Investment Property Tax

Depending on the state where you live and also the state where you are investing, the amount of money you will have wrapped up in real estate investing taxes can significantly vary. As the US tax code continues to change and develop every day, there are also many different laws and regulations surrounding investment taxes that will continue to change as well. Part of the best real estate investment strategies includes a plan for dealing with this.

Cut Through the Jargon

Taxes are inevitable, which is why it is so important to understand all of the financial implications of a real estate investment before making a purchase or getting started in the business. You need to know how investment property taxes work in the states where you want to invest. There are also a variety of loopholes and tax breaks that you may be able to benefit from, depending on your specific situation. Doing your research and regularly keeping up with tax laws will help you to stay informed and make better investment decisions.

With years of experience managing a successful real estate business and handling property taxes, I know what it takes to properly manage these rules and regulations. Save thousands using the advice in the following posts.

Tapping into your IRA to Retire Early

Tapping into Your IRA to Retire Early

Over 60 million American taxpayers own individual retirement accounts (IRAs). These tax-protected retirement vehicles offer their owners a great way to save for retirement while mitigating the effects of taxes either today or in the future, depending on the product used. But for those looking to retire early and live off their investments prior to age 59½, an IRA either isn’t an option or comes with fairly steep penalties to withdraw early.

However, there is a third option: SEPP 72(t). SEPP 72(t), as it is commonly known, stands for Substantially Equal Periodic Payments and is outlined in IRS Rule 72(t). Rule 72(t) allows for penalty-free withdrawals from IRA accounts, as well as other retirement accounts such as 401(k) or 403(b) plans.

There are several rules dictating the amount that can be withdrawn, and you should really seek the advice of your financial advisor before setting out on such a path. However, Erik Schaumann, a former guest on the Best Ever Podcast, chose to utilize this rule to retire early.

Erik spent his days working at Shell and saving as much as possible. Several years ago, he had a conversation with his wife regarding retirement and how much was enough. Erik had been a diligent saver and believer in the FIRE (financial independence, retire early) movement while investing in passive real estate to grow his passive income.

A couple of years ago, Shell offered him a buyout, which he took. With his passive investments, he was able to cover most of his cost of living, but there was a slight shortfall. This is where the SEPP 72(t) came into play. By being able to tap into his IRA, without penalty, and at a small enough rate that his investment’s growth was more than making up for the withdrawals, Erik is able to fill the shortfall in his monthly budget, while also watching his retirement account balance grow.

Erik did warn that there are risks. Erik has most of his investments in income-producing real estate investments. These investments create monthly cash flow, and therefore he can withdraw his defined amount without having to liquidate assets. If your IRA does not have a cash balance to withdraw for each required payment, you could have to sell off stocks at a less than ideal time. The other major risk Erik mentioned is the penalties if you miss or cannot sustain these defined payments. If you chose to stop withdrawing prior to the defined term (five-year minimum or turning 59½ years old), all withdrawals would be subject to the early withdrawal penalty.

While SEPP 72(t) may not be an option for everyone, it certainly can be a powerful tool to help you achieve your financial independence. Utilizing this IRS rule allowed Erik to leave his job in his mid-40s, take a year to travel the world with his family, and provide for a life where is able to spend more time with friends and family while pursuing various projects as he desires. Erik’s only regret was not utilizing this rule two years earlier.

 

About the Author:

Evan is the Investor Relations Manager for Ashcroft Capital. As such, he spends his days working with investors to better understand their investment goals and background. With over 13 years in real estate, he has seen all sides of real estate from acquisitions to capital raising on the equity and debt side, to operations, and actively invests himself. Please feel free to connect with Evan here.

 

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Understanding the Basis in a 1031 Property Exchange

Understanding the Basis in a 1031 Property Exchange

A 1031 exchange is a terrific tax tool for investors to plan around capital gains and depreciation recapture in real estate transactions. However, understanding the basis in a 1031 property exchange is not always straightforward.

A basis is the amount of money you pay for a piece of property, which includes the costs expended to acquire that property. A short example is buying a property for $100,000. In order to acquire that property, you had to pay $5,000 in closing costs to the bank and an attorney. Thus, your basis is $105,000.

 

Adjusted Basis

This simple concept quickly gets complicated since the real estate basis changes over time. Hence, the concept of adjusted basis now rears its head. The reasons that your basis adjusts are mainly twofold:

  1. By improving the property in some way, e.g., a bathroom renovation, renovating a common area, or adding on to a property. These capital expenditures are added to your basis in a way that increases your basis in the property.
  2. Depreciation expenses of that property take your basis the other way. Depreciation expense allows the investor to lower their income by depreciating the property over a number of years. Depreciation also reduces your basis and can lead to tax liability when you sell the property outside of a 1031 exchange.

 

Calculating Cost Basis

1031 exchanges allow you to defer capital gains. In deferring those gains, your basis has to be recalculated. The general basis concept is that the new property purchased is the cost of that property minus any gain you deferred in the exchange. Below are the steps to explain how to calculate the cost basis of your new property.

  • Figure out the adjusted basis in the property that you have just sold. This includes any mortgage you took to acquire the property.
  • Add the value of any other property you transfer in the exchange, the mortgage amount on your new property, the amount of cash you are contributing to the new purchase, and any recognized gain on the sold property.
  • Subtract any money or property you received in the exchange, the amount of the mortgage on the sold property,  and any recognized loss on any property sold in the exchange.

These steps result in the basis of your newly acquired property in the 1031 exchange. Take note that the purchase price for the new property does not play a role in determining the cost basis. (Surprising to most investors, I know!)

 

When to Take the Capital Gain Tax Treatment

The takeaway from this new understanding is that 1031 exchanges are great tools. But sometimes it is worth taking the capital gain tax treatment if you are buying up. What does that really mean? The following example provides some insight.

Say that you buy a property in year 1 for $250,000. You sell the property in year 3 for $450,000. Over the course of the holding period of the property, you have depreciated the asset, resulting in an adjusted basis. You are also making approximately $200,000 in capital gains. Thus, you would owe capital gains tax and would have to recapture that depreciation taken.

But what if you took your $200,000 gain and bought an $800,000 property? Could you take advantage of new depreciation that would offset the depreciation recapture and offset your capital gains? The answer is yes.

In order to determine the correct dollar amounts you need to spend to hit this tipping point, I encourage you to speak with your CPA or accountant. 1031 exchanges are great, but don’t get so caught up in deferring capital gains that you miss an opportunity to buy into a property that may be a better fit for your plans.

 

About the Author:

Brian T. Boyd, JD, LLM, www.BoydLegal.co

 

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Finding Solutions for Real Estate Taxes

Finding Solutions for Real Estate Taxes: Adding Value

Brett Swarts, president of Capital Gains Tax Solutions, discussed specific ways to preserve real estate wealth through tax strategies in a recent interview with Joe Fairless. These options include consultations with trustees for deferring taxes, increasing liquidation, and diversifying funds.

 

Background in Real Estate Taxes

Brett Swarts got his background in real estate while working for his father’s family business in northern California. While serving an internship with Marcus & Millichap, he gained experience in buying and selling apartments.

Real estate taxes came into the picture later. Even though Brett was always involved in learning about real estate in some capacity, it wasn’t until he started two companies out of college that he began to move towards tackling the specific issue of real estate taxes.

 

Consulting on Deferred Sales Trust

The deferred sales trust was a specific and unique strategy that Brett’s company introduced while working in partnership with Estate Planning Team. The purpose of this partnership was to use the deferred sales trust as a viable option to solve a specific problem faced by property owners looking for an alternative to the 1031 exchange. There was a great need for owners to find an exit strategy from properties that require debt financing to maintain.

Getting out of debt was a recurring issue, and the deferred sales trust was introduced as the most viable method to make this happen. In an anecdotal story, Brett recounted a specific client who goes by the name of Peter from Marin County in California. As an owner of an 18-unit property, he was holding onto a debt that was around $500,000.

Peter was interested in selling the property and getting out of debt by using the deferred sales trust, which would allow him to net $1.3 million out of $1.8 million after paying off the debt. The tax liability also added another $500K on top of the original debt of the same amount; Peter felt boxed into the situation and thought the 1031 exchange was the only way out.

 

Getting Out of Debt

According to Brett, this situation is extremely common in the residential and commercial real estate market. Relieving the pressure to move ahead on a deal before it actually makes sense is one of the most important benefits of selecting a deferred sales trust instead of the 1031 solution.

Because there is an abundance of 1031 buyers in California interested in paying the asking price for such properties, this solution doesn’t deviate from their expectations when closing a 1031 deal. Since the buyer is unaffected, this option makes even more sense from the seller’s point of view.

To be clear, sellers like Peter are encouraged to put language into their contract that offers the option of a deferred sales trust as a backup plan in the event that the 1031 option fails. The non-constructive receipt is maintained by a QI company instead of sending the funds to the escrow account through the traditional method.

 

Legal Tax Strategy for Real Estate Investors

The legality of this option is assured, which is an important concern for anyone still unfamiliar with the method. This option is part of a tax law that is 90 years old, but it’s still on the books. It is a creative application of an installment sale, which is not uncommon. Funds can be held by a financial manager, who often puts the money into any number of conservative instruments like stocks, bonds, and mutual funds.

This method doesn’t prohibit the seller from returning to the real estate industry later, so diversification is always possible. The purpose of Brett Swarts’s interactions with potential clients is primarily to educate them about these options, which are often poorly understood. This solution has been proven to work for commercial real estate investors, collectors, businesses, and high-end residential real estate owners.

By contrast, the 1031 option works exclusively for investment properties. After the deal is closed, a fee is applied, and this is the primary method of compensation for his company. Trusts can be extended by a decade, or they can continue into the next generation. Typical earnings on these notes range between 6% and 8%.

The financial advisor also gets a fee, which is typically less than 1%, depending on how funds get invested. Finally, the fee to the real estate tax lawyer is around 1.5%. For properties with a large tax liability, a combination of 1031, deferred sales trust, and the Delaware might be necessary.

 

Interviewing Clients, Setting Goals

The interview process reveals the client’s goals. This could be to access more liquidity, for example. Other clients might prefer to have a mortgage over basis, or they might be trying to reduce their liability. The key to a successful transaction is to gain access to the client before the buyer removes these options from the table.

Maintaining the proper language within the exchange agreement is key to keeping the options open and accessible. Otherwise, the QI company might just send you the real estate tax bill. There are other options that might be available for lowering real estate tax liability. This is usually a matter of consultation so that the solution adequately matches the situation and the client’s stated priorities and goals.

 

Avoiding IRS Audits

Avoiding audits from the IRS is another important consideration. The use of the third-party trust is technically legal, but it’s unusual. This is why it’s important to follow the rules very closely. Since this process has been conducted successfully thousands of times, there is no reason to feel that it’s a new technique. In fact, it’s been reviewed carefully by national law firms.

Although this concept is not proprietary, the actual implementation of the strategy falls under a non-disclosure classification. Ultimately, the best way to angle and leverage your position is to buy at the right time when the deal makes the most sense; the real money is made on the buying side of the equation.

 

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Using a Deferred Sales Trust to Sell Bitcoin

Using a Deferred Sales Trust to Sell Bitcoin

For generations, it was thought that running the mile in under four minutes was impossible. Then on a cold, rainy day in 1954 in Oxford, England, Roger Bannister completed a mile race in 3 minutes and 59 seconds, accomplishing what many people thought was impossible. The record only lasted 46 days before it was broken again. When people saw that it was achievable, it inspired others to believe that they, too, could succeed.

For me, there was a similar record shattered in 2021. It gave me the belief I needed to shift how I help Bitcoin owners defer capital gains tax and invest in real estate without using a 1031 exchange.

 

Deferring Capital Gains Tax Using the Deferred Sales Trust

With highly appreciated Bitcoin, Ethereum, XRP, Cardano, or other cryptocurrencies, knowing your capital gains tax implications before selling is important. Many individuals feel trapped by 30% in capital gains tax because they don’t have a strategy to defer it. They may also be unaware of their options. The Deferred Sales Trust™ (DST) can allow you to defer hundreds of thousands to millions of dollars in taxes if or when you sell your cryptocurrency. No deal is too big for the DST; however, the minimum-size deal typically starts with at least $1M in gain and $1M in net equity.

