5,000 loss, which drops your taxable gains to $20,000. You still owe taxes, but less than you did before, and you cleaned up your investment portfolio and put your money where it will work harder for you.<\/p>\n\n\n\n With a self-directed IRA<\/a> (SDIRA), you can invest in almost anything \u2014 including real estate.<\/p>\n\n\n\n That could mean buying rental properties, or investing in passive real estate syndications, or in notes, or private equity real estate funds. If you open a traditional account, your contributions are tax-free. Open a Roth account and you pay taxes now, but your investments compound tax-free, and you pay no taxes on withdrawals in retirement. <\/p>\n\n\n\n Or you could simply contribute to a more standard retirement account, and take the deduction to offset your taxable income from real estate. <\/p>\n\n\n\n Bear in mind that the IRS allows you until April 15 to make contributions to 401(k)s<\/a>, IRAs, ESAs (an alternative college savings account type), and health savings accounts (HSAs).\u00a0<\/p>\n\n\n\n Many states allow you to deduct contributions made to a 529 plan, which can be used to help fund your children\u2019s college education<\/a>. But in most cases, these contributions must go out by December 31.<\/p>\n\n\n\n Note that 529 contributions are not deductible on your federal income tax return. They work like Roth IRAs, where the contributions grow tax-free, and you pay no taxes when you withdraw them.<\/p>\n\n\n\n Giving money or assets to charitable organizations not only helps you save money on taxes, but it also lets you give back and invest in the future <\/a>of our world. Plus, it paradoxically makes you feel richer to give money away.<\/p>\n\n\n\n On the tax side, however, you should note a few caveats.<\/p>\n\n\n\n First, the average person can only deduct for charitable contributions if they itemize their deductions. If they take the standard deduction, then they don\u2019t bother tallying up their deductions at all.<\/p>\n\n\n\n Unless, of course, you own a business\u2014which you probably do as a real estate investor. Look into making your charitable gifts through your business, so that it comes off your business\u2019s bottom line, and therefore is not taxed. That way, you can still take the standard deduction in your personal tax return and still pay no taxes on your charitable contributions.<\/p>\n\n\n\n You can even donate entire real estate properties, cars, or other large assets if you wish, and avoid the hassle and expense of marketing and selling them.<\/p>\n\n\n\n As a final thought, beware that claiming high charitable donations can trigger an IRS tax audit. Too many people try to pull one over on Uncle Sam by overstating the value of their donations, so he\u2019s grown jaded about high gift claims.<\/p>\n\n\n\n If you pay a bill this year, it comes off of this year\u2019s taxable income\u2014even if the bill isn\u2019t due until next year.<\/p>\n\n\n\n For example, you can prepay your January mortgage payments on your rental properties. And, for that matter, on your home if you itemize deductions rather than taking the standard deduction. Just make sure your mortgage lender knows to apply the payment as your January payment, rather than as a principal paydown. Some online payment portals allow you to select this, but if not, make your payment by phone and confirm that the payment will be applied as your regular monthly payment.<\/p>\n\n\n\n Similarly, many software and subscription services let you prepay a year in advance. Some even offer hefty discounts for annual rather than monthly payments. Still others charge by the service or product, which you could purchase now rather than in January. Software and service examples for real estate investors include BiggerPockets<\/a> (of course!), Propstream<\/a>, and Stessa<\/a>.<\/p>\n\n\n\n If you think you\u2019ll need to pay for it anyway, pay it now to lower your taxable income this year.<\/p>\n\n\n\n The same concept applies to tax payments.<\/p>\n\n\n\n Self-employed Americans\u2014like, say, real estate investors and agents\u2014owe estimated quarterly taxes on their incomes. This includes taxes to state and local governments, if you haven\u2019t moved to a lower-tax state yet, to avoid hemorrhaging thousands of dollars in income taxes each year.<\/p>\n\n\n\n The fourth quarter estimated tax payment is due by January 15, but you can pay it early in December. That way, you can deduct the state and local tax bill on your federal income tax return.<\/p>\n\n\n\n Beware, the federal government caps state and local tax (SALT) deductions at $10,000 per year. But if you haven\u2019t reached that threshold, you can also do things like prepay your home\u2019s property taxes to deduct it this year.<\/p>\n\n\n\n The IRS allows you to deduct certain healthcare expenses<\/a> if they surpass 7.5% of your adjusted gross income.<\/p>\n\n\n\n Sum up your total healthcare spending for this year. If you\u2019re near the 7.5% threshold, now makes the perfect time to visit the dentist or specialist you\u2019ve been procrastinating on or to get that necessary procedure you\u2019ve been postponing. That can push you over the 7.5% threshold, allowing you to deduct the expenses.