Real Estate and Taxes

22 Replies

Hello, We just got our taxes back from our accountant and again have a sizeable payment to make to both the state of NJ and Federal Government. We currently own 9 units which all cash flow well. What can or should I be doing to reduce the payments Im making in taxes each April for the past couple years? I read a lot about how real estate offers tax benefits, but maybe Im missing something (or need  a new accountant?) Any advice to prepare for my 2021 return? When I asked my accountant response was 
"do a lousier job of renting and managing the properties"   Thank you in advance.

Hi @Daniel Kern , I'm sorry to hear of your surprise here. . . that's never a fun one.  There could be several things going on here and I'll throw out a few ideas:

  • Your CPA may not be savvy in the ways of real estate OR they may not be the consultative type . . . you'll want to work alongside a CPA who doesn't just prepare taxes, but rather helps you craft an approach or changes that will optimize your tax exposure.
  • You may not be a real estate professional, as determined by the IRS.  If not, you'll fail to participate in one of the largest tax perks - the non-paper loss of depreciation.
  • You may have gotten "too good of deals".  This is a nice problem, but still a shocker to many.  If you get a stellar deal on a property and it means that your cashflow is very strong, it's unlikely you'll be able to offset the tax unless you do substantial capital improvements with accelerated depreciation schedules.  And, to be clear, that's usually not a reproducible strategy in a single family home.  If you don't have the ability to depreciate the home then this is even more likely to be the case.

So, beef up the pros you're working with, get real estate professional status (if it makes sense for you), and/or make small tweaks along the way to optimize and then rest easy knowing that you're paying the right amount :) 

@Will Fraser You don't have to be a real estate professional to get the depreciation deduction. However @Daniel Kern if you've owned them for mote than 27.5 years it may have run out. If not, you could do a cost segregation study to accelerate depreciation. You could sell the properties with a 1031 exchange and buy something a little more distressed that won't result in as much profit but can appreciate. But if you're liking the cash flow you just gotta pay the piper. That and the fact you're in NJ.

Originally posted by @Peter M. :

@Will Fraser You don't have to be a real estate professional to get the depreciation deduction. However @Daniel Kern if you've owned them for mote than 27.5 years it may have run out. If not, you could do a cost segregation study to accelerate depreciation. You could sell the properties with a 1031 exchange and buy something a little more distressed that won't result in as much profit but can appreciate. But if you're liking the cash flow you just gotta pay the piper. That and the fact you're in NJ.

Yikes, I was way off there!  Thanks for correcting that.

 

Originally posted by @Daniel Kern :

Hello, We just got our taxes back from our accountant and again have a sizeable payment to make to both the state of NJ and Federal Government. We currently own 9 units which all cash flow well. What can or should I be doing to reduce the payments Im making in taxes each April for the past couple years? I read a lot about how real estate offers tax benefits, but maybe Im missing something (or need  a new accountant?) Any advice to prepare for my 2021 return? When I asked my accountant response was 
"do a lousier job of renting and managing the properties"   Thank you in advance.

Hi, do these property have net taxable income even after the depreciation? 

Is you household income more than around 160k ? 

@Daniel Kern Ya its a bummer. But another thing you could do is buy more properties. Since you have good financials you should easily be able to get loans. You'll usually have losses in the first year to offset the gains from your other properties. And you could do what the super rich do and buy a business or property that you know is a loser for the sole purpose of offsetting your gains.

Hard to say for sure without all of the data, but make sure you're accounting for all of your expenses. Also make sure you're taking the depreciation deduction as well, should be a pretty healthy number. Assuming you're doing all this correctly, then yeah sometimes you just have to pay up unfortunately.

All of my properties are profitable AFTER depreciation, that is the way it should be if you are doing things correctly. It means that you've made a sound economic analysis and your profits are high enough to make money AFTER all the tax benefits. That's good not bad.

Anyone who tells you to intentionally acquire inferior properties that lose money just so you can save a few cents on the dollar in taxes on that money lost is an utter dolt. 

+1 for what @Christopher Smith said. Making profits even after depreciation is good, not bad. I simply pay estimated taxes every quarter, and end up getting some of it back when I file my taxes. Make sure you get the QBI deduction on the rental income, that lowered my tax bill quite a bit for the last couple of years...

@Peter M.

Non real estate professionals 25k deduction for deprecation can not be taken once you get over about 150k in income from w2 job. Which is not bad since when you sell because you wont have to recapture.

Start an llc to manage properties and start to write off more expenses. Phones, cars, etc.

Not much you can do when your making money besides increase expenses or start putting properties in llc to write off more.

Jon

Originally posted by @Jonathan W. :

@Peter M.

Non real estate professionals 25k deduction for deprecation can not be taken once you get over about 150k in income from w2 job. Which is not bad since when you sell because you wont have to recapture.