Let’s say you own at least a $1 million stake in Bitcoin and the gain is around $1 million. The capital gains tax could potentially exceed $300,000. A Deferred Sales Trust can be used to defer capital gains tax on the sale of Bitcoin.

Before the first Bitcoin and Ethereum DST transaction closed in August of 2021, the Deferred Sales Trust had already helped thousands of individuals defer this capital gains tax, giving a larger “nest egg” for future investments. The net proceeds received from a cryptocurrency sale can be invested in business ventures, real estate, hard money lending, ground-up development, mutual funds, stocks, REITs, insurance, and much more.

 

Overview of the Deferred Sales Trust

A Deferred Sales Trust is a business trust that employs an IRC §453 tax approach. It enables owners selling highly appreciated assets to use a traditional installment sale to defer capital gains realization. Since 1996, the DST has maintained a proven track record of success in helping investors and business owners defer capital gains tax and unlock equity into cash flow.

Prior to deciding to move forward, it’s critical to have a no-cost consultation with a Deferred Sales Trust expert. The primary objective of this meeting is to assess your position, address any questions you may have, and determine whether the DST is a good fit for you.

A reasonable rule of thumb is that the asset you’re selling should have a net profit of at least $1 million and a gain of at least $1 million. If you decide to proceed with the DST for your cryptocurrency sale, your next meeting will be with a DST trustee, a DST tax attorney, and a registered investment advisor.

You can also invite others to this meeting, including your:

  • CPA
  • Real estate broker
  • Business broker
  • M&A attorney
  • Independent attorney

Collectively, you and the above parties will meet to examine whether the DST is a viable option for your proposed sale. Your financial and next business or real estate venture goals will also be discussed, as well as your risk tolerance for investments and the payment amounts you wish to receive when the funds are transferred to a DST bank account.

If a DST is a good fit for you and you’re ready to move forward, the DST tax attorney will form a DST, and the team will work with you and your representatives to transfer your Bitcoin to the newly formed DST.

In exchange, you will receive a DST installment note with scheduled pre-agreed installments. Following the completion of the disposition of the Bitcoin, the “sale profits” will be directed to the DST. This allows you to avoid taking constructive receipt and put the proceeds in a tax-deferred account, similar to an IRA or a 1031 exchange.

 

Understanding Constructive Receipt

You must transfer your Bitcoin to a unique DST that is exclusive in its business dealings with you. To avoid constructive receipt, you will not receive the cash and therefore defer your capital gains tax. Once the Bitcoin is transferred to the DST, the DST can now sell the coin on the open market. As a result, when the final transaction is completed, the DST receives the “selling money in U.S. dollars,” not you. This is what prevents you from receiving actual or constructive receipt of the funds, which is the foundation of an installment sale and allows you to defer the capital gains taxes.

From here on out you will work closely with your DST team to execute the investment plan based on your needs, wants and risk tolerance, and the payback of your money.

 

Post-Closing

Your DST trustee administers all parts of the DST after closing, but only if you authorize them to. For example, when you sell an asset to the DST, the firm has the funds transferred to a specific DST secure bank account that requires your signature, the firm’s signature, and the signature of the bank officer to open. It’s similar to having a long-term escrow account. This is the account from which the DST buys investments you authorize it to buy and has the bank make payments to you according to the terms of your installment contract, with your agreement.

 

Two Questions to Determine If the DST Is a Good Fit For You

1. Do you have any highly appreciated assets that you’d like to sell, delay the tax, diversify the money, and then invest in tax-deferred real estate or securities?

2. What would it mean to you to convert your highly appreciated asset — which may or may not be providing any or enough cash flow — to cash flow from passive or active real estate or other investments?

 

About Brett Swarts:

Brett Swarts is considered one of the most well-rounded Capital Gains Tax Deferral Experts and informative speakers in the U.S. He is the Founder of Capital Gains Tax Solutions and host of the Capital Gains Tax Solutions podcast.

 

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Wishing You Had No Time Restrictions When Completing a 1031 Exchange?

Wishing You Had No Time Restrictions When Completing a 1031 Exchange?

When a broker receives interest from potential buyers and their agents, one of the first questions he or she will ask is, “Are you (or your client) in a 1031 exchange?” Knowing that a buyer has deadlines as a result of a 1031 exchange gives the seller the upper hand in negotiations. Pressure is created by the 45-day identification of “like-kind” property and the 180-day time limit to purchase the property. Due to time restrictions, you may be forced to speed up your decision, causing you to overpay for a property.

 

Ensuring Your 1031 Funds Are in Good Hands

The Deferred Sales Trust (DST) eliminates one of the most significant drawbacks of the 1031 Exchange by allowing you to reinvest cash at any time while still delaying capital gains taxes.

Both the 1031 Exchange and the Deferred Sales Trust are based on the U.S. Tax Code, which allows capital gains taxes to be deferred. The DST defers capital gains by using a standard “installment sale” (based on IRC §453) while also providing other key benefits that the 1031 Exchange cannot provide.

There are no deadlines to identify or close on a property with the DST, which relieves undue stress and pressure and gives you greater negotiation power. Another advantage of the DST that may be as significant as or more valuable than the lack of time constraints is the freedom from needing to invest funds in like-kind investments. Diversification and flexibility can be achieved with the DST by investing in one or more of the following:

  • Business ventures
  • Real estate
  • Mutual funds
  • Stocks
  • REITs

 

Saving a Failed 1031 Exchange

When completing a 1031 exchange, many DST clients will set up a Deferred Sales Trust as a backup plan. Early planning is preferable, but not required. If you have sold your asset and the funds are still with a qualified intermediary, and you are unable to identify like-kind property by the 45-day deadline, or if a contract you are in falls through on day 180, the DST can serve as a parachute to save your 1031 exchange.

If you find yourself in one of these situations, reach out to a DST trustee to help navigate the steps of transferring funds from a qualified intermediary to a DST in order to save your 1031 exchange and keep the capital gains in deferral status.

 

More About the Deferred Sales Trust

Since 1996, the Deferred Sales Trust (DST) has had a proven track record of performance (3,000+ Closings/Billions Under Management) and a flawless IRS track record. The DST is a business trust that employs a tax technique based on IRC §453, which allows owners selling highly appreciated assets to defer capital gains realization using a traditional installment sale. It’s similar to an IRA, 1031, or 401(k).

 

Start Your Tax Planning Early

The following two questions can help you to determine if the DST is a good fit for you:

1) Do you have highly appreciated assets of any kind you would like to sell, delay the tax, diversify the money, and then invest in tax-deferred real estate or securities?

2) What would it mean to you to convert your highly appreciated asset — which may not be producing or providing enough cash — to cash flow from passive or active real estate, or other investments?

Happy investing! For more information, check out: Why You Should Consider Using the Deferred Sales Trust (DST) Now More Than Ever

 

About the Author:

Brett Swarts is considered one of the most well-rounded Capital Gains Tax Deferral Experts and informative speakers in the U.S. He is the Founder of Capital Gains Tax Solutions, is an exclusive Deferred Sales Trust Trustee, host of the Capital Gains Tax Solutions podcast, and an eXp Commercial Multifamily Broker in Sacramento, CA.

 

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Need an Exit Strategy? The Deferred Sales Trust Might Be the Answer

Need an Exit Strategy? The Deferred Sales Trust Might Be the Answer

Can the Deferred Sales Trust work for a primary home sale? The answer is yes. While many individuals utilize Deferred Sales Trusts (DSTs) to defer millions of dollars in capital gains taxes when selling investment real estate, DSTs are also being used to sell businesses and even primary homes. This is particularly popular in California, which is notorious for its high capital gains tax rates and rapid home value appreciation.

The Deferred Sales Trust is based on the U.S. Tax Code (IRC 453) that allows deferment of capital gains on highly appreciated “property” using a traditional “installment sale.” One of the most appealing features of the DST is that it may be used to sell not only real estate, but also other highly appreciated assets like public stocks, private stock, bitcoin, Ethereum, businesses, or a primary house.

 

DST & Selling a Business

The Deferred Sales Trust can help business owners defer capital gains taxes whose businesses are not tied to real estate. The Tax Cuts and Jobs Act of 2017 (TCJA) redefined and limited “like-kind swaps” of real property when using a 1031 exchange, which had a significant impact on 1031 exchanges. Furthermore, the IRS stated, “exchanges of personal or intangible property such as vehicles, artwork, collectibles, patents, and other intellectual property generally do not qualify for nonrecognition of gain as like-kind exchanges.”

When it comes to capital gains tax planning, the narrowing of the definition of what counts as a “like-kind exchange” has left business owners with fewer options. Since the DST is based on U.S. Tax Code 453 rather than 1031, business owners who aren’t tied to real estate (i.e., rental property, hotel, or commercial property) can sell their business and defer 100% of their capital gains taxes and depreciation recapture as long as the mortgage on the sale is not above the adjusted basis.

 

Selling Your Primary Home with the DST

According to recent U.S. Census Bureau data, the current median house price in the United States is $374,900, making the Section 121 exclusion a great alternative for most homeowners wishing to save money on capital gains when selling their primary dwelling. Section 121 currently enables taxpayers to deduct up to $250,000 in gains ($500,000 for married couples filing jointly) if they have resided in the house for two of the previous five years. When comparing the current exclusions to the amount their house has appreciated into the millions, many homeowners who have resided in their homes for more than 20 years feel stuck.

When selling a primary residence, the Deferred Sales Trust has no limits on how much capital gains tax it can defer, assisting homeowners with any gains above the current Section 121 limits. The following are the fundamentals of using a DST to sell a primary residence:

  1. The seller sells their primary residence to a DST (business trust that only does business with you) and in exchange receives an installment note.
  2. The DST (new owner) sells the property to the buyer. The seller is still in a deferral state since no actual or constructive receipt of the sale proceeds has taken place.
  3. Funds are invested and cash flow is paid back to you over time.

 

Two Questions to Determine If the DST Is a Good Fit For You

1) Do you have highly appreciated assets of any kind you would like to sell, delay the tax, diversify the money, and then invest in tax-deferred real estate or securities?

2) What would it mean to you to convert your highly appreciated asset — which may not be producing or providing enough cash — to cash flow from passive or active real estate, or other investments?

 

Happy investing! For more information, check out: Why You Should Consider Using the Deferred Sales Trust (DST) Now More Than Ever

 

About the Author:

Brett Swarts is considered one of the most well-rounded Capital Gains Tax Deferral Experts and informative speakers in the U.S. He is the Founder of Capital Gains Tax Solutions, is an exclusive Deferred Sales Trust Trustee, host of the Capital Gains Tax Solutions podcast, and an eXp Commercial Multifamily Broker in Sacramento, CA.

 

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Benefits of Buying the LLC That Owns an Apartment Community

Benefits of Buying the LLC That Owns an Apartment Community

The traditional method for buying an apartment community involves the direct transfer of ownership from the seller to the buyer. In this type of scenario, one or both entities may be an LLC or another entity, and the result is the same. The property will transfer at closing to the buyer listed on the sales contract. At that time, the sales price and the change of ownership are recorded and become a matter of public record. While this is the traditional method of conveying property, it is not the only option. In some cases, it also may not be the best option.

Generally, a tax auditor or assessor will review a property’s taxable value every few years or when a sale is recorded. This means that the property may have been taxed at a lower-than-market value before the sale. After the sale, however, the property’s tax bill may shoot up and be aligned with the sales price.

While the new buyer has likely anticipated this increase when creating projections for future operating expenses, this sharp and immediate increase in tax liability may be avoided through a membership interest transfer. A membership interest transfer essentially is a method where the property’s ownership is transferred from one LLC to another LLC. Because the entire transaction is completed within the confines of the LLC’s structure, the purchase price and the change of ownership are not a matter of public record. Nobody who was not involved in the transaction will know what the sales price was or when the transfer took place.

