So I have two deals closing this year that are going to net me approximately $50k. I'm trying to figure out a way to avoid paying too much tax.
The first property is an empty lot that I got for free when I purchased a house. I've owned the lot since December 2014. I have a buyer all lined up and ready to build when the deal closes. With all expenses accounted for I should bring in about $20k profit.
The other deal is the house that the lot came with. It's been our primary residence and I think we will be in it for a year by the time we're to move out and we plan to rent it for at least another year. By the time we sell it, depending on our market, which is steadily climbing, and other factors, we expect to profit around $30k. Can we avoid the capital gains tax on the profit from the house if we maintain ownership even if it is not our primary residence?
Are there any clever and LEGAL ways to reduce the tax bill that you would recommend?
Not sure but if you do not live in the for two years, the profit is taxable. If you convert it to a rental, then it triggers a taxable event unless you stay two years. Better see a tax guru. Better a gain and pay the tax than a loss.
With your primary residence, as long as you have lived there 2 of the last 5 years and have not used the tax credit in the last two years, you can exclude $250,000 (single) or $500,000 (married) in capital gains.
For the empty lot, if it was purchased as a separate parcel of land, I doubt you can avoid taxes on this sale. If it was part of the same plot of land your primary residence sits on and you sub-divided it, I would consult with a tax advisor as you may be able to claim the tax credit. Note that is you used the credit on the land, you would not be able to use it on the house unless the sale was 2+ years later, as stated previously.
@Matt Mimnagh Oh this great country of America. If you do not like the way the tax system works you can try investing and moving to North Korea... I heard you can manipulate the government a lot better there.
Is your property off a public street? Do you drive a highway to get there? If there was a problem can you call the police.. What about if your car caught on fire would a fire fighter help you? Do your credit your education to public schools? Do you believe the military is protecting us every day?
I would suggest you contact your CPA for tips.
Well I like the title of your post - no doubt about where you stand!
There's a couple of things you could try.
One would be a 1031 exchange for the lot and use the proceeds to purchase more real estate. But you've got some inherent problems with that. First, you wouldn't receive any cash. It would all go to the next purchase. Even if that wasn't a problem you received this property only a few months ago. In order for it to be a good candidate for a 1031 exchange you must have purchased it with the intent of holding it for productive use in business trade or investment. The short hold period if you were to sell now would make it difficult for you to claim that you didn't buy it to sell it immediately.
And then the way in which you purchased it opens you up to a claim by the service that it really isn't investment property, it is part of your primary residence. And you can't access that tax free until you have lived there for 2 out of the previous 5 year period.
The more easily accomplished but less effective thing for you to do would be to lump the lot and house together. You say you received the lot for free. If that's the way the contract reads that's one thing. But if the house and lot were on the same contract and settlement statement then you really didn't get it for free. Part of the purchase price can be allocated to that lot. That would give you some basis to work with to offset at least a portion of the gain from the sale of the lot. Your CPA can guide you through the most beneficial way to allocate basis between the two lots and the construction on the one.
LMAO @nick britton. Please don't think outside your herd, the government and millions of other sheep are counting on you......
I believe @Matt Mimnagh asked the BP community "Are there any clever and LEGAL ways to reduce the tax bill that you would recommend?".
Are you telling everyone on BP that each year when you file your taxes, you don't claim every deduction possible?
I don't like tax cheats either, but to insinuate that if Matt M. wants to use legal tax
strategies to minimize his taxes he should move to North Korea is a little over the top...make that way over the top. Just my 2-cents.
@Nick Britton thank god someone says it like it is. Give me taxes and social services any day, then no taxes and anarchy. (Would have been nice to help answer this guys question tho).
Sorry, last post directed to @Nick Britton
There are several ways.. @Matt Mimnagh do you own the properties or own them as an LLC?
How will owning properties in an LLC change his tax situation?
Updated about 3 years ago
Additionally, a primary residence will rarely be held in an LLC.
First of all capital gains will be triggered when and on when you sell a property and get the gains in your hand so if you do not sell your house and rent it out then not until you actually sell the house for a gain will the capital gains tax be triggered on your primary residence.
Next you did not get the lot for free and should be able to allocate a portion of the purchase price to the lot to offset your gains on the lot. You may need to consult with a real estate attorney and/or a tax expert.
However in either case unless you have owned the properties for over 2 years you will have to pay the tax on the portion you receive as a gain. Start to think how you can use the money to earn more money and compound the gains regardless of taxes you will be paying on those ongoing gains.
