Here are the top 10 things to know to optimize your investment real estate portfolio
As we start off the New Year, this is a great time to provide a list of things to consider that might help your real estate investments be more profitable and your life less stressful.
#1 - Set Up a Trust
The main advantages of setting up a Trust is to avoid probate and keep your estate private. What is probate? Probate is a court supervised legal process that includes determining the validity of your will, gathering your assets, paying your debts (and taxes) and distributing the remaining assets to your heirs. Probate is part of the public record and probate fees are set by law (and are not cheap). Spending a bit of time now setting up a Trust will certainly pay dividends later. Some people mistakenly think that setting up a trust will help eliminate taxes. It will not (although there are some tax benefits to a Charitable Remainder Trust).
#2 - Adding Family to Title
Don’t add your son/daughter/niece/nephew/etc. to the title of your property unless absolutely necessary. Adding someone to title may be as simple as filing a quit claim deed, but it may have unintended tax consequences. When you add a person to title, the IRS views that as a gift. If a son is now a 50% owner of a $1MM property, he just received a $500K gift. The gift giver (you, the owner) may now be responsible for a gift tax. A more cost-effective solution may be to simply set up a Trust and name the son as the beneficiary of the Trust. Once you pass away, the son will receive the property (and at a step up in your cost basis – more of which is discussed below).
#3 - Don’t Ever Sell
‘Buy and hold’ can be a good strategy for building wealth and also keeping it. Real estate investors who own property until they die will pass the property to their heirs at a "stepped up cost basis". Under Section 1014(a) of the IRC, an heir’s basis in a property will equal the fair market value of the property at the time the descendant dies, which can effectively eliminate all capital gains and depreciation recapture taxes saving the heirs a capital gain income tax bill.
#4 - Defer, Defer, Die
Conducting a 1031 Exchange will allow for the deferral of capital gains taxes. Doing another 1031 Exchange will allow for tax deferment again. An investor who cashes out, after doing a series of 1031 Exchanges, will pay taxes on all past transactions. Smart investors, however, take advantage of the step up in basis discussed early and defer, defer and then die. Having never cashed out of real estate all capital gains taxes will be eliminate for the heirs.
#5 - Utilize Equity Lines Strategically
In many instances, accessing an equity line may be a smarter decision for raising cash than selling real estate. Cash from an equity line is non-taxable whereas the sale of real estate may trigger capital gains taxes. Obviously, the investor needs to be cautious of the extra debt burden on the property, but access to tax free cash via an equity line may be a very smart move.
#6 - Make Strategic Acquisitions
The next 1031 Exchange replacement property you acquire may have a pool, an ocean view and a large yard where the grandkids can play. Those amenities may be nice for your tenants, but even better for you after you boot the tenants out and move in. Acquiring a future primary residence via a 1031 Exchange is not illegal, but needs to be done with caution. It is possible however and making a strategic acquisition of that sort can be a nice way to purchase your dream home.
#7 - Make Strategic Moves
Moving into a rental property, converting it into a primary residence and then selling it will allow you to reap the benefits of the Homeowner’s exemption. If you are married up to $500K of gain will be tax free. Time of residence and ownership rules may apply, but the strategy has been used effectively by our clients throughout the years.
#8 - Diversify
Wall Street has been advocating the benefits of diversification for decades. A diversified portfolio allows you to reduce the volatility of your portfolio and either increase return for a given risk or decrease risk for a given return. Often it isn’t prudent to have all of your eggs in one basket. With real estate you can diversify either by geography, by asset class or both. It may be time to start thinking like Wall Street.
#9 - Enjoy Your Investments
Your investments should work for you. If, at some point, they become too burdensome on your life, it may be time to rethink your strategy. This doesn’t necessarily mean cashing in all of your chips (and paying taxes) but it may mean transitioning out of difficult to manage properties and into easier to manage ones.
#10 - Build a Solid Team
Building a solid team is going to pay dividends over the long term. We have over 38 years of real estate expertise and resources for 1031 tax deferred exchange intermediaries. We would love to be part of your team.
If you'd like to discuss a 1031 Exchange please feel free to contact us…
Pete Sabine - call or Text 925.787.2548.
Leslie Whitney – call or text 510.388.5794
Compass. DRE 300889760; 01950037