This type of transfer may be advantageous in a few specific scenarios. One of these is a buy-and-flip situation. After you invest your time, energy, and resources into fixing up a rundown property, you want to sell the property for its current market value. You do not want a buyer to be able to see what you bought the property for, how long you have owned it, and what your profit margin will be. A buyer who is privy to such details may have many questions related to repair costs, the value of the improvements that have been made, and other factors. Through a membership interest transfer, these details are not presented to the buyer. The buyer will then make an offer based on the property’s current condition and relevant comps.

In many areas, commercial real estate values are reassessed every three to four years. The exception is if the property is sold. After a sale, the recorded sales price often becomes the taxed value. This means that the new owner’s tax expense could be significantly higher than the seller’s tax expense. If the new sales price could be kept out of public records, such as by buying the LLC, the new buyer could potentially save money on taxes for the first few years of ownership. Because of how considerable tax liability can be, this could save the buyer a sizable amount of money until the property’s value is reassessed.

Eventually, the property’s value will be reassessed even if the membership interest transfer is used. When a bill of sale is recorded, the sales price usually becomes the new tax value. If no recent sale is recorded when it is time to reassess a property’s value, comps and other supporting data must be researched and analyzed. The burden of defining the new value falls on the tax assessor’s or auditor’s shoulders.

Keep in mind that a membership interest transfer may be legal in all states, but you should consult with an experienced real estate attorney about the process and about structuring it legally. Generally, the buyer will establish a new LLC before closing, and the seller’s established LLC will be listed as the sole member of the new LLC. The deed can be recorded prior to closing to avoid conveyance tax, and this is an additional saving to the buyer.

At closing, the membership interest transfer will be executed. In addition, the bill of sale and other documents related to the transfer of ownership will be executed. Funds related to the sale will transfer at that time as well. Because the property will be owned by the new LLC at closing, the commercial real estate financing process is the same.

Some people are worried that buying the LLC rather than the apartment community would impact their tax basis. However, this concern is unfounded. The seller’s tax basis does not transfer to the new entity. Because of this, buying an LLC would not expose you to additional taxes related to the tax basis.

Investing in commercial real estate can be lucrative, and it may be even more lucrative if you can delay a hike in property taxes for a few years or optimize your return when flipping the property. Whether you intend to use a membership interest transfer as part of a fix-and-flip scenario or to mitigate your property tax liability, you should carefully review your specific scenario with your real estate attorney and with your accountant. Understanding the full implications and benefits of a membership interest transfer when investing in a multifamily community is essential in order to reap the rewards and mitigate risks.

 

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Business Tax Deductions Every Real Estate Investor Should Know About

Business Tax Deductions Every Real Estate Investor Should Know About

I recently met with a new client to sort out his tax and corporate issues related to his various real estate endeavors. To be sure, this entrepreneur was missing some key concepts that many real estate investors miss regularly. Walking him through Section 162 of the Tax Code helped him understand that there was a world of business tax deductions that he never thought of before.

To elucidate this point, I am going to explain what Business Deductions are according to the Tax Code. The following Code section is vital to real estate investors — I encourage all investors to meet with their attorney or CPA about business deductions related to running your business.

 

Business Expenses According to the IRS 

26 U.S. Code § 162 — Trade or business expenses

(a) In General There shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including—

(1) a reasonable allowance for salaries or other compensation for personal services actually rendered.

(2) traveling expenses (including amounts expended for meals and lodging other than amounts which are lavish or extravagant under the circumstances) while away from home in the pursuit of a trade or business; and

(3) rentals or other payments required to be made as a condition to the continued use or possession, for purposes of the trade or business, of property to which the taxpayer has not taken or is not taking title or in which he has no equity.

For purposes of the preceding sentence, the place of residence of a Member of Congress (including any Delegate and Resident Commissioner) within the State, congressional district, or possession which he represents in Congress shall be considered his home, but amounts expended by such Members within each taxable year for living expenses shall not be deductible for income tax purposes. For purposes of paragraph (2), the taxpayer shall not be treated as being temporarily away from home during any period of employment if such period exceeds 1 year. The preceding sentence shall not apply to any Federal employee during any period for which such employee is certified by the Attorney General (or the designee thereof) as traveling on behalf of the United States in temporary duty status to investigate or prosecute or provide support services for the investigation or prosecution of, a Federal crime.

 

What This Means for You

This is Congress’ way of saying that businesses can deduct expenses that are necessary to operate a trade or business. A short list that business owners need to consider includes:

  • Auto expenses (actual or standard mileage)
  • Expenses of going into business (limited to $5,000 in the first year, but after the business is operational, advertising, utilities, rent, and repairs are deductible)
  • Books, legal, and professional expenses
  • Travel expenses
  • Business travel
  • Equipment
  • Charitable contributions
  • Taxes (sales tax, excise and fuel taxes, employment taxes, state income taxes can be itemized on your federal return, real estate taxes as well as assessments)
  • Education expenses for things such as continuing education or maintaining your license, if applicable
  • Advertising and promotion (websites, business cards, yellow page ads, etc.)
  • Pass-through deduction (sole proprietorships, partnerships, S corps, LLCs, and LLPs can deduct up to 20% of their net income if they qualify)

 

Digging Deeper

Additionally, many overlooked deductions are missed regularly, including:

  • Bank service charges
  • Business association dues
  • Business gifts
  • Business-related magazines and books
  • Casual labor and tips
  • Casualty and theft losses
  • Coffee and beverage service
  • Commissions
  • Consultant fees
  • Credit bureau fees
  • Office supplies
  • Parking and meters
  • Petty cash funds
  • Postage
  • Seminars and trade shows
  • Taxi, bus, and Uber-type fares

 

Planning Ahead

All businesses are only required to pay taxes on what they owe. Thus, make sure to track the expenses of running your business. At the end of the year, it will brighten your outlook to know that those dollars spent to run your real estate business are dollars well spent. As I have said previously, meet with your lawyer or CPA to discuss these and other deductions to sharpen your true tax owed.

 

About the Author:

Brian T. Boyd, JD, LLM, www.BoydLegal.co

 

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The Wealth-Building Benefits of Tax Flow vs. Cash Flow


John D. Rockefeller once stated, “Own nothing, but control everything.” Part of what I think he meant was, “What you don’t own can’t be taken from you,” which is a fundamental rule of asset protection. If he were here today, I wonder if he would also say, “Earn everything, but control the timing of receiving it.”

In the new Biden economy, taxes are higher. Robert Kiyosaki taught us all about cash flow and I’m curious — if John D. Rockefeller were here today, would he say cash flow is no longer the clear number-one way to preserve wealth? Perhaps he would say we must now build wealth for ourselves and our families via tax flow. Tax flow is considering the tax consequences or advantages of investing in a certain asset type or structure, as well as considering the timing of receiving earnings.

How the Deferred Sales Trust is like an IRA

1. Tax-Inferred Investment Account

A traditional tax-deferred account is a designated savings account or investment option that doesn’t require that you claim the investment income earned inside the account on your tax return. The funds do need to remain in the account to qualify. You defer paying taxes until you withdraw from tax-deferred savings or cash in the investment.

The Deferred Sales Trust is like an IRA since an IRA is a tax-deferred investment account where you do not have to take the net proceeds in the year your highly appreciated sale is made. The earnings that accumulate in the DST can be delayed a few years. Therefore, the funds in the DST will be fully tax-deferred until they’re paid back to you. This can result in a significant improvement in the investment performance of the DST portfolio.

It is important to note that, for the minimum size deal to make sense for a Deferred Sales Trust, the deal must be $1M of net proceeds and $1M gain.

It is recommended that you receive some payment over the first few years of the DST; however, there are no minimum required distributions. This is tax flow at its finest. Receive funds when it makes sense for you. It’s similar to selling when you have bonus depreciation from a new CRE property you just purchased with a brand-new depreciation schedule. If the timing is right and you have enough bonus depreciation, you may be able to offset your capital gain.

 

2. Lower Adjusted Gross Income (AGI)

A tax-deductible IRA contribution lowers your adjusted gross income (AGI) as well as your tax rate. Not receiving income from a DST where you previously were receiving income — from, let’s say, an apartment complex or a sale of a business — works the same way to potentially lower your adjusted gross income.

For example, a recent Deferred Sales Trust client sold his business for $2.6 million in Alabama and deferred around $600,000 in capital gains tax. He is in his 40s and his household earnings are in one of the highest tax brackets. He could have received the $2.6 million immediately and invested the funds into cash-flow-producing assets, for which he may not have been able to shelter the income.

Instead, this client chose to become the lender to the Deferred Sales Trust and receive no payments for a few years in exchange for installment payments from the DST over time. The earnings are somewhere around $200,000 per year in the DST. This $200,000 is compounding and growing in the DST as he waits to receive it at a later date — a date on which he may retire and have a lower active income and cash flow. This can be perfect timing for the tax flow strategy, allowing you to receive income when it’s ideal for you tax-wise.

 

Who does the Deferred Sales Trust work for?

Virtually any individual or entity can utilize a DST to defer capital gains taxes on the disposition of a qualifying asset including primary residence owners, investment real estate, businesses, public or private stock, cryptocurrency, artwork, and collectibles. Gather the sale of multiple assets into one DST to make your estate plan simple and clear. Here is a video with Kevin Harrington from Shark Tank discussing the selling of stock and using the Deferred Sales Trust.

 

Does the IRS allow the Deferred Sales Trust?

So far, the answer is yes. The Deferred Sales Trust has a long track record of success and has withstood scrutiny from both the IRS and FINRA since 1996. It is a tax strategy based on IRC §453, which allows the deferment of capital gains realization on assets sold using a prescribed installment method.

In simple words, if you sell an asset for $10 million using an installment sale contract and finance 100% of the sale, you as the seller have not received constructive receipt of the cash. You have become the lender. You don’t pay tax on what you have not received if you follow IRC §453, since it allows you to pay tax as you receive payments. The buyer you lent money to will typically pay an agreed-upon amount of down payment to you upfront, for which you would pay tax. The buyer would then pay the rest of the purchase price to you plus interest in installments over a specific period of time. The deferral takes place as you wait to receive payment — typically, three to five years.

 

Can it do the same for you? What are the steps?

Sorting out capital gains tax deferral strategies can be confusing. The goal is to find a tax deferral strategy with a proven track record that gives you tax flow, the flexibility of timing to receive earnings, debt freedom, liquidity, diversification, cash flow, and the ability to move funds outside of your taxable estate, all without using a 1031 exchange at the same time.

Here’s to making the best decision for you, your family, and your estate, no matter what the final decision will be for the Biden administration on the new tax proposal policies.

 

About the Author:

Brett Swarts is considered one of the most well-rounded Capital Gains Tax Deferral Experts and informative speakers in the U.S. He is the Founder of Capital Gains Tax Solutions and host of the Capital Gains Tax Solutions podcast.

 

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4 Tax Code Changes and 1031 Exchange Help

5 Proposed Tax Code Changes and How the Deferred Sales Trust Can Help

Will the tax reform be a commercial real estate game-changer? With the change of guard in the United States government, now is the time to put the tax proposal in perspective and learn how the Deferred Sales Trust can help you prepare for the federal capital gains tax rate moving from 20% to 39.6%, elimination or reduction of the 1031 exchange, elimination of the stepped-up basis, carried interest to be considered ordinary income, and the $11.58M estate tax exemption decreasing to $3M.

 

5 PROPOSED TAX CODE CHANGES

1. Federal Capital Gains Tax Rate Increase by Almost Double

The American Families Plan proposal would double the long-term capital gains rate from the current 20% to 39.6%, not including the existing Net Investment Income tax of 3.8% and any state taxes payable.

 

2. Eliminate the Stepped-Up Basis for Inherited Property

The American Families Plan proposes major changes to the way estates treat capital gains. Currently, the value of assets in the estate, including investment property, is “stepped up” to fair market value at the real estate investor’s date of death. In that way, the inheritors do not have to pay capital gains tax on the capital appreciation of the decedent’s assets. If the Families Plan is passed, this step-up would be eliminated for gains in excess of $1 million ($2.5 million for couples when also considering the existing exemption for their primary residence).