Now the money you will net from the sale of the lot at this time may not seem like much and depending on the real estate market you are in and assuming you want to keep on investing that money into real estate you may not find anything you can buy for that small amount of money unless there is an opportunity for you to use it as a down payment and will qualify for a loan.
However how about you consider investing that money into a real estate Syndication which will find a property to invest your money in, produce and collect rents for you and give you the benefit of any appreciation of the property(ies) your money was used to purchase and also provide you with property management all in one package. You could always sell your shares in the Syndication at a later date or of course keep your investment rolling. You would expect to receive compensation in accordance with your percentage contribution of the total fund.
I always look at any present dollar as representing $1,000.00 in the future so your $20,000.00 in my mind would be viewed as $20M. Of course reality might produce 10% of that but $20K turned into $200K over time would still be quite worth it. I would not worry about the tax consequence of that small amount of money but as we have suggested take this matter to a real estate attorney or professional and licensed tax consultant so you know where you stand and what your legal options are for optimizing your situation.
@Rob Beland Is that what I said, or did I say that if you want to avoid taxes then you can go find a new market, like a communist country? @Rob Beland Thanks for knowing what I meant! Appreciate it.
First let it be known that I am not trying to weasel my way out of any obligations. I pay the taxes I am supposed to pay and enjoy the services that are provided by those taxes. However, I do feel that as an aspiring real estate investor, it would be remiss of me not to take advantage of the benefits provided by the tax code. I think most real estate investors considered these benefits in there decision to enter this field. When asked about taxes, Jesus said, "Give to Caesar what is Caesar's." I just want to make sure I'm not giving him to much.
Second, thanks to everyone for the advice.
@Nick Britton Can a real estate investor even exist in a Communist economy. I'm not sure. Karl Marx said that in order for true Communism to be realized, a collectivization of property and wealth must occur. That doesn't sound to me like it makes much room for the property owner. So I think I'll stay put. I will, however, explore the LLC option and see what I find. I have a meeting with my CPA soon and I'm sure he'll be able to help.
@Dave Foster I did think about a 1031 exchange but I think you're right about not meeting the requirements.
@Gilbert Dominguez I'm definitely planning on investing the profits from both deals into more real estate. In fact, we're looking at a few duplexes when we visit our soon-to-be home of Charlotte NC in a couple of weeks. I know that in the grand scheme of things the taxes I might pay on that gain won't amount to much but every little bit helps right.
@Linda Weygant I agree on the sarcasm font. Haha. Sometimes it's hard to discern the tone and therefore the intent of a message.
Thanks again to all the responses.
It's a shame that a number of posts in this thread are not well informed.
For your residence, read up on the IRS Section 121 exclusion. Comply with what the IRS stipulates there, and the gains on your residence below the threshold are excluded from capital gains tax.
I think @Dave Foster has the right idea about the vacant lot. Establish how much of the purchase price should be allocated to the lot, and that will give you some basis above zero that you will use to reduce the gain on the sale of the lot. And that will have little impact on the gain from the sale of the residence later, since you are expecting gains below the exclusion amount anyway.
@Steve Babiak Thanks for the direction. I will check that out.
unfortunately @Nick Britton will not explain how owning property in an LLC will change the tax liability of capital gains. Im guessing the liability is the same. You can't get away from the tax.
You will be able to allocate a certain value to the land from the original purchase price of your property. A smart CPA will allocate as much Bali was possible to the land in order to minimize the gain realized from the sale of that land. Additionally, you will be able to utilize section 121 which excludes gains from the sale of a primary residence. You can even go for the "exceptions" that occur when you have to move out prior to that two year mark that has been referenced.
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Consult your tax advisor. As far as taxes, you have no duty to pay more than legally required. Lots of people invest in real estate not only to build wealth, but for the manner in which the government treats it for tax purposes. This fact does not make investors bad nor cheats nor bad citizens.
I wait until the 366th day from acquisition to complete a sale. Long-term cap gain rates are much more favorable!
I think we all agree people should pay taxes above 0% and below 100% of their income so all we are debating is the amount, however I'm surprised we have an Elizabeth Warren speech writer with @Nick Britton North Korea "you didn't build that" statement.
However I think @James De Silva managed to make an even more juvenile argument by constructing such a simple binary statement. James the reason we get our current crop politicians elected is that they run on intellectually suspect talking points like the one you just made to win over ignorant voters. I think the BP community deserves enough respect not to be subject to such intellectual facile statements.
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