<\/p>\n\n\n\n For that matter, the same logic applies if you\u2019ve already passed the 7.5% threshold. Knock it out this year, while it\u2019s deductible!<\/p>\n\n\n\n While some property repairs must be depreciated over time (more on those shortly), you can deduct the costs of maintenance in the same year.<\/p>\n\n\n\n For example, does your property need repainting? Knock it out now to reduce your taxable income for that property.<\/p>\n\n\n\n As a general rule, maintenance and repairs are work that\u2019s necessary to keep a property in good living condition, rather than extending the lifespan of the building. The cost of maintenance<\/a> adds up quickly for landlords, however, and the end of the year makes a great time to do necessary work and lower your tax bill.<\/p>\n\n\n\n Capital improvements to a property improve its usable lifespan. Rather than deducting the entire cost in one year, you have to spread the deduction over 27.5 years as depreciation<\/a>.<\/p>\n\n\n\n For instance, if you replace all the wiring in a property, that counts as a capital improvement<\/a>. The same goes for updating the HVAC system, plumbing, or replacing the roof.<\/p>\n\n\n\n The line between repairs and capital improvements sometimes gets blurry. Say a baseball goes through a window, and you replace it\u2014that clearly qualifies as a repair. Or say you replace all the aging windows in a property\u2014that clearly qualifies as a capital improvement. But what if you replace a few windows that weren\u2019t technically broken but were rather leaky?<\/p>\n\n\n\n When in doubt, talk to your accountant about what qualifies as a capital improvement versus a repair or maintenance cost.<\/p>\n\n\n\n If you lived in a property for at least two of the last five years, you don\u2019t have to pay taxes on the first $250,000 of profits. If you\u2019re married, that exclusion doubles to $500,000.<\/p>\n\n\n\n Known as the homeowner exclusion or Section 121 exclusion, it lets you dodge taxes in several ways. You can buy a property with an owner-occupied mortgage, live in it for two years, then move out and keep it as a rental for the next three before selling. Or vice versa, you can move into a rental property for two years before selling. <\/p>\n\n\n\n You could sell a property to cash out its equity, paying 6-10% in seller closing costs.<\/p>\n\n\n\n Or you could simply refinance the property to pull out 80-90% of the equity. <\/p>\n\n\n\n You get to keep the asset, which keeps appreciating, keeps generating cash flow for you. And you don\u2019t pay any capital gains on it either. <\/p>\n\n\n\n Imagine you keep taking out 15-year mortgages on your rental properties, letting your tenants pay off the mortgages, and then refinancing them. You could repeat this cycle throughout your entire career and retirement. <\/p>\n\n\n\n When you kick the bucket, the cost basis resets and your children inherit the property tax-free. You never have to pay capital gains taxes, and neither do your heirs. <\/p>\n\n\n\n Yet you get to cash out the equity every 15 years, and keep collecting cash flow as passive income. Win, win, win. <\/p>\n\n\n\n No one wants to pay more taxes than absolutely necessary. I went so far as to move overseas, where my wife and I use the foreign earned income exclusion<\/a> to avoid most U.S. income taxes. (I still have to pay self-employment taxes as an entrepreneur, though.)<\/p>\n\n\n\n You don\u2019t have to go to that extreme, although there are certainly other perks to living overseas, such as lower cost of living, more affordable (but equally excellent) healthcare, and affordable childcare. But by paying more attention to your tax strategy, especially in December, you can lower your tax bill and tell Uncle Sam to go shake money out of someone else\u2019s pockets.<\/p>\n\n\n\n Dreading tax season?<\/p>\n\n\n\n Not sure how to maximize deductions for your real estate business? In The Book on Tax Strategies for the Savvy Real Estate Investor<\/em>, CPAs Amanda Han and Matthew MacFarland share the practical information you need to not only do your taxes this year\u2014but to also prepare an ongoing strategy that will make your next tax season that much easier.<\/p>\n\n\n\n1. Do a \u201cLazy 1031 Exchange\u201d<\/h2>\n\n\n\n
2. Harvest Stock Losses<\/h2>\n\n\n\n
3. Cull Your Portfolio<\/h2>\n\n\n\n
4. Invest with a Self-Directed IRA<\/h2>\n\n\n\n
5. Contribute to a 529 Plan<\/h2>\n\n\n\n
6. Make Charitable Donations<\/h2>\n\n\n\n
7. Prepay Business Expenses<\/h2>\n\n\n\n
8. Prepay State & Local Tax Bills<\/h2>\n\n\n\n
9. Squeeze in Medical Payments<\/h2>\n\n\n\n
10. Do Property Maintenance & Repairs<\/h2>\n\n\n\n
11. Make Capital Improvements<\/h2>\n\n\n\n
12. Take Advantage of the Homeowner Exclusion<\/h2>\n\n\n\n
13. Pull Your Equity Out by Borrowing, Not Selling<\/h2>\n\n\n\n
14. Die with Your Property<\/h2>\n\n\n\n
Final Thoughts<\/h2>\n\n\n\n
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