If the step-up in basis were eliminated, inheritors would have to pay capital gains whenever they sold the assets, including millions of dollars worth of investment properties or a family home.

If the asset had been purchased for a low price many years ago and held, then the tax basis vs gain (the property’s current market value at the asset owner’s death) would trigger a large tax, leaving much of a family’s real estate wealth legacy to pass to the government. This will be a game-changer for many investment real estate owners who were underwriting their cash flow and wealth model based on, “swap (1031) until you drop and drop until you drop.” Inheritors may feel compelled to sell inherited property in potentially unfavorable market conditions just to pay the tax. This is kind of like letting the government tax bill wag the selling of the investment dog.

 

3. Sunsetting Estate Tax Exemption

The $11.58M estate tax exemption could decrease to $3M. The federal estate tax exemption is the amount you may give away during your lifetime and own at your death without subjecting it to a 40% estate tax. In other words, any assets you own at your death in excess of the current estate tax exemption will be subject to a 40% tax on its fair market value.

 

4. Carried Interest & Promotes To Be Treated as Ordinary Income

Many CRE investment projects are sponsored by a general partner who can earn a share of the profits associated with the investment based on certain performance hurdles. This share of the profit is known as the sponsor’s carried interest or “promote.” Currently, “promotes” in real estate partnerships are generally taxed at the long-term capital gains tax rate. The proposal would treat “promote” interests as ordinary income. As a result, the sponsors would receive fewer net profits and would have less incentive to invest in improving real properties or hitting performance hurdles.

 

5. Elimination or Reduction of the 1031 Exchange

The American Family Plan partially repeals the remainder of IRC Sec. 1031, limiting the amount of the gains deferral to $500,000, which practically eliminates the 1031 exchange for anyone selling property with a gain of $500,000. To clarify, you could still use the 1031 exchange for properties of any value, however, if the capital gain on the sale of property exceeds $500,000, the excess gains would be taxable at the new higher individual income tax rate.

What the Deferred Sales Trust Can Do for You

Consider selling assets before you die and moving them into the Deferred Sales Trust or Deferred Sales Trust Plus in order to: 

  1. Defer higher capital gains tax.
  2. Move equity outside of your taxable estate to eliminate the 40% estate tax.
  3. Maintain deferral of capital gains tax, which your inheritors can continue to defer.
  4. Defer your carried interest to prevent it from being taxed at ordinary income rates.
  5. Eliminate the need for a 1031 exchange.

 

Sorting out capital gains tax deferral strategies can be confusing. Also, finding a tax deferral strategy with a proven track record that gives you debt freedom, liquidity, diversification, and the ability to move funds outside of your taxable estate, all without using a 1031 exchange at the same time, is difficult. That’s why we’ve started Capital Gains Tax Solutions and offer The Deferred Sales Trust™ (“DST”). So you or your clients never have to feel trapped by capital gains tax or a 1031 exchange ever again.

Here’s to making the best decision for you, your family, and your estate, no matter what the final decision will be for the Biden administration on the 1031 exchange.

 

About the Author

Brett Swarts is the founder of Capital Gains Tax Solutions and host of the Capital Gains Tax Solutions podcast.

 

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6 Ways to Pay Less Taxes – A Tax Expert’s One-Year Reflections on the CARES Act

The CARES ACT signed into law by the last administration provided a few nuggets for real estate investors that are becoming increasingly germane to the current economic climate. This article will bring to light several of those benefits that you need to know about. In no particular order, here is the list:

 

1. Loan Forbearance

Borrowers who have federally backed multifamily mortgage loans may be eligible to forebear payments for a 30-day extension. Should 30 days not be enough, the CARES ACT allows for three 30-day extensions as long as those payments were made on time as of February 1, 2020. Now a year later, and with the moratorium on evictions still problematic, this benefit for landlords is more important than ever.

 

2. Alternative Minimum Tax Credits (AMT)

Corporations with any unclaimed AMT credits can claim them immediately. With many corporations filing extensions, it is not too late to claim tax credits (a rare item in the tax world). The TJCA originally required the corporations to space out their AMT credits, but the CARES ACT allows those to be taken immediately.

 

3. Business Interest Expense Increased

Section 163 (j) of the Internal Revenue Code allows businesses to take business interest as a deduction. It is generally limited to 30% of adjustable taxable income. The CARES ACT increases that limitation to 50% for 2019 and 2020. Call your CPA to determine if you need to restate your 2019 return. Moreover, if you have not filed your return yet, talk to your accountant about taking this on your corporate return for 2020.

 

4. Loss Limitations Removed

Non-corporate taxpayers were limited on the losses they could claim. The CARES ACT removes those limitations for 2018 through 2020. This means that you can restate your previously filed returns to take those losses to obtain this benefit. CALL YOUR ACCOUNTANT. Who does not want to get more money back from the IRS?

 

5. Qualified Improvement Property (QIP)

QIP is more commonly called a “leasehold improvement” and the CARES ACT allows those to be immediately depreciated. This is particularly beneficial for commercial real estate. Moreover, this provision is retroactive to 2018.

 

6. Net Operating Losses (NOLs)

The limitation on NOLs was limited to 80% of taxable income for 2020. This has now been increased to 100%. The 80% limitation will resume in 2021. Additionally, NOLs accrued during 2018, 2019 and 2020, can now be carried back for five years preceding the NOL.

 

These highlights are not an exhaustive list. Call your accountant to see what can be done for you and your business. Best of luck!

 

About the Author

Brian T. Boyd, JD, LLM, www.BoydLegal.co

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How to Write Off Almost Anything on Your Taxes

DISCLAIMER: THIS IS FOR YOUR INFORMATION ONLY. SINCE I AM NOT A TAX ADVISORY FIRM, I REFER ALL GENERAL TAX-RELATED REAL ESTATE QUESTIONS FROM REAL ESTATE INVESTORS BACK TO THEIR ACCOUNTANTS. HOWEVER, I WILL SAY THAT INVESTORS OFTEN SEEK REAL ESTATE OPPORTUNITIES TO INVEST IN DUE TO THE TAX ADVANTAGES THAT MAY COME FROM DEBT WRITE OFF AND LOSS DUE TO DEPRECIATION.

 

Karlton Dennis of Karla Dennis and Associates is a tax strategist and business development manager. He was also a featured speaker at this year’s Best Ever Conference. In his presentation, he provided advice about how the wealthiest individuals on the planet are able to stay in the 0% to 15% tax bracket. Below is a summary of his advice.

 

The two common types of taxpayers

Most employed people in the US fall into one of two types of taxpayers.

The first is the ultra-aggressive taxpayer. The ultra-aggressive taxpayer is by no means an expert on the tax code. However, their mindset is to pay the least amount of taxes as possible (legally, of course).

The other is the ultra-conservative taxpayer. The ultra-conservative taxpayer is the opposite of the ultra-aggressive taxpayer. They don’t want to take any of the deductions they qualify for. They are afraid to reduce their taxes because of bad advice they’ve received in the past, whether it came from something they saw online, in the news, or from a past CPA.

The wealthy are not ultra-aggressive or ultra-conservative taxpayers. They are smart taxpayers. They aren’t like the ultra-conservative taxpayers because they aren’t living in a place of fear. They aren’t like the ultra-aggressive taxpayers because they (or at least someone on their team) have a deep understanding of how to leverage the tax code to the fullest extent.

 

Four steps to leveraging the tax code

To fully leverage the tax code and write off more expenses, Karlton recommends following these four simple steps.

  1. You must have a business: You will not be able to take full advantage of the tax code as an individual. You must operate a business. And you must operate the business like a business. This means having a time investment into the business, having a mission and operational strategy, and an expert team and coach.
  2. Your business expenses must have a business purpose: Once you operate your business like a business, you can write off expenses that have a business purpose. There isn’t a list in the IRS tax code of what you can and cannot write off. If it is ordinary, necessary, and reasonable in the pursuit of income, it can be deducted.
  3. You must have proof of payments: You must keep copies of your receipts to document what you are spending your money on and to differentiate between personal expenses and business expenses. A good tip is to take a picture of your receipts on your smartphone rather than saving hardcopies.
  4. You must properly report your expenses: When you are filing your taxes, you must know how to properly report your business-related expenses. This is where your accountant comes into play. The wealthy are not experts on filing their taxes and tax planning. They rely on the experts and focus on operating their businesses.

 

Common tax mistakes

The most common tax mistakes are simple – essentially the opposite of the four steps above.

Four of the most common tax mistakes are not keeping receipts, disorganized record-keeping, miscategorizing expenses, and being late on your bookkeeping.

These are mistakes because they result in either not fully leveraging the tax code and missing out on deductions or because they spell trouble if you were to get audited.

For example, if you are late on your bookkeeping and do not consistently track your business expenses throughout the year, you are nearly guaranteed to miss out on a deduction. Conversely, you may write off a personal expense accidentally, which could get you into trouble if you were to be audited in the future.

 

How the wealthy stay in the 0% to 15% tax bracket

The reason why the wealthy pay a lower percentage of their income as taxes is because they have a strategic tax plan. And they aren’t the ones creating this tax plan. They hire the experts.

As a commercial real estate investor, you pay someone else to properly manage your assets, put together a loan, create a private placement memorandum, etc. Taxes are no different. Work with your CPA on tax planning and understanding how to create a tax strategy to leverage the tax code as much as possible.

For more information on how to find a great CPA, check out this blog post.

 

 

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A Closer Look At The Protection Of The Deferred Sales Trust Funds

Own Nothing, But Control Everything. A Closer Look At The Protection Of The Deferred Sales Trust Funds

With the all-time highs in the marketplace, highly appreciated asset owners are thinking more about diversifying their equity using The Deferred Sales Trust™ (“DST”) because who knows how long this bull market will last.  I remember the 2008 great economic crash like yesterday. I wish someone had told my friends, family, and clients about the Deferred Sales Trust (DST) earlier. That doesn’t have to happen again if you know and understand what the Deferred Sales Trust is and how the funds are protected.

Are Deferred Sales Trust Funds Protected?

The answer is yes.

In a previous article, we discussed Why You Should Consider Using the Deferred Sales Trust (DST) Now More Than Ever and does the IRS Allow The Deferred Sales Trust? So far, the answer is yes. Once the legal confidence of the structure has been established, the next logical question is on the continued operation of the DST and how and where the funds are invested to pay you back per the terms of the secured installment note. In the context of the DST, “secured” is defined as all of the assets in the DST serving as collateral. Examples of this would be private or syndicated real estate, business ventures, hard money lending, investment real estate development(s), mutual funds, ETFs, REITs, stocks, bonds, managed accounts, annuities, life insurance, etc. These assets are the security for repayment of the cash to you per the terms of the promissory note. Remember, you are now the lender to the DST and the DST owes you back the money it borrowed when it purchased the asset from you plus a rate of return, typically 8% compounding, over a specific period of time (usually 10 years). This term of 10-years, however, can be renewed every 10 years for 10 more years and passed in your living trust to your heirs.

How are Deferred Sales Trust Funds and Investments Protected?

The answer is securely with some of the largest investment banks in the world. Investments and movement of cash take your written authorization. As a secured lender, nothing moves without your prior approval. What else goes into this? This starts with the transaction itself when a third-party controlled bank account is set up to receive and secure the proceeds from the sale of your appreciated asset(s). Once the funds are secured, the next likely destination is to transfer the DST funds to an institutional investment custodian such as TD Ameritrade, Charles Schwab, Asset Mark, Bank of New York, etc. Before investments are made, a risk tolerance questionnaire is filled out by you. This becomes the foundation for how and where the funds are invested. It’s important to understand, and necessary for tax deferral, that Capital Gains Tax Solutions (CGTS) serves as a DST Trustee and makes all DST investments on your behalf based on the risk tolerance questionnaire; however, CGTS cannot do this without your prior written approval. The bank acts as a de facto escrow agent to verify the signed instructions and then carry out the instructions. CGTS works with experienced and vetted financial investment advisors and investment real estate syndicators to help make suitable and prudent recommendations. The final approval with regard to those recommendations rests with the secured lender, which is you.

