As the new year is quickly approaching, many people have begun to set new goals and make New Year's resolutions, including real estate investors. Many investors have set a huge goal to ring in the new year with increased profits and more cash in the bank. One way to make this resolution become more than a holiday wish is to develop a tax savings strategy. Thankfully, there are many sections of the tax code that favor real estate investors, thereby increasing overall profits. Let's take a look at four tax tips that you don't want to miss out on in 2022.
1. Deduct your expenses
One of the greatest tax benefits investors take advantage of during the tax year is the deduction for expenses. As a real estate investor, whether you invest in commercial or residential real estate, you can enjoy the benefit of claiming a tax deduction for any ordinary and necessary expense associated with maintaining your investment property. Expenses deemed ordinary and necessary include but are not limited to the following:
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Property taxes
Investors can currently deduct up to $10,000 for property taxes paid at the state and local level on their federal income tax. While this is the present rule, the tax world is eagerly awaiting a proposed tax change to take effect that will increase the cap on this deduction. The Biden administration has proposed to raise the limit on the state and local tax (SALT) deduction to $80,000. This proposed change is set to be in effect from 2021 through 2030.
Mortgage insurance premiums
In addition to property taxes, the tax code also allows real estate investors to deduct insurance premiums paