Owner won't sell because of capital gains!

40 Replies

Hello- 

I have been spending a considerable amount of time calling multifamily owners in my farm area and keep running into the same problem. Many of the owners would love to sell their property but have owned it for 30+ years and don't want to pay capital gains on the sale.  Their response is that they are going to wait until they pass away and their children will inherit it and take advantage of the step-up basis to avoid capital gains.  1031-exchange is not an option because these people are old and don't want to own other property.  

I have been reading about seller financing via the creation of a note.  The seller would qualify for installment method of reporting capital gains. If I am reading it correctly this would reduce taxable income significantly but still not to the effect of a step up basis in an inheritance scenario.     

I am meeting with an owner of several properties on Saturday.  He purchased them in 1950 and therefore would pay significant capital gains tax on the sale.  What argument can I make that it is in his best interest to sell them to me? 

Thanks for your help!    

Give him the numbers.... and by that show him what he'd make from income over x amount of time. Then show them they'd make y if they sell it EVEN AFTER capital gains.


Example:
You'd make, 12k per year, 10 years....= 120k

Sell to me, you'd make (insert number above 120k) after taxes.... That's (insert number) more than you'd make if you hold on to it, in fact you'd need to keep this (insert years) just to break even.

Wow, 1950! At least he shouldn't have a ton of depreciation to recapture. From what I understand, even a seller financed sale requires full recap the first year at 25%.

I'm not a tax pro, so consult one. That said, my sellers like taking payments because it spreads their gain out. Each payment received will be part interest, part them getting their cost basis back and part cap gain.

I have an old seller I'm working on, too. He's 93. I'm trying to get a master lease with option to buy. He'll be relieved of mgt headaches while alive, but know to who and how much his heirs will inherit at the stepped up basis. I'll just have it renewable every year above 3 for $100 or something. Maybe a lease with option to buy would work in your situation.

Some investors are idiots plain and simple. There is no way to convince them that taxes are simply a way of showing you are making money. Why people bother to invest only to pass it on to children after they die is a mystery.

Work all your life for peanuts and your children immediately sell everything they inherit and live like the rich a famous off your hard work.

Some people are simply ignorant about money and finances and there is nothing you can do other than show them what they will make and what the income from it will be if invested. If the numbers do not convince them you are talking to a wall.

Originally posted by @Thomas S. :

Some investors are idiots plain and simple. There is no way to convince them that taxes are simply a way of showing you are making money. Why people bother to invest only to pass it on to children after they die is a mystery.

Work all your life for peanuts and your children immediately sell everything they inherit and live like the rich a famous off your hard work.

Some people are simply ignorant about money and finances and there is nothing you can do other than show them what they will make and what the income from it will be if invested. If the numbers do not convince them you are talking to a wall.

Not taking advantage of the stepped up basis after 30+ years would be the idiotic part.  It's the single most advantageous regulation in the tax code.  There are lots of ways to avoid that destruction of capital (that don't include giving it to children).

And some people care about people other than just themselves.

I would agree with Mike. Losing the step up is lot to ask of someone in the age range you are dealing with and holding fully depreciated property. As noted earlier the depreciation recapture isn't typically eligible for instalment sale reporting benefits. 

Perhaps if you know enough of these folks you can purchase from their estate or heirs when they themselves pass. Probably doesn't sound like a great answer for the moment, but time has a way of fixing that.

I'm not sure of the specifics in law, but I believe stock portfolios are subject to the same step-up type cost basis rights so inheriting stock itself rather than the cash value is beneficial. Anyways, my nearly 91 year old grandfather has been a stock broker since his mid 30s. He's lived most his life on dividends and has done quite well. Sometime 15+ years ago or so there was a tax code that had expired mid year and screwed the way his portfolio would be handled if he died before the next regulations went into effect Jan 1st. The tax laws on inheritance are so beneficial that he made an emergency addition to his will voiding his do-not-resuscitate demand until 12:00am Jan 1st the following year. He said "feel free to pull the plug once my life's work is safe again, but I'll stay a vegetable for 6 months if I have to, the IRS is not getting that much!". And he's still going strong at 91, haha

@Chris Corbin I'm in the buy-and-hold-until-you-keel-over camp.  At least for now, who knows what will change down the road.  It's not like tax laws are going to be static for the next 50-60 years.  But I do think it's good that you know if that's your intent from the start.  So don't be shocked if a.) that was their intent when they bought the place to being with or b.) they just don't want to sell so "capital gains" is an easy way to avoid telling a nice guy "go kick rocks".  