Vetted Financial Investment Advisor Option

Diversification Protection & Dollar Cost Averaging Advantage Over 1031 Exchange 

A significant benefit of using a Deferred Sales Trust™ is that there are a broad variety of investments that can be selected to secure the principal and the return specified in the note, as opposed to a 1031 exchange where only compliant, like‐kind property (generally real estate) can be acquired with the pre‐tax proceeds. The 1031 exchange also has strict time restrictions of 45 days to identify a like-kind replacement property and 180 days to close escrow. The Deferred Sales Trust has zero time restrictions meaning you can sell high and buy low and dollar cost average into investments methodically which can lower your risk. 

Why Not Use a Traditional Installment Sale Instead of a Deferred Sales Trust? 

In a traditional installment sale, the only asset that has the ability to pay you back is the asset you sold. The challenge is you no longer control it. In most cases these short-term notes (usually 3-5 years) are secured against real estate or a business that is illiquid, meaning that it is a slow process and can take years to foreclose on the asset should the borrower stop paying you. Compare this to the Deferred Sales Trust (DST) options for investments where your collateral can be investing into liquid and diversified investments that you must approve. 

Own nothing, but control everything; Judgment and Creditor Protection

John D. Rockefeller once stated, “Own nothing, but control everything.” In summary, he meant ‘what you don’t own can’t be taken from you.’ This is the number one fundamental rule of asset protection that many people forget about and is one of the most commonly undervalued or overlooked advantages of the Deferred Sales Trust (DST). For example, let’s say someone sues you and obtains a judgment against you. The bad news is you are legally obligated to pay the judgment, however, the good news is the principal and earnings held by the Trust are generally out of reach since the DST owns the assets in it and not you. Remember, you are the secured lender. An important point to make here is the judgment holder might be able to access the distributions the DST is paying you. The reverse also works in your favor in case you’re wondering, “What if someone obtains a judgment against the Trustee (CGTS)?” In this scenario, the DST fund protection here is stronger than before since the Trustee is a fiduciary who manages and disburses the trust assets for the trust secured creditor (you) and by structure has no ownership in or claim to either the trust assets or the monies distributed to you per the installment sale agreement.

Our Vision to Help You Make a Great Decision 

The (DST) has a proven track record and can give you debt freedom, liquidity, diversification, ability to move funds outside of your taxable estate all while not using a 1031 exchange. We don’t want you or your clients to have to feel trapped by capital gains tax or a 1031 exchange ever again. Here’s to feeling safe and secure with the management of the Deferred Sales Trust funds and to making the best decision for you, your family, and your estate, no matter if and when this bull market finally takes a dive. 

Brett is the Founder of Capital Gains Tax Solutions and host of the Capital Gains Tax Solutions podcast. Each year, he equips hundreds of high-net-worth individuals and business professionals with the Deferred Sales Trust strategy to help their high net worth clients solve capital gains tax deferral limitations. Brett was formerly an associate at one of the largest CRE Brokerage firms in the country (Marcus & Millichap), and is also a Sacramento Multifamily Broker with eXp Realty. Brett lives in Roseville California, with his wife, Melanie, and their 5 children.

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Two Potential President Biden Tax Changes and What They Mean for Real Estate Investors

Two Potential President Biden Tax Changes and What They Mean for Real Estate Investors

The Biden Administration is signaling that it will start efforts to overhaul the Tax Code in such a way as to increase taxes and unwind the Trump Administration’s Tax Cuts and Jobs Act. Without belaboring the details of the entire tax plan and discussing matters not relevant here, I want to focus on two targets of the Biden proposals: the 1031 Exchange and Capital Gains.

The 1031 Exchange

Real estate, especially in the multi-family and commercial space, relies heavily on the ability to defer capital gains from the sale of property. This is done by allowing the seller to swap one piece of real estate for another and reduce or obviate that capital gain on the sold property. To say this tax provision is popular would be an understatement. Recent IRS regulations outline what constitutes real property for 1031 eligibility — these regulations would now become moot. (Currently, Section 1031 requirements are: 1) real property must be exchanged for like-kind real property, and 2) the property relinquished in the exchange and the replacement property received in the exchange must both be held for business or investment purposes.)

The Biden Administration also is looking to terminate the step-up in basis that alleviates beneficiaries of large tax liabilities on inherited assets that have increased in value. Those inherited assets sold by the beneficiary would require capital gains to be paid on the original basis at the time of purchase as opposed to the fair market value at the time of inheritance. Thus, inherited assets that have been part of a 1031 exchange would have a minimal tax basis given the capital gains tax deferral on gain recognition. Eliminating the step-up in basis would trigger deferred gain liability.

Capital Gains

In conjunction with the 1031 exchange being eliminated, the Biden administration’s tax proposals are taking aim at capital gains rates, too. This means, that instead of paying the 20% capital gains rates (23.8% for high earners) for the sale of property held for investment for a year or more, the administration is going to increase that rate. The proposal being floated by this administration is to raise the capital gains rate to 39.6%, which is the top tax bracket under the Biden tax plan for individuals. Thus, capital gains rates have been eliminated and all gains are now ordinary gains.

What Does This Mean for Real Estate?

To be blunt, this is a BIG problem for real estate investors. The tax benefits that encourage investment in real estate are being eliminated. Moreover, the far-reaching impact of these two tax provisions would chill real estate investment. This is something many of us in the investment community need to monitor. Nothing has happened yet, but with the policies being pushed through Congress and the Senate along partisan lines, real estate is in the crosshairs at the moment.

Author: Brian T. Boyd, JD, LLM, www.BoydLegal.co

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How a Passive Apartment Investor Interprets a Schedule K-1 Tax Report

DISCLAIMER: THIS IS FOR YOUR INFORMATION ONLY. SINCE I AM NOT A TAX ADVISORY FIRM, I REFER ALL GENERAL TAX-RELATED REAL ESTATE QUESTIONS FROM PASSIVE INVESTORS BACK TO THEIR ACCOUNTANTS. HOWEVER, I WILL SAY THAT INVESTORS OFTEN SEEK REAL ESTATE OPPORTUNITIES TO INVEST IN DUE TO THE TAX ADVANTAGES THAT MAY COME FROM DEBT WRITE OFF AND LOSS DUE TO DEPRECIATION. BUT I DON’T INCLUDE ANY ASSUMPTIONS ABOUT THESE TAX ADVANTAGES IN OUR PROJECTIONS.

Apartment syndications remain an appealing investment for passive investors due to the myriad of tax benefits—the foremost being depreciation.

Fixed asset items (a long-term tangible piece of property or equipment that is used in operations to generate income and is not expected to be consumed or converted into cash within a year) at an apartment community reduce in value over time due to usage and normal wear and tear.  Depreciation is the amount that can be deducted from income each year to reflect this reduction in value.  The IRS classifies each depreciable item according to the number of years of its useful life.  It is over this period that the fixed asset can be fully depreciated.

A cost segregation study identifies building assets that can be depreciated at an accelerated rate using a shorter depreciation life.  These assets are the interior and exterior components of a building in addition to its structure. They may be part of newly constructed buildings or existing buildings that have been purchased or renovated.  Approximately 20% to 40% of these components can be depreciated at a much faster rate than the building structure itself.  A cost segregation study dissects the purchase/construction price of a property that would normally be depreciated over 27 ½ years—and identifies all property-related costs that can be depreciated over 5, 7, and 15 years.

If the expense of the construction, purchase or renovation was in a previous year, favorable IRS rulings allow taxpayers to complete a cost segregation study on a past acquisition or improvement and take the current year’s deduction for the resulting accelerated depreciation not claimed in prior years.

You can learn more about how depreciation is calculated, as well as the other tax factors when passively investing in apartment syndications, by clicking here.

Each year, the general partner’s accountant creates a Schedule K-1 for the limited partners for each apartment syndicate deal. The passive investors file the K-1 with their tax returns to report their share of the investment’s profits, losses, deductions and credits to the IRS, including any depreciation expense that was passed through to them.

Click here for a sample Schedule K-1.

There are three boxes on the K-1 that passive investors care about the most.

Box 2. Net rental real estate income (loss). This is the net of revenues less expenses, including depreciation expense passed through to the LPs. For most operating properties, the resulting loss is primarily due to accelerated deprecation. On the example K-1, the depreciation deduction passed through to the Limited Partner is $50,507, thereby resulting in an overall loss (negative taxable income).

Box 19. Distributions. This is the amount of equity that was returned to the limited partner. On the example K-1, the limited partner received $1,400 in cash distributions from their preferred return of distribution and profits.

Just because the LP realizes a loss on paper does not mean the property isn’t performing well.  The loss is generally from the accelerated depreciation, not from loss of income or capital.

Section L. Partner’s capital account analysis. On the sample K-1, the ending capital account is $48,093. However, this lower amount doesn’t reflect the capital balance that the limited partner’s preferred return is based on. The $48,094 is a tax basis, not a capital account balance. Thus, this limited partner wouldn’t receive a lowered preferred return distribution based on a capital balance of $48,094. From the operator’s perspective, depreciation doesn’t reduce the passive investor’s capital account balance.

The capital balance is technically reduced by the distribution amount above the preferred return (i.e., the distribution from the profit split), which is a portion of the $1,400 in the “withdrawals & distributions” box. However, operator’s deals are structured in a way so that the LPs continue to receive a preferred return based on their original equity investment amount, with the difference made up at sale.

The majority of the other accounting items on the K-1 are reported on and flow through to your Qualified Business Income worksheet.  The net effect of these items will be unique to each investor based on their specific situation and other holdings.

If you want to learn more about each of the individual sections and boxes, click here to review IRS instructions for the Schedule K-1.

To better understand your own tax implications on any investment, it is important to consult a professional who has an understanding of your overall finances so that they may give full tax advice.  Therefore, always speak with a CPA or financial advisor before making an investment decision.

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Why You Should Consider Using the Deferred Sales Trust (DST) Now More Than Ever

Sorting out capital gains tax deferral strategies can be confusing. Also, finding a proven tax deferral strategy that gives you debt freedom, liquidity, diversification, and the ability to move funds outside of your taxable estate all while not using a 1031 exchange at the same time, is hard to find. That is why we’ve started Capital Gains Tax Solutions and offer The Deferred Sales Trust™ (“DST”).

With the new Biden Administration taking office, investment real estate and tax strategists are thinking more about Deferred Sales Trusts since the 1031 exchange appears to be in danger.

What if President Biden Repeals Section 1031?

The Biden Administration is considering eliminating or limiting the 1031 exchange and stepped-up basis, making now a great time for you to plan for an alternative to defer capital gains tax on the sale of highly appreciated assets. In the past the 1031 exchange has survived for real estate investors, however, the last time Congress met to overhaul the tax code, the 1031 exchange was under fire, and each attempt has been narrowing who qualifies.

Does the IRS Allow The Deferred Sales Trust? 

So far, the answer is yes. The Deferred Sales Trust has a long track record of success and has withstood scrutiny from both the IRS and FINRA since 1996. Since it is a tax strategy based on IRC §453, which allows the deferment of capital gains realization on assets sold using the installment method prescribed in IRC §453.

In simple words, if you sell an asset for $10 million using an installment sale contract, and finance the sale, you as the seller may not have received full constructive receipt of the cash. You have become the lender. You do not pay tax on what you have not received if you follow IRC §453 since it allows you to pay tax as you receive payments. The buyer you lent money to will typically pay an agreed-upon amount of down payment to you upfront (you would pay tax on this) and then pay the rest of the purchase price to you plus interest in installments over a specific term of time. The deferral takes place as you wait to receive payment, which is typically 3-5 years.

According to the Oklahoma Bar Association, IRC §453 was designed to, “eliminate the hardship of immediately paying the tax due on a transaction since the sale did not produce immediate cash. Furthermore, if the purchaser defaulted on the installment note, the seller may have paid tax on money he never actually received.”

Why You Should Consider Using It Now More Than Ever.

