You have had a nice portfolio of rental properties for many years which has given you a nice stream of income with the many tax advantages of owning investment real estate. These properties may have aided you in realizing your dream of retirement from your job, but now the properties themselves feel more like the job that you were trying to retire from. The properties may no longer be contributing to your long term goals, but actually be a detriment to some of those goals such as traveling or spending more time with the grandchildren. Now what? You have had these properties for many years, and you know there will be significant gains when you sell. Do you even want to sell or do you want to hold the properties so that your heirs enjoy the step up in cost basis when you pass away? Is there a way to sell, but reduce taxes, or defer taxes?
There are actually many options to consider for exiting your real estate investments, and all the options have their own unique set of pros and cons. A few of the common options include:
We recently were presented with a situation which include one single property with a very large capital gain and an equally large amount of depreciation. We are in the process of exploring a different variation of an installment sale which involves transferring ownership of the property to an irrevocable trust prior to selling the property outright. The trust can then sell the property, invest the funds, and then distribute the remaining funds over a set period of time. By utilizing this strategy, the depreciation recapture still must be realized in the year of sale, but the capital gains can be spread over a number of years.
What is the main advantage? If all capital gains would be realized in year one, the capital gains in this particular case would be taxed at the maximum rate of 20% plus an additional tax of 3.8% which is triggered when gains exceed a certain level. By spreading out the capital gains, we may be able to keep the client’s income low enough so that the capital gains are taxed at the lower 15% rate, or even the 0% rate. Sound complicated? Yes it is, but given the right set of circumstances, this method can be very advantageous and can lead to you keeping more of the sale proceeds.
Are you in a similar situation or does this sound like someone you know? Real estate exit strategies are complex and require a diverse set of knowledge and resources in order to evaluate all options and make the best decision. If you or your friends would like assistance, please feel free to share our information or reach out to us and we can make the initial contact.
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