Real Estate Agent · Franklin, TN · Member since 2012 · 50 posts · 12 votes
Does none know if there is n income level at which you are not allowed to take tax deductions fom RE? Ex. If you are a high income W2 employee and want to start investing in RE. How does he 86 tax law effect you? Can you get around the restrictions is entity structure, etc?
Landlord · Seattle, WA · Member since 2010 · 3k+ posts · 1k+ votes
14y
As a passive investor with active participation you are allowed to take up to a 25K loss against ordinary income. There are limits to what a passive investor though is allowed to deduct in the current year though. When your AGI is 100K or more you start to be disallowed $1 of loss for every $2 of income. Which means that at 150K no loss against ordinary income is allowed.
Active participation doesn't mean managing the property yourself it can mean making some of the decisions. As long as you are active in some of the decisions you quite likely will be considered active.
You can get around the 25K limit and the high income limitations if either you are your wife is considered a real estate professional. Typically this is very difficult for a husband and wife that work two full time jobs. It can be quite manageable though when one spouse doesn't work or is employed only part time.
Landlord · Seattle, WA · Member since 2010 · 3k+ posts · 1k+ votes
14y
As a passive investor with active participation you are allowed to take up to a 25K loss against ordinary income. There are limits to what a passive investor though is allowed to deduct in the current year though. When your AGI is 100K or more you start to be disallowed $1 of loss for every $2 of income. Which means that at 150K no loss against ordinary income is allowed.
Active participation doesn't mean managing the property yourself it can mean making some of the decisions. As long as you are active in some of the decisions you quite likely will be considered active.
You can get around the 25K limit and the high income limitations if either you are your wife is considered a real estate professional. Typically this is very difficult for a husband and wife that work two full time jobs. It can be quite manageable though when one spouse doesn't work or is employed only part time.
Landlord · Seattle, WA · Member since 2010 · 3k+ posts · 1k+ votes
14y
One other thing to note. Losses not allowed in the current year are carried forward and used in future tax years when circumstances might be different. They also get added to the basis of the property when you sell it. So in the long run you don't lose the losses they just get deferred.
Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
14y
Using the passive losses from a crummy rental is one way to slap some lipstick on a pig. Good rentals don't actually generate passive losses. The real benefit of the tax treatment of rental income is that you avoid some of the tax on the rental income. So, $1,000 of income from a rental can be more valuable than $1,000 of W2 income.
Further, when you do sell, you will pay recapture tax on the deprecation taken or allowed. This is often neglected when pitching the tax advantages of rentals. As you depreciate the property, generating those passive losses, your basis declines. When you sell, you gain is higher. For the amount of gain up to the depreciation you took, you pay the recapture tax, currently 25%. Then long term capital gains on the rest of the gain.
Now, if you're thinking of buying in Boulder, then, yes, you're going to have losses. Price/rent ratios are way out of whack there to have any cash flow. Your hope is you'll have capital gains.
Hatfield, PA · Member since 2012 · 1k+ posts · 629 votes
14y
Originally posted by Jon Holdman:
Further, when you do sell, you will pay recapture tax on the deprecation taken or allowed. This is often neglected when pitching the tax advantages of rentals. As you depreciate the property, generating those passive losses, your basis declines. When you sell, you gain is higher. For the amount of gain up to the depreciation you took, you pay the recapture tax, currently 25%. Then long term capital gains on the rest of the gain.
Which is why of course, 1031 exchange is a good option...
Real Estate Agent · Franklin, TN · Member since 2012 · 50 posts · 12 votes
14y
Thanks for the input. You both have answered my questions. I agree with statement of "slapping lipstick on a pig". Certainly the deductions to offset sOme of the rental income, not to write off losses. 1031 is my exiling strategy on rentals, and I do not invest in Boulde proper. You are 100% correct. Rentals here typically do not pencil.
Hatfield, PA · Member since 2012 · 1k+ posts · 629 votes
14y
Perhaps another way is to do the property in an LLC. You do the depreciation schedule and rent and deductions (such as on a 1065), work all the numbers, and only the balance passes through to your income.
Real Estate Investor · Northeast TN, TN · Member since 2008 · 516 posts · 361 votes
14y
Originally posted by Ken Latchers:
Perhaps another way is to do the property in an LLC. You do the depreciation schedule and rent and deductions (such as on a 1065), work all the numbers, and only the balance passes through to your income.
It's true that the "balance" - meaning the NOI or NOL - will pass through to your personal tax return Ken, but the net result is the same. The NOI will be taxable and the NOL will be subject to the $25K limitation and the phase out.
There are, of course, other reasons to choose an LLC for holding your property.
Real Estate Investor · League City, TX · Member since 2012 · 54 posts · 9 votes
14y
The earned income levels are partly why we recently purchased an industrial complex to rent to our major income industrial business. This will hopefully allow us to shift income to an entity taxed at a lower rate by owning both LLC's and charging the major income business a healthy fair market rent.
Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
14y
Unless you elect for your LLC to be taxed as a S or C corporation, its a pass-through entity for tax purposes and owning a property in an LLC has no effect at all on taxes. Now, if you elect to have your LLC taxed as a corporation, it may have some tax impact. Usually its a negative impact for rentals, though. A S-corp can help with the self employment tax on fix and flips or other active businesses, but works out about the same as a pass-through LLC for rentals. A C-corp might help if you can take advantage of the fringe benefits you may be able to take inside a C-corp. But you'll either have to draw a salary and pay both halves of SET or you'll pay corporate tax and then personal tax on dividends.
If you have significant personal income and rentals, I strongly advise getting a CPA who's knowledgeable about these topics.
Even better than doing a 1031 exchange is to die. Let your heirs inherit the property at the stepped up basis on the date of your death. They can turn around and sell and pay no tax at all.
Hatfield, PA · Member since 2012 · 1k+ posts · 629 votes
14y
Originally posted by Jon Holdman:
Even better than doing a 1031 exchange is to die. Let your heirs inherit the property at the stepped up basis on the date of your death. They can turn around and sell and pay no tax at all.
I was waiting for the "discount poison pill" link lol
Real Estate Investor · Chicago, IL · Member since 2008 · 122 posts · 46 votes
14y
Originally posted by Jon Holdman:
Using the passive losses from a crummy rental is one way to slap some lipstick on a pig. Good rentals don't actually generate passive losses. The real benefit of the tax treatment of rental income is that you avoid some of the tax on the rental income. up to the depreciation you took, you pay the recapture tax
Part of what you said is not necessarily true. There are many good rentals that manage to generate passive losses. Some utilize cost segregation depreciation to virtually guarantee passive losses even with astronomical cash flow in the early years.
You're right, though, that many don't take all tax situations into account especially depreciation recapture. However, high wage earners that can't take passive losses against their regular income can save those unused losses to use against depreciation recapture and capital gains to greatly reduce or eliminate taxes AND step up their basis by avoiding 1031 exchange.