Lower risk by diversifying your equity and buying with no time restrictions:

A significant benefit of using a Deferred Sales Trust™ is that there are a broad variety of investments that can be selected to secure the principal and the return specified in the note, as opposed to a 1031 exchange where only compliant, like‐kind property (generally real estate) can be acquired with the pre‐tax proceeds. The 1031 exchange also has strict time restrictions of 45 days to identify a like-kind replacement property and 180 days to close escrow. The Deferred Sales Trust has no time restrictions meaning you can sell high and buy low. Learn more here about how the Deferred Sales Trust is like a time machine.

Consolidation of multiple assets:

Who does this work for? Virtually any individual or entity can utilize a DST to defer capital gains taxes on the disposition of a qualifying asset including primary residence owners, investment real estate, businesses, stock including public or private, cryptocurrency, artwork, and collectibles. Gather the sale of multiple assets into one DST trust for making your estate plan simple and clear. Here is a video with Kevin Harrington from Shark Tank discussing the selling of stock and using the Deferred Sales Trust with me. See these and read about more Advantages of The Deferred Sales Trust™ (“DST”) in a recent article here.

Recent Sacramento Multifamily Owner Pushes Through Skepticism To Sell His Property and Save His 1031 Exchange Using a Deferred Sales Trust

Let’s use a recently closed deal of Capital Gains Tax Solutions, LLC (CGTS). This client of CGTS sold his $1,700,000 multifamily property in Sacramento, CA. He grew up in a real estate investment ownership and brokerage family in Napa, CA. He and his family had used a 1031 exchange to purchase properties since he was a kid. “I remember sitting at the dinner table and discussing 1031 exchanges.” Now in his 40’s, he has a property of his own that he bought near the bottom of the market in 2009.  He and his partner were ready to sell and unlock the sleeping equity (their return on equity was too low for them) and invest it into the next deal since their property had appreciated over $1,000,000.

He had the following motivations and challenges:

  1. He needed to purchase something of equal or greater value and replace his debt.
  2. He wanted to defer his capital gains tax and find a deal with a cap rate and cash-on-cash return which yielded as much or more in cash flow as the property he was selling.
  3. He was cautious to not go into too much debt and overpay for a property via a 1031 exchange. He found a 21-unit property to purchase, however, his partner had a family emergency and decided to back out, leaving him with no time, and not enough money to purchase the property. So the deal fell apart.

Which is what brought up these next four questions:

  1. Can he accomplish his goal of capital gains tax deferral by using a Deferred Sales Trust and not purchasing investment real estate today and going into too much debt?
  2. Can he eliminate the need for a 1031 exchange, and can his partner go his separate way?
  3. Can he buy real estate with no timing restrictions all tax-deferred in the future?
  4. Will he be able to retire from real estate forever if he wants to?

The answer to all four of these questions is yes. To learn about this specific deal or go here and watch the video to hear from the owner himself.

“The Deferred Sales Trust helped me not just be an active commercial real estate investor, but it helped me become a passive investor as well. CA real estate values were too high, and I can now double my cash-on-cash return in other states, diversify into other CRE product types, all with zero management responsibilities.” Steve P. Sacramento, CA

Can it do the same for you? What are the steps? 

Sorting out capital gains tax deferral strategies can be confusing. Also, finding a proven track record tax deferral strategy that gives you debt freedom, liquidity, diversification, and the ability to move funds outside of your taxable estate all while not using a 1031 exchange at the same time, is hard to find. That’s why we’ve started Capital Gains Tax Solutions and offer The Deferred Sales Trust™ (“DST”). So you or your clients never have to feel trapped by capital gains tax or a 1031 exchange ever again. Get clarity today on the differences between each tax deferral strategy you are considering including the Delaware Statutory Trust, Charitable Remainder Trust, Monetized Installment Sale, 1031 exchange, Opportunity Zones and learn more about The Deferred Sales Trust™ (“DST”) today by downloading a free e-book, Sell Your Business Or Real Estate Smarter here at http://www.capitalgainstaxsolutions.com.

Here’s to making the best decision for you, your family, and your estate, no matter what the final decision will be for the Biden Administration on the 1031 exchange.

About Brett Swarts:

Brett Swarts is considered one of the most well-rounded Capital Gains Tax Deferral Experts and informative speakers on the west coast. His audiences are challenged to create and develop a tax-deferred transformational exit wealth plan using The Deferred Sales Trust™ (“DST”)  so they can create and preserve more wealth. Brett is the Founder of Capital Gains Tax Solutions and host of the Capital Gains Tax Solutions podcast. Each year, he equips hundreds of high-net-worth business professionals with the DST tool to help their high net worth clients solve capital gains tax deferral limitations.

Mr. Swarts is passionate about educating high net worth individuals in capital gains tax deferral with a Deferred Sales Trust, how to divest from a business, cryptocurrency, highly appreciated stock, primary residence, or investment real estate to gain freedom from feeling hostage to capital gains tax or a 1031 exchange, then invest back into a new business venture or investment real estate at any time [all capital gains tax deferred] which he calls optimal timing.

His experience includes numerous Deferred Sales Trusts, Delaware Statutory Trusts, 1031 exchanges, and $190,000,000 in closed commercial real estate brokerage and Deferred Sales Trust transactions. He’s an active commercial real estate broker and investor with brokerage experience and ownership in multifamily, senior housing, retail, medical office, and mixed-use properties. He is a licensed California Real Estate Broker who has held series 22 and 63 licenses.

Brett was formerly an associate at one of the largest CRE Brokerage firms in the country (Marcus & Millichap), is now a Sacramento Multifamily Broker with eXp Realty. Brett lives in Roseville California, with his wife, Melanie, and their 5 children.

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How to Do a 1031 Exchange on an Apartment Syndication

DISCLAIMER: This blog post is written for educational purposes only. We are not providing tax, legal, or accounting advice. Therefore, we strongly recommend that you speak with a tax advisor, CPA, and/or financial advisor for more details on the federal, state, and local tax consequences associated with doing and/or participating in a 1031 exchange.

Generally, as a real estate syndicator, the two common approaches to a disposition is to either 1) liquidate and distribute the sales proceeds to yourself, other general partners, and the limit partners, or 2) roll the sales proceeds into a new deal.

The latter is referred to as a 1031 exchange.

There are two main, potential benefits to the 1031 exchange. By participating in a 1031 exchange, your passive investors may be able to defer capital gains taxes on the profits from sale. It will also allow your passive investors to continue to collect distributions, and the new preferred return will be based on the higher proceeds from the sale instead of the original investment.

In this blog post, I want to provide an overview of the 1031 exchange process from the perspective of the apartment syndicator.

1031 Exchange Requirements

The requirements for a 1031 exchange are laid out in the United States Internal Revenue Code 26 U.S.C. § 1031.

Here are the current requirements in order to qualify for a 1031 exchange:

  1. The relinquished property (i.e., the property you are selling) must be an investment property
  2. The purchased property must be of “like kind”
  3. The purchase property must be at least the same value as the relinquished property or more
  4. The purchased property must be purchased by the same name or entity that owned the relinquished property
  5. Sales proceeds must be held in an escrow account
  6. Purchased property must be identified within 45 days after closing on the relinquished property
  7. Purchase property must be closed on within 180 days after closing on the relinquished property

We go into more details on these rules in a blog post here.

1031 Exchange Process

If you want to implement a 1031 exchange, you need to work with a 1031 consultant. These are companies who are qualified intermediaries who specialize in the 1031 exchange.

Like most team members, the best way to find a 1031 exchange consultant is through referrals. However, a quick Google search will generate hundreds of potential candidates. The main requirement is that they specialize in 1031 exchanges and in apartments (or whatever asset class you focus on).

Once you’ve selected a company, they will send you a letter of engagement that outlines the 1031 exchange process and will ask the person or entity on the property title to fill out a Form W-9.

In order to start the 1031 exchange process, the consulting firm will also request the following:

  • Name of person(s) or entity in title: If entity, who will sign on behalf of it and what is their title? What type of entity is it? Single member LLC, partnership, corporation?
  • Social security or Tax ID number of person(s) or entity in the title
  • Mailing address
  • Copy of driver’s license or valid ID
  • Copy of the purchase and sale agreement
  • Address of property(ies) being sold
  • Name of purchaser(s)
  • Tentative closing date
  • Name and contact information of title company or closing attorney handling the sale

Notify Investors

After you are under contract on the relinquished property and engaged the 1031 exchange consultant, you will need to notify your passive investors about the disposition. Additionally, you will want to explain the potential benefits of a 1031 exchange and ask whether they want to participate in the 1031 exchange. A simple way to do this is to ask investors to reply to the email with “A” if they want to participate and “B” if they don’t want to participate. Another option is to create a Google Form to collect contact information and responses.

I recommend setting a “let us know by” date that is at least 7 days prior to closing. For example, if the scheduled closing date is May 8th, ask your investors to let you know whether they want to participate in the 1031 exchange by May 1st at the latest. To ensure they reply on time, let them know that if they do not submit a response by that date, their distribution will be delayed.

In general, it is a best practice to set “let us know by” dates. The earlier you have replies, the more efficient the process is for you as a general partner.

As replies come in from your investors, you will create two lists: investors who are participating and investors who are not participating. Send separate email updates to each list.

For the investors who are participating in the 1031 exchange, make sure that you send them status updates after closing. Let them know once you’ve identified the new deal, including the same information that you would include in a new investment offering email (deal information, projected returns, conference call information, etc.), as well as how much their investment will be in the new deal (for example, if you initially invested $100,000 into the first deal, your investment into this deal will be approximately $120,000 – $100,000 initial investment + $20,000 profit from sale). From there, you can add the 1031 exchange investors to the email list for the new deal and send them the regular closing updates.

For the investors who are not participating in the 1031 exchange, make sure the you send them status updates after closing too. In the closing email of the first deal, let them know the process for receiving their final distribution (i.e., when will they receive it, how will they receive it, and what the amount will be). Additionally, like the sale of any deal, the investors that are not participating in the 1031 exchange will need to sign a document that states that they have no further obligations in the original deal. Your attorney can help you prepare this document.

What You Need to Know About Seeing Up a 1031 Exchange

The two potential benefits of the 1031 exchange are deferred taxes and a preferred return based on a higher investment amount.

The IRS regulates who and what qualifies for a 1031 exchange.

When you are selling an apartment, notify your investors about the sales and determine who wants to participate in the 1031 exchange. Send separate updates to investors who do and don’t want to participate. Investors who do want to participate will have their proceeds rolled into a new deal. Investors who do not want to participate will receive their proceeds and have no further obligations.

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Depreciation and Bonus Depreciation: Everything You Need to Know

When I speak with clients about their real estate investments, this topic is always on my list to discuss in depth with them. Depreciation and Bonus Depreciation are hands down one of the best tax advantages to owning real estate for investment. Typically, that conversation starts with the threshold question: “What is Depreciation?”

What is depreciation?

Depreciation is a process utilized by accountants, CPAs, and Tax Lawyers to determine how much of the costs for buying and improving the property can be deducted. This deduction is spread across several years, 27.5 for residential real estate and 39 years for commercial real estate. Those years represent the useful life of the property.

Per the IRS, there are requirements to depreciate rental property. Those requirements are:

  • You must own the property (this doesn’t mean you can not have mortgage or other financing arrangement- simply that the property is titled in your name or your entity’s name);
  • That property is income producing or used in your business (hopefully that means you are in real estate investing);
  • Your property has a useful life, i.e, it loses its value from natural causes; and
  • This asset is expected to last for more than a year.

One exception to depreciation is land. Land does not get used up. It is part of your property but not the depreciable part. Keep that in mind as you depreciate your properties.

