Top Strategies to Limit Real Estate Investor Tax Liabilities

With the 2021 tax deadlines fast approaching, it’s the time of the year that taxpayers begin to think about strategies to limit their tax liabilities.  Owning real estate can provide some significant tax advantages – here are just a few of the things you should be considering if you are a real estate investor.

Bonus Depreciation:
Real Estate investors often focus on “appreciation” and “cash flow”, but an extremely valuable component of owning real estate is “depreciation.”  Essentially, the IRS says that the cost of any asset purchased that will be used for over a year, has to be recovered over the useful life of the asset– that’s “depreciation.” You can use that “depreciation” to offset your income which means you pay less income tax.

Typically, the depreciation of your property is calculated over a period of time depending upon the type of asset (could be up to 39 years on commercial real estate). But in certain situations, you can accelerate the depreciation and get the tax savings much sooner, which is known as bonus depreciation.  Right now, the bonus depreciation rules are very advantageous to investors so make sure you explore this fully when filing your 2021 taxes.

Real Estate Professional Status:

Even if you are an active landlord, income and losses from rental properties are considered a “passive” activity. That means they are subject to the passive loss limitations rules.  The one exception to this rule is if you qualify as a real estate professional.  In order to qualify as a real estate professional, more than half of all the work you did throughout the year must have involved real estate and you must have completed more than 750 hours of real estate work during the year.

If you meet the qualifications of a real estate professional, any losses generated will be treated as non-passive.  And that can mean significant tax savings, so make sure you explore whether you are a “real estate professional.”

Section 1031 Like Kind Exchange:

A section 1031 like kind exchange allows a taxpayer to exchange real property used for business or held as an investment for other business or investment property that is the same type. This means if you sell an investment property for a gain but use the funds to purchase another property, any gain you have on the property is now deferred and you won’t have to pay taxes at the current time. However, there are strict requirements that you have to be aware of – the replacement property must be identified within 45 days of the date you sell your property and the new property must be purchased within 180 days of closing on the sold property.  In order to defer the entire gain, the replacement property should be of equal or greater value to the property you sold.  If your replacement property is of lesser value it creates a taxable event known as “boot.” Exploring 1031 exchanges can be very beneficial if you have property that has appreciated and you don’t want to pay tax on it at the current time.

Section 199(A) Deduction:
A section 199A deduction allows certain taxpayers a 20% deduction on their qualified business income, which can significantly help with tax savings and cash flow.  The key to a rental property being eligible for this deduction is that it must rise to the level of a section 162 trade or business.

Unfortunately, the statute has never defined what it means to be a section 162 trade or business. You should talk to a tax professional who is well versed in this section of the tax law to determine if you qualify.

As you can see, real estate can not only generate income but can also significantly reduce your taxes – so plan and strategize accordingly. You should discuss these strategies with your tax adviser and feel free to reach out to me directly at 914-644-9246 or if you have any questions or would like to discuss these topics further.

About Kris Kringas

Kris Kringas is a tax partner with Maier Markey & Justic LLP located in White Plains, NY.  He has over 20 years of experience with individual, partnership, corporate and trust  taxation.  He assists clients with tax planning, multistate taxation issues and working with taxing authorities on federal and state audits.