Start an llc to manage properties and start to write off more expenses. Phones, cars, etc.

Not much you can do when your making money besides increase expenses or start putting properties in llc to write off more.

Jon

For a non-active investor, passive losses can't offset active income (i.e. w2) if you make over a certain threshold, but it is still a deduction against passive RE income.  

Originally posted by @Jonathan W. :

Start an llc to manage properties and start to write off more expenses. Phones, cars, etc.



You don't need an LLC for that. Same exact deductions with or without an LLC.

@Daniel Kern

Your CPA may be right, and he also may not be an expert in REI. No way to tell without evaluating your entire tax situation and seeing how your CPA is treating it.

Instead of evaluating random generic guesses on this thread, some of them plain wrong and others that can only be applied case-by-case, I recommend you have an experienced REI tax accountant (or two) give you a second opinion. Maybe you can improve your tax situation, and maybe it is what it is. You'd have to wait until after the tax season to seek a second opinion, because right now all of us are extremely busy.

@Daniel Kern one technique: buy more properties that are expensive yet cash flow neutral with strong appreciation potential for longterm gains. The depreciation on these will help shelter your cash flow on the rest of your portfolio. This is why investors often have a mixture of properties; some that are purchased primarily for cash flow and some that are purchased primarily for appreciation (which helps shelter the cash flow from taxes). Good luck!

@Daniel Kern I would listen to @Michael Plaks and get opinions from a couple accountants.

I also found these books very helpful in better understanding my own tax situation so that I could have better conversations with my CPA. Just like I’m sure you spent some time educating yourself about real estate before and while investing it is a good idea to understand various tax strategies to improve your overall situation.

Rich Dad Advisor’s: Tax Free Wealth by Tom Wheelwright

The Book on Tax Strategies for Savvy Real Estate Investors and The Book on Advanced Tax Strategies by Amanda Han and Matthew MacFarland (they were also guests on a BP podcast).

Originally posted by @Christopher Smith :

All of my properties are profitable AFTER depreciation, that is the way it should be if you are doing things correctly. It means that you've made a sound economic analysis and your profits are high enough to make money AFTER all the tax benefits. That's good not bad.

Anyone who tells you to intentionally acquire inferior properties that lose money just so you can save a few cents on the dollar in taxes on that money lost is an utter dolt. 

Is it because all your properties are fully paid off? What’s the rent ratio on your properties? 1%, 2%?

Thank you all for the tips and advice, much better than what I got ...

I think its best for me to get a second opinion once things slow down a bit and Ill look into the books suggested. All of our properties are currently financed and we sit around 1.5%-1.8% so I am NOT complaining about the cash flow monthly in any way. Just need to figure out what to do moving forward to be closer to 0 April 15, 2022.  I can purchase additional properties that wont cash flow as well, but I dont buy on projected appreciation (at this time). Im thinking pay more into a retirement fund is an option as well, but real estate IMO is my retirement fund in addition to our Roth and pensions, were in education full time

If you start an LLC for properties you can maximize you deprecation deduction because llc dont have a cap on income of around 150k like personal does for max 25k deprecation deduction.

Originally posted by @Jonathan W. :

If you start an LLC for properties you can maximize you deprecation deduction because llc dont have a cap on income of around 150k like personal does for max 25k deprecation deduction.

Absolutely incorrect. LLCs change nothing. Same exact deductions and same limitations, including the $100k-$150k phaseout for passive losses, with or without an LLC

Originally posted by @Michael Plaks :
Originally posted by @Jonathan W.:

If you start an LLC for properties you can maximize you deprecation deduction because llc dont have a cap on income of around 150k like personal does for max 25k deprecation deduction.

Absolutely incorrect. LLCs change nothing. Same exact deductions and same limitations, including the $100k-$150k phaseout for passive losses, with or without an LLC

 Even for a multi member llc that does not use schedule c?

Originally posted by @Jonathan W. :
Originally posted by @Michael Plaks:
Originally posted by @Jonathan W.:

If you start an LLC for properties you can maximize you deprecation deduction because llc dont have a cap on income of around 150k like personal does for max 25k deprecation deduction.

Absolutely incorrect. LLCs change nothing. Same exact deductions and same limitations, including the $100k-$150k phaseout for passive losses, with or without an LLC

 Even for a multi member llc that does not use schedule c?

Yes, even a multi-member LLC that files a separate tax return

Originally posted by @Christopher Smith :

All of my properties are profitable AFTER depreciation, that is the way it should be if you are doing things correctly. It means that you've made a sound economic analysis and your profits are high enough to make money AFTER all the tax benefits. That's good not bad.

Anyone who tells you to intentionally acquire inferior properties that lose money just so you can save a few cents on the dollar in taxes on that money lost is an utter dolt. 

100% agreed!!!