You can start depreciating your properties as soon as you place them into service or, in non-lawyer language, when they are ready to rent. At the end of the year, your accountant, CPA, or Tax Lawyer will take the following steps to evaluate the deduction for depreciation of your property:

  1. Determine the basis of the property: This is simplified by considering this number as the price you paid for the property;
  2. Separate the cost of the land and buildings: As stated above, land is not depreciable so each part of the real estate has to be valued and separated;
  3. Determine the basis in the house;
  4. Determine the adjusted basis, if: Sometimes increases and decreases in your basis are necessary. This happens when you improve the property and those improvements have a useful life of at least 1 year before the property was placed into service, you spent money to repair a damaged property, adding utilities, and certain legal fees will add to your basis. Things that detract from basis are insurance payments received as a result of damage or theft, casualty losses not covered by insurance that you took a deduction for and grant money for an easement.

Once all these steps are taken, your rental income is reduced by the Depreciation Expense on your Schedule E of your 1040 tax return. Thus, your income is offset or reduced by this deduction. Depending on your real estate holdings, the deduction for Depreciation could be hundreds of dollars or thousands. It adds up quickly and you will come to figure depreciation into your valuation of potential investments for real estate.

What is bonus depreciation?

Now, imagine taking Depreciation and putting it on steroids. That is exactly what Bonus Depreciation is and it is a game changer in every sense of the term.

But first, it needs to be understood that Bonus Depreciation is not for the Real Estate itself, the land and structure. Bonus Depreciation is for Capital Assets with a life of less than 20 years. What does this actually mean?

Glad you asked because I was going to tell you anyway. Let’s take something simple like an oven or other appliances. Bonus Depreciation allows you to take the entire cost of that asset in one year. So that $900.00 oven you just put into that house is now a 100% deduction. Moreover, you don’t have to buy a new oven. It just has to be new to you and you cannot obtain it from a related party.

Bonus Depreciation allows you take the entire cost of specific capital investments in one year. This reduces your federal income taxes in the year you place those assets into service.

Talk with your CPA, Accountant or Tax Attorney about both of these. There is no better tax advantage than these two concepts. Good luck out there!

Bio: Brian is a licensed attorney in Tennessee who handles commercial, real estate, construction, and business issues for clients. He and his wife also invest in real estate. To learn more about Brian, visit www.boydlegal.co

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End of Year Real Estate Mindfulness

2021 is just around the corner.  With all the magic of the holidays, sometimes it is easy to let things slip that you need to button up before January 1, 2021.

We reached out to Karlton Dennis, one of our select speakers for BEC 2021 and a Licensed Tax Accountant. He is the Youngest Forbes Tax Accountant in the US and fully passionate about the tax codes and leveraging it with Real Estate Investors and Business Owners to provide them the strategies that lowers their taxes legally.

Let’s see what Karlton has to say to give us a heads up on what we need to be looking out for now, before our past catches up to us.

————

As we approach 2021, we are reminded of the importance of our end-of-year wealth habits and routines to avoid any unexpected tax scares. This year posed many challenges to investors and small business owners, however, there were many winners that managed to expand during a time of economic contraction.  

Whether taxpayers earned more income or less, one thing will always remain the same, our  taxes will be our biggest burden. So let’s discuss some year-end strategies that can help us  position small based business owners and rental investors to pay less taxes in preparation for  this upcoming tax season.  

Before we go over strategies, let’s address the most overlooked habit and routine, our  bookkeeping! Please be sure your bookkeeping has been executed upon, and is in good standing before you discuss tax strategies with your CPA. In order to leverage tax strategies  before year end, you will need to have your up-to-date bookkeeping numbers in order to  make decisions in real time. Most tax providers provide bookkeeping services that will allow  for you to have a basic profit and loss statement and balance sheet to better help your  accountant determine your potential tax savings based on potential tax strategies. 

Now, for many rental real estate investors, certain strategies can be implemented all the way  until the tax return is filed on April 15th. However some strategies, such as establishing an entity structure, may require you to have implemented prior to December 31st.  

One strategy that can be leveraged all year long, and even past the tax year is the cost  segregation study. You may have heard of depreciation before, but were aware of the ability to  accelerate depreciation? A cost segregation is a tax strategy used by savvy real estate  investors to accelerate depreciation on a rental property to reduce tax upfront, to allow for  additional investing. Sounding good so far?  

Implementing a cost segregation study to accelerate depreciation on a rental property has the  ability to dramatically reduce a taxpayer’s taxable income, and may even reduce all of their tax  liability. Typically this strategy is most effective on residential rental real estate purchased  within the last 10 years, and for commercial real estate purchased within the last 15 years. This  powerful strategy is one of many ways investors can avoid the taxes associated with their  passive income even if they are late on doing their tax planning.  

Now, managing your real estate may not seem fun, but it could lead to a massive tax benefit.  If you are managing your real estate, you are a business owner. By speaking with a tax strategist,  it might make sense to hire yourself, or family members, such as children, as additional employees under your management business. This strategy is a crowd favorite, as many  taxpayers are looking for ways to leverage their investments while involving their children early.  Make sure to speak with your strategist on how to leverage this strategy under the correct  entity structure so you may avoid any additional tax that could arise from hiring your children.

And Last, but surely not least, is the charitable contributions. As a part of the Cares Act  initiative of 2020, eligible taxpayers in 2020 are able to deduct 100% of their charitable contributions on the individual tax returns for the year 2020. So, if you were planning to be  philanthropic this year, understand that the sky’s the limit on your charitable contributions for a deduction in 2020. This has been an unpredictable year to say the least, so be sure to consult  with your tax strategist on any potential changes as you lead up to filing your tax return.  

Good luck Tax Savers!  

Best, 

Karlton Dennis 

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BEC 2021 Goes Virtual During Pandemic

Well folks, we have to acknowledge that COVID-19 isn’t going anywhere…at least not anytime soon. As a result (and as you may have noticed), BEC 2021 will be held virtually, for the first time, due to COVID-19. And, while we are disappointed not to be together in person, we are excited to funnel all our efforts into a virtual networking experience like no other. Seriously. As soon as you sign up, you will start reaping the benefits.

What do I mean? We really had to think out of the box on this one. The big question was: How can we make a networking event successful in a virtual environment? The Best Ever Real Estate Conferences are great because they provide attendees with the opportunity to network with fellow investors and industry influencers from around the world. That is it’s greatest benefit and we know how critical that is to you and your business.

In order to offer all attendees the opportunity to share business strategies, meet high net-worth individuals, and learn something new, we came up with a solution, several in fact, that I think you will love.

We’ll have video conferencing and chat rooms dedicated to hundreds of different networking topics. If you want to meet like-minded folks from around the country, if you want to find a partner, deal, or money from the comfort of your home office, or if you just want some good old fashioned new conversations in a world devoid of connections, then this virtual event is a can’t miss.

Exclusive to this year’s virtual event, when you sign up you will be thoughtfully placed into a Mini Mastermind group with your fellow attendees of groups no bigger than 8 people. No other conference provides you the opportunity to connect so intimately and learn as thoughtfully from your fellow attendees this far in advance from the actual date of the event. We’re making the virtual networking easy for you this year. The Mini Mastermind groups start as soon as you sign up, so make it count and register now.

Additionally, in the months leading up the conference, we’re offering all of our ticket buyers free access to exclusive monthly webinars discussing topics such as the current political climate and how the incoming Biden administration‘s decisions on a range of issues could impact the commercial real estate market and industry directly.

So, while 2021 has presented us with challenges from uniting in person, we are going to continue building the essential dialogues and connections in the world of real estate. We are looking at this as an opportunity to expand our network to include those that normally would be unable to attend and offer exciting new elements made possible by the virtual environment.

To find out more about BEC2021, visit www.bec2021.com.

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Residential Lenders Tighten Their Lending Standards – Why This Is Good News for Multifamily Investors

A little more than a year before the onset of the coronavirus pandemic, I wrote a blog post entitled “Why I Am Confident Multifamily Will Thrive During and After the Next Economic Correction” (which you can read here).

The economy was experiencing a record long expansion and showed no signs of stopping. However, like most economic expansions, various economic and real estate experts were warning about an impending recession.

“The stock market is inflated” and “real estate prices and rents will not increase forever” they said. 

However, whether the economy continued chugging along or experienced a minor or massive correction, I was confident is multifamily real estate’s ability to continue to perform. 

My confidence was not emotionally driven or biased because I am a multifamily investor. It was based on my analysis of the facts. The most telling fact was the change in renter population

Historically, more people rent during recessions (which is one of the reasons why I was attracted to multifamily in the first place) and more people buy during economic expansions. The former held true for the 2008 recession as more people began to rent. However, during the post-2008 economic expansion, the portion of renters continued to increase (more US households were renting in 2016 than at any point in 50 years). 

Therefore, I predicted that the portion of renters would increase or, at minimum, remain the same during and after the next correction. 

Then, coronavirus hit and induced an economic correction (or a temporary slowdown, depending on who you ask).

But, sure enough, a study published on June 17th, 2020 projected a decline in homeownership and concluded that  “the demand for rental housing will increase somewhere between 33% and 49%” between 2020 and 2025.

In both my January 2019 article and the June 2020 study, one of the reasons why more people are renting is due to tightened lending standards (other reasons were student loan debt, inability to make a down payment, poor credit, and people starting families later).

A metric that is used to measure lending standards is the Mortgage Credit Availability Index (MCAI). The MCAI is based on a benchmark of 100 set in March of 2012 and is the only standardized quantitative index that solely focuses on mortgage credit. A decline in the MCAI indicates that lending standards are tightening while an increase in the index are indicative of loosening credit.

Between December 2012 and November 2019, the MCAI was steadily trending in the positive direction, increasing from the high-80s to the high-180s.

  

However, starting in December 2019, the MCAI began to decline. The three largest drops were in March 2020 (decline of 16.1% to 152.1), April 2020 (decline of 12.2% to 133.5), and August 2020 (decline of 4.7% to 120.9, the lowest since March 2014).

Joel Kan, Mortgage Bankers Association’s Associate Vice President of Economic and Industry Forecasting said in the August 2020 report, “credit continues to tighten because of uncertainty still looming around the health of the job market, even as other data on loan applications and home sales shows a sharp rebound. A further reduction in loan programs with low credit scores, high LTVs, and reduced documentation requirements also continued to drive the overall decline in credit availability.”

People will always need a place to live. Their only two options are to rent or to own. As indicated by the massive MCAI declines since the end of 2019, less and less people will be able to qualify for residential mortgages. The programs available to people with low credit or who cannot afford a high down payment have disappeared. 

Therefore, by default, more people will be forced to rent.

One last interesting thing to point out is how the MCAI during the current economic predicament compares to the 2008 recession. 

Here is an expanded MCAI graph that shows credit availability back to 2004. The pre-2011 data was generated biannually, making it less accurate than the post-2011 monthly generated data. However, the graph still highlights an important point. At least as it relates to the availability of credit at the time of this blog post, the current economic recession is nowhere near as severe as the 2008 recession.

To receive the monthly MCAI report, click here.

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What Happens When You Die After 1031 Exchanging Your Whole Life

Imagine this: you acquire your first real estate investment – a value-add duplex for $100,000. After $50,000 in renovations, the new value of the property is $200,000. One year after acquisition, you sell the property for $200,000 with a gain at sale of $50,000. Rather than pay capital gains tax on $50,000, you execute a 1031 exchange into a $200,000 value-add fourplex. 50 years and numerous 1031 exchanges later, you’ve worked your way up to a $20 million apartment complex. Then, you pass away and the $20 million apartment complex is inherited by your children.

Now the question is: will your children be required to pay a capital gains tax upon the sale of the $20 million apartment complex if they elect to not execute a 1031 exchange?

The majority of real estate investors know about the benefits of executing the 1031 exchange strategy. As long as the 1031 exchange requirements are met, you can defer capital gains tax upon the sale of a property. As a result, you have more capital to leverage to acquire more or larger properties.

However, one potential major long-term drawback of the 1031 exchange is the large, lump-sum tax payment at the sale of an exchanged property that isn’t 1031’ed into a new deal. One way to effectively eliminate the requirement to pay taxes on your deferred gains is to continue to 1031 until your death.

Suppose, like the “imagine this” story, that you implement the 1031 exchange strategy until you pass away and the property is inherited by your heir. If the property is a replacement property (i.e., a property acquired with a 1031 exchange) that is inherited from your estate, the replacement property will have a stepped-up basis equal to the property’s fair market value. As a result, the deferred gains are effectively eliminated.

