Real estate is believed by some to be one of the best investments available. While this is a matter of opinion, what is a simple fact is there are certain tax advantages to investing in real property. There are several ways to hold and utilize real estate for investment purposes.
Rental Real Estate
One way to provide a stream of income and also receive valuable tax benefits is by utilizing rental real estate. For tax purposes, you are able to offset income received from rent with expenses from the property. Expenses you may deduct include depreciation of the property, repairs, advertising, insurance, utilities, travel expenses, taxes, points, rental payments, and several other expenses associated with the upkeep and management of the property.
The idea with rental real estate is to eat up all or most of the income from the property with the expenses you can claim. You of course do not want to be in the red on the investment, but there are a lot of phantom expenses that, while they are completely legal and legitimate, will allow you to decrease the taxable income on the property. If you have expenses that are more than the income from the property, that amount is carried over to the following years until the property is sold or there is enough income to offset the expenses. This can be a beneficial tax strategy.
You may, however, reduce your non-passive income with passive losses if it meets certain requirements. You may only do so up to $25,000, depending on your income. If you earn up to $100,000, you may be eligible for the full $25,000 reduction; however, if you make between $100,000 and $150,000, the amount is phased out. Over $150,000 in income will mean you may not utilize the reduction in non-passive income.
1031 Exchange
Another way to make money in real estate is by doing so through the sell of a piece of property, which may also have tax advantages. There are a number of ways to buy properties below market. These properties can then be sold at substantial gains. How, then, do you avoid paying serious taxes on the sell of the property? The answer is a 1031 exchange. This is a process in which you sell one property and use the proceeds to a buy a “like-kind” property; this way you are not taxed on the income from the sell or the potentially large gain from the property.
Of course, there are certain requirements that must be met to make a 1031 exchange. One, the process must be complete within 180 days. This includes the sell of the original property and the purchase of the second. They must also be “like-kind”. With real estate, this can mean almost anything but properties held out of the country in exchange for properties held in the country, or vice versa. The new property must also be bought for the same or more of the amount of the sell of the first property.