And there are going to be people (as @Steve Vaughan notes) that at 93 just want to get rid of the management headache.  But for the majority of them, it might just seem like even *more* hassle to sell the darn thing.  I mean Steve's owner is 93 and selling something like an apartment building can have stress attached to it.  Just as much as buying one would when you were 93.  And, really, what's the 93 year old going to do with $500K tomorrow that he doesn't have today?  Buy a Ferrari and drive it 180 mph on his 94th birthday?  Shoot with the cash-flow from the apartments he can probably rent one if that's what he wants to do :-)

The net result is that I'm in the @Mike Dymski camp.  If I'm 90+ years old, still have my apartments, and someone approaches me to sell them I think it will go something like this:

1.) I don't want to recapture depreciation.

2.) I don't want capital gains.

3.) Management headaches are what I pay a PM for.

4.) What would I do with a lump sum if I had it?

5.) The gov't has taken enough of my money.  I'm not eager to give them more.  I'd rather give that delta to my son, grandkids, etc. through a stepped up value.

6.) Then I'd yell at you to get off my lawn...

@Chris Corbin s There are plenty of other owners that will resonate with the message that you can help defer gains and produce a steady interest income without the hassle of ownership that are motivated to sell rather than wait to die for the stepped up basis.

If they don’t then a MLO is a good path forward because typically the heirs don’t have the same passion and are looking for cash and not property.

@Chris Corbin I’m not sure what the solution is, but can we all just take a moment to appreciate the fact they he’s owned this property for almost 70 years??

That’s over 3 Times how old I am. Talk about owning something for the long haul.

@Chris Corbin

They can have their cake and eat it, too. They can 1031 into a completely passive investment like DST. You get the property, while they:

  • preserve their basis and future step-up
  • pay zero capital gain tax
  • create stable income for the rest of their lives
  • relieve themselves and especially their heirs from the hassles of property management

Talk to 1031 experts like @Dave Foster and @Bill Exeter to explore available options.

Originally posted by @Michael Plaks :

@Chris Corbin

They can have their cake and eat it, too. They can 1031 into a completely passive investment like DST. You get the property, while they:

  • preserve their basis and future step-up
  • pay zero capital gain tax
  • create stable income for the rest of their lives
  • relieve themselves and especially their heirs from the hassles of property management

Talk to 1031 experts like @Dave Foster and @Bill Exeter to explore available options.

 curious how that discussion would go w/ an elderly person (who probably too nice to say they just don't want to sell lol).

Originally posted by @Matt K. :
Originally posted by @Michael Plaks:

@Chris Corbin

They can have their cake and eat it, too. They can 1031 into a completely passive investment like DST. You get the property, while they:

  • preserve their basis and future step-up
  • pay zero capital gain tax
  • create stable income for the rest of their lives
  • relieve themselves and especially their heirs from the hassles of property management

Talk to 1031 experts like @Dave Foster and @Bill Exeter to explore available options.

 curious how that discussion would go w/ an elderly person (who probably too nice to say they just don't want to sell lol).

It should go like all other discussions with sellers. Find out what his concerns and needs are - and offer a solution to his concerns, as opposed to offering to buy his property. 

I ran into the same problem last year with a multifamily property. And this one was listed and on the market. The deal blew apart when the guy's accountant told him the capital gains tax liability.

It amazes me the lengths that people will go to to avoid paying taxes.

Have you considered getting the property under a master lease agreement? Wherein you get the equitable interest (that is any value increase you bring to the property is yours to keep; also any cash flow minus the payments to the owner) in the property and seller gets to keep the property under his name, so no capital gains tax.

Here is a good read on BP: https://www.biggerpockets.com/renewsblog/2013/06/18/case-study-master-lease/

@Chris Corbin , Several good options presented.  An installment sale works in part but as mentioned it does not relieve the tax burden.  A lease option would work but there's a mental thing to still owning and now an older seller is being asked to trust a stranger with their asset.   

This is exactly when passive investments like TICs and DSTs (Delaware Statutory Trusts) function best - combined with some good estate planning and a final 1031.  They move into absolutely passive "mail box money" mode free of any asset management.  No tax is paid so their income is higher because of the use of the deferred tax.  And they get to pass along their success to their heirs.  