Let’s say you sell your first investment for $200,000 with a $50,000 gain at sale. After a handful of 1031 exchanges, you own a property worth $2 million. If you were to pass away prior to selling the $2 million exchanged property and it is inherited by your heir, the basis is stepped-up to the fair market value, which is $2 million. If your heir decides to sell the property at the fair market value, rather than paying a capital gains tax on over $1.8 million, they won’t have to pay capital gains tax at all.

Therefore, the 1031 exchange strategy is a great legacy building tool. As long as you continue to implement the 1031 exchange strategy until your death, you are allowed to pass on all of your capital gains to your heirs tax-free!

Get organized for tax time with Stessa’s free Rental Property Tax Checklist. Make sure you have everything you need to maximize your deductions and file your return on time. Click here to download for free.

 

Are you a newbie or a seasoned investor who wants to take their real estate investing to the next level? The 10-Week Apartment Syndication Mastery Program is for you. Joe Fairless and Trevor McGregor are ready to pull back the curtain to show you how to get into the game of apartment syndication. Click here to learn how to get started today.

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Trump’s Tax Reform: Current vs. New Tax Law Chart

On Friday, December 22, 2017, tax reform legislation was signed into law by President Trump.

 

After the tax plan was signed, my business partner and I had a meeting with our CPA to discuss tax strategies for both the remainder of 2017 and for the upcoming year. They also provided us with the chart below, which summarizes the key provisions of the new law. I recommend meeting with your CPA to determine how the tax reform will impact your business and what tax strategies to implement to maximize your benefits.

 

2018 tax law

 

Credit: John Werlhof, CLA Roseville

 

Disclaimer: The information contained herein is general in nature and is not intended, and should not be construed, as legal, accounting, investment, or tax advice or opinion provided by CliftonLarsonAllen LLP (CliftonLarsonAllen) to the reader. For more information, visit CLAconnect.com.

 

How do you think real estate entrepreneurs will be impacted by the new tax reform?

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If you have any comments or questions, leave a comment below.

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Four Strategies to Reduce Your Largest Business Expense – TAXES

 

As real estate entrepreneurs, do you know what is our biggest expense? It’s not resident related expenses. It’s not interest on our mortgage. It’s TAXES.

 

We can strategize to decrease other expenses all we want, but if we really want to make the biggest dent in our costs, we must start focusing on minimizing our taxes.

 

Diane Gardner, a certified tax coach, launched a business with the specific focus of providing tax advice and offering tax planning for real estate investors of all sizes and experience levels. In our recent conversation, she provided four legal ways to reduce our tax bill.

 

Related: How to Save Thousands of Dollars on Your Taxes Via Cost Segregation

 

#1 – Right entity type

 

The first thing you need to do to decrease your tax bill is make sure you are in the right entity type. Many investors, especially beginners, will hold property in their personal names. Not only does this open you up to potential liability issues down the road, but it also opens you up to paying unnecessary taxes.

 

Diane said, “by being able to move [properties] over possibly into a different type of entity, whether it be an LLC, an S Corp, a C Corp, or something along those line, they were able to do some tax planning with that, because we have more to work with at that point.” For example, she said, “we can look into setting up a management company and hiring maybe a spouse to work in that company, and then being able to write off potentially 100% of all your out-of-pocket medical costs.”

 

By being in the right entity, there are a lot of nice tax strategies that will decrease your tax bill, which you wouldn’t have been able to take advantage of by keeping the properties in your personal name.

 

#2 – Automobile deductions

 

Another basic tax deduction are automobile related expenses, which Diane said are often overlooked. “Make sure that they’re taking advantage of all their auto deductions, whether they’re taking standard mileage or they’re actually tracking actual costs.”

 

#3 – Meals and entertainment

 

A third, and also often overlooked tax deduction are meals and entertainment. “How many times are they meeting with potential investors, potential seller, buyers, whatever it might be? Make sure that they’re taking full advantage of that write-off as well.”

 

This includes meals when interviewing potential team members, meeting with passive investors, hosting an annual real estate conference or monthly meetup group, etc. Just make sure you have a conversation with your CPA to determine what is considered meals and entertainment.

 

These first three strategies – right entity type, automobile deductions, and meals and entertainment –  are simple and should be implemented immediately to decrease your tax bill this year.

 

#4 – Hiring family, both children, spouses, AND parents

 

A more complicated, but lucrative tax strategy is hiring family members to work in your business. You may know that you can hire your children to work in your business, but did you know you can hire your parents as well? Diane’s mom has been working in her business for years. It helps lessen her tax burden, but secondarily, it benefits her mother by providing her with extra income while her “dignity remains intact because now [she’s] feeling worthwhile and important again.”

 

Diane said, my mom “needs just that extra little bit each month to make ends meet, so I have hired her to work in my business. She fills out a time sheet, just like all my other staff do. She gets paid an hourly rate. We have her do various things around the office, and in the end, I would be helping her whether it came out of my personal pocket or it came out of my business pocket. But by hiring her to work in my business, I’m able to write off that many, versus I just cut her a check out of my personal account. That’s not a write-off for me.”

 

This strategy is slightly more complicated than the previous three because there is a little more effort and work required. Diane said, “you do want to have a job description and you want to have and keep a time sheet. And you actually have to set them up on payroll. You can’t just give them money and then at the end of the year to do a journal entry and drop this into my books so I can take it off my taxes. You actually have to pay them payroll and withhold the appropriate taxes, and just really make the point that they are a bonified employee, and that you are paying them a reasonable salary or a reasonable hourly wage.”

 

Related: Three Tax Strategies You Didn’t Know About to Save You Thousands

 

Conclusion

 

Taxes are our single greatest expense as real estate entrepreneurs. To decrease your tax bill for this year, implement the following four strategies:

 

  • Make sure you are in the right entity type
  • Take advantage of all automobile related deductions
  • Start logging and writing-off meals and entertainment
  • Hire family members

 

For more Best Ever Blog posts on taxes, click here.

 

Subscribe to my weekly newsletter for even more Best Ever advice www.BestEverNewsletter.com

 

 

 

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Three Tax Strategies You Didn’t Know About to Save You Thousands

 

When was the last time your accountant brought you an idea that saved you thousands of dollars in taxes?

 

That was the question that pushed Travis Jennings, who has educated the wealthy on better techniques to improve their finances, investments, and taxes for over a decade, to launch an automated online platform to share the solutions of the top 1 percent with beginner investors. In our recent conversation, he provided three techniques to save thousands of dollars on this year’s taxes.

 

Technique #1 – Rent your house to your business

 

If you create a LLC, then by definition, you are a business owner. As a business owner, there are many different ways to decrease your tax bill. One well known example is deducting the square footage of your home office. However, what most investors don’t know is that they can rent their entire house for business events.

 

Travis said, “let’s say that I threw a pool party and I invited a friend of mine that was potentially going to become a client. Well, as long as we discuss business and we take notes, I get to rent my home to my business for that day.”

 

To determine how much in rent you can deduct, go to a site like Zillow.com, look up your homes estimated monthly rent, divide by 30, and that is how much you can write off for each event. For example, let’s say Zillow says your home could potentially be rented for $3,000 a month. That’s $100 per day. If you host a business event once a month, that’s a $1200 savings.

 

Travis said, “there’s some structure to that. You want to take notes. You want to have [meeting] minutes. You kind of want to briefly write down what you discussed that was business, and just in case one day you ever get audited, you’ll have some proof as to what you did.”

 

I host a monthly poker event with some friends and investors, so I plan on implementing this strategy immediately, and you should too!

 

Technique #2 – Hire your kids

 

Do you have kids? Put them to work and realize even more tax savings. Travis has three kids, and he puts all three to work at his home office. Once your kids turn seven, which is the age of Travis’s youngest, you can hire them.

 

Travis said, “you may have heard of this, but I’m going to give you a twist that’s even more fun. So what if we hired our kids at the 0% tax rate? What if we paid them $6,300 a year? Well, then effectively what we would be doing is shifting dollars off of my tax return and putting it onto their tax return. And if we’re paying them just enough to be in the 0% tax rate, if I’m in the 40% tax rate, I’ve just saved 40%. So on 3 kids at $6,300 a piece, I’ve just saved myself about $8,000 in taxes.”

 

Technique #3 – See if you have the right CPA

 

The biggest mistake a typical real estate investor makes from a tax standpoint is never upgrading accountants. “I would say that most investors – real estate included – don’t start off with the ten million dollar projects,” Travis said. “They build up to it. So then the accounting professional or your tax advisor is typically the advisor that you had in the beginning. I would say that most people don’t grow or they don’t reevaluate their trusted advisors enough. They just roll with what they’re comfortable with.”

 

The CPA that specializes in new development and a standard CPA, for example, have two completely different skill sets. If you have the wrong CPA for your niche, you could be missing out on huge tax savings.

 

A great way to determine if your CPA is the right fit, and if they are capable of getting you the most tax savings, Travis said to ask them “Can you tell me about one of the solutions in the last month or so that you implemented with a different client to save them a bunch of money in taxes?” He said, “if they stutter, if they seem unsure how to answer it, then they’re probably not doing a lot of proactive tax planning.”

 

Related: How to Save Thousands of Dollars on Your Taxes Via Cost Segregation

 

 

Which of these three tax strategies will you implement? Leave you answer in the comments below.

 

Did you like this blog post? If so, please feel free to share it using the social media buttons on this page.

 

Also, subscribe to my weekly newsletter for even more Best Ever advice: http://eepurl.com/01dAD

 

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How to Save Thousand of Dollars on Your Taxes Via Cost Segregation

 

In my conversation with tax expert Jeff Hobbs, he explained a little known and little understood method that is virtually guaranteed to put money in your pocket. The method is called cost segregation, and Jeff explains what it actually is and why every investor should look into the benefits.

 

What is Cost Segregation?

 

Cost segregation is the identification of building components and reclassifying the tax life on each of those components. In a cost segregation study, a building is literally broken down into all of its individual components – all the wood, studs, screws, nuts, bolts, cubic yards of concrete, square yards of carpeting, gallons of paint, etc.

 

Most commercial properties establish a 39-year depreciation schedule, and most residential properties establish a 26.5-year depreciation schedule. However, the IRS assigns a tax-life to each of the individual components. Most components that qualify for accelerated treatments can have their tax life reclassified to either 5, 7, or 15 years:

 

  • 5-year tax-life components: tangible, personal property assets (carpeting, secondary lighting, process related systems, cabinetry, ceiling fans, etc.)
  • 7-year tax-life components: all telecommunication related systems (cabling, telephone, etc.)
  • 15-year tax-life components: land improvements (parking lots, sidewalk, curbs, landscaping, site features like a flag pole or a pond, etc.)

 

Why Would An Investor Use Cost Segregation?

 

Jeff says that the best reason to apply cost segregation is because it puts money in your pocket. For example a typical $1 million asset is going to provide the owner between $50,000 and $150,000 in federal income tax savings. If the study resulted in $80,000 in tax savings and the investor owed the IRS $80,000 in federal income tax, then that just paid 100% of the tax debt!

 

When Jeff engages with a client, he provides a guarantee! For properties that are sub-$500,000, he guarantees a 300% ROI (return based on cost of services). For properties that are over $500,000, he guarantees a 500% ROI. His average client ROI is 1200%. With the typical $1 million building, the $80,000 tax benefit from the example above would cost between $4000 and $7000, depending on asset size, complexity of asset, where it is located, and the documents that the client has available.

 

Are Cost Segregations Always Beneficial?

 

There are only two occasions where a cost segregation study isn’t beneficial. (1) If you are a non-profit organization or (2) you aren’t profitable. In base occasions, you aren’t paying taxes, so getting a tax savings isn’t going to do anything for you.

 

 

Everyone wants to save as much as they can on their income taxes. Therefore, at the very least, it pays to look at what the benefits of cost segregation can do for you. A quick Google search of “cost segregation service in (city)” is the best place to start!

 

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