Most folks don’t think of taxes as being something they can put to work for them. Isn’t the whole purpose of the tax code for the IRS to take away huge chunks of your hard-earned money?
So how can the tax code be your friend?
Well, whether you ever consider it your “friend” or not, real estate investing does allow you to get some real benefits out of the tax code. Quite a few, actually. We’ll touch on just a few today.
First, though, we need to get really clear on an important issue…
Profit Is in the Eye of the Beholder
When you start thinking like a millionaire
, you don’t approach taxes politically (whatever your politics may be) ‒ you approach taxes as just another aspect of managing your cash flow.
In other words, taxes can increase increase your cash flow, or decrease it. There’s real money on the table. So, if you pay $2,225 in taxes on a property, that’s money that went to Uncle Sam instead of into your pocket… because you may very well discover that there was a way you could have actually put that money into your pocket instead of cutting a check to the IRS.
Put another way, there’s big difference between paying $3,225 in taxes on a property ‒ and paying only $1,000.
I know that sounds basic, but it’s an important mind-shift for a lot of folks getting into real estate investment for the first time.
When you are an employee, or even if you’re self-employed, taxes tend to be simpler for the most part (at least for many people). Which can make things easier, I guess. But it also means you have fewer opportunities to take advantage of so-called “loopholes” in the tax code. So when you get into real estate investing, the extra complexity of owning rental property means you have to think differently about the whole nature of taxes and how they relate to your bottom line. Once you “get” that, a whole new world will open up…
They’re not loopholes ‒ they’re opportunities to profit, put there precisely for folks like us to cash in on.
In what follows, please keep in mind that tax-related issues can get complicated, and everyone’s specific circumstances are unique, anyway. So make sure you do your deeper research and work with a qualified tax professional to get the “finer details” of all this. Still, this should give you a basic idea of what’s possible…
So, here are a just a few of the ways you can make the tax code work for you, instead of against you, as a real estate investor.
You Don’t Pay FICA Taxes on Rental Income
FICA taxes are the ones that go to fund Social Security and Medicare. For W-2 employees, the FICA tax rate is 7.65%, with employers matching that amount. For the self-employed, they pay the full 15.3% themselves. It’s a significant amount of money.
As a real estate investor, your rental income is not subject to this tax.
Now, if you’re newer to real estate investing, and your annual rental income is relatively low, this may not seem like a huge amount. But remember what we said above: any way you can make the tax code work for you, putting money into your pocket versus giving it away to the IRS, is a big deal. You’re not only putting cash in your pocket ‒ you’re developing your wealth-building mental muscles.
Then again, as you scale up, you can see how the money amounts can add up fast. So if you have $75,000 in rental income in a year, those FICA savings are a big deal! (Especially if your non-real estate investing income is from self-employment.)
The Tax Deductions Can Really Add Up
OK, itemizing expenses for deduction purposes can be tedious. That’s why so many folks don’t bother to do it. And if you’re in a lower income bracket and maybe don’t travel much, it may make more sense to just take the standard deduction anyway. But as your income increases, along with the complexity of your cash flow (self-employment, multiple income streams… real estate investing!), you’ll begin to see why it’s worth the effort.
Here are just a few of the items you can deduct on your tax return:
Travel expenses ‒ this includes airfare, hotels, car rentals, and more. Keep in mind that as your portfolio grows, these expenses will likely grow as well. And if you’re investing in the best markets as we recommend, it’s likely that you’ll be traveling far when you do check on your properties or look for deals when it’s time to move beyond the online research stage…
Property repairs ‒ We don’t just recommend that you buy properties in the best markets… we recommend you fix them up to make it as easy as possible for tenants to say Yes to renting from you. Those repairs are tax deductible.
Fees to your property management company ‒ A good PMC is a valuable partner in your investment success, so it’s good to know that the fees you pay them can be deducted. The same goes for other fees associated with your real estate investment as well, such as those paid to attorneys and accountants.
And I haven’t even mentioned deducting any interest payments you make on a loan for your property, or depreciation.
Like I said, these deductions do add up.
Holding Property Long-Term Works in Your Favor
First, the IRS doesn’t tax you for the appreciation of your property’s value. Which means you get to watch your net worth grow, without paying taxes on that growth.
Then, when it’s time to sell, you get to take advantage of the relatively lower capital gains tax rates that apply to assets you’ve held longer than a year. These range from zero to 15 or twenty percent. So yes, you have to pay those taxes. But only after your asset has grown your net worth essentially tax-free, and supplied you with a regular income stream for years. And that capital gains rate is better than you would have had to pay tax-wise for the same amount of money if you’d earned it as an employee or a self-employed professional.
Once again, knowing how taxes work is a huge advantage…
Again, the details of how the tax code applies to your specific situation will vary, and it can get complicated. But hopefully, by now you’re beginning to see the possibilities.
Once you stop thinking of your tax opportunities as “loopholes” but as a legitimate and profitable part of your investment activities, you can begin having some real financial fun. And, believe me, not paying FICA taxes on rental income, taking advantage of numerous deductions, and leveraging the advantages of holding real estate for a longer term are just the beginning of discovering the tax benefits of investing in real estate.
When you’re ready to take advantage of one of the best investment opportunities on the planet… give us a call at (801) 990-5109 or schedule your free appointment here to begin your personalized Wealth Plan. We’ll do everything we can to help you implement the strategies we’ve covered in this article. You’ll get our truly expert advice and coaching… so you can reach your financial goals by investing in real estate.