@Michael Plaks

@Dave Foster 

TICs and DSTs is exactly what I was looking for, a 1031 exchange into a passive investment. Thanks everyone for your help. 

@Dave Foster are TICs or DST something that 'needs to be set up' by the person doing the 1031? Meaning finding the deals/investments, or is there a 'plentiful supply' of investing options that are looking for investors similar to REITs? I guess what I am wondering is how simple it is for the investor?

The other thing I wondered is it allowed for the selling party to 1031 their earning into a different property(s) that the buyer of their existing property had? Meaning I buy say a 8 units from seller A that he still self manages for 500K which is all CG and Recapture for him, and he in turn buys 50% of 6 duplexs I have that are worth 1M. We form an LLC (or TIC if that is better) and I do all arrangement and he gets t still share profits with no active work on his part?

Thanks, Dan Dietz

I took a real estate course at NYU and one of the professors specialized in people who owned properties for a long time, can't sell it because of capital gains, and prefers to hold on to it to death so that their kids would inherit capital tax free.

His approach is a triple net lease the property, commonly referred to as NNN. It works like this:

1. A true NNN lease runs at least 30 years, and with it, you can treat it like real estate where you can get a mortgage on it.

2. The owner is free all operational responsibility. The lessee has full operational control. For the lessor, it's truly a passive deal, he just collect the lease payments.

3. There's an option to buy, so on the owners death, he can then exercise his option to buy, the heirs at that point can sell it to him capital tax free.

4. Says he gets to buy at a good price, as most heirs are not into real estate, and usually wants to have their hands on the money, for most of them, free money. If they want too much, then he'll just not purchase it, retain the NNN lease to it's full term. He gets the right of first refusal. The lease has to be at least 30 years, but can run up to 99 years.

This investor says he has great success at it, as he targets owners of small commercial properties who owned it for a long time, too old and tired to handle the operational responsibility, but can't sell because of the capital gains issues.

In fact, he started on this type of investment as a no money down approach to acquiring properties, which turned into helping sellers with capital gains issues.

Honestly I think it's simpler than a 1031, for the lessor that is.

@Daniel Dietz , There are companies that specialize in actually structuring their properties in a TIC or DST format. There also companies who simply sell the DSTs and TICs of others. And then there are those who review those who sell those that did. The good the bad and the ugly. Good due diligence required but there are opportunities.

Most of our clients will sell their property and then select from a range of existing product. But in it's purest sense a TIC is nothing more than a partial ownership of a piece of real estate. That can look like two buddies owning a building together or a full blown TIC sponsorship under rev proc 2002-22.

Your second question is yes as long as the two of you are not related parties you could in essence trade properties.  He sells to you a 500K building and you sell him 50% of a 1 mil building so the numbers work.  You are each doing an exchange and it can be structured as such.

The guy is 90+ years old.....trying to win him over by telling him how much cash he will get in the bank (even after taxes) wont win him over....why would it? What's he's going to do with all that cash? He's going to die and the kids will get all that cash....

So which is better.....die and give them the properties worth tons of $$ tax free......or give them a bunch of cash that has been reduced significantly by taxes? Either way, he's passing the stuff on......

Its one thing to flash a bunch of cold hard $$$ in front of a 40 years old that can still enjoy it vs showing it to someone that is near the end of their life.

@Chris Corbin it is not in his best interest to sell them to you. 

Just being realistic, maybe you can position yourself to purchase them from the children. He owned the property for 67 years, so this guy is probably in his 90's which means his kids are in their 60's. If you can position yourself as the buyer when he passes, that could be a good solution so the family doesn't need to deal with the properties. 

Keep in mind the "children" are probably all nearing 70 years of age themselves. They will probably be happy to sell them to you quickly after he dies. Build a relationship with the family and be patient. 

Not to be rude, but not many people make it to 100, so why push the hold man to do something that isn't in his families best interest. 

Plenty of willing sellers out there, seems like a waste of your own time trying to convince someone who doesn't want to sell to do it. Basic business psychology also suggests you are going to get a far worse deal than dealing with a willing seller. Sounds like a bad plan all around.

@Michael Plaks

@Dave Foster

Thanks fior the info  and where can I educate myself abkut DSTs?  never heard of them.

@Frank Chin - that is an excellent suggestion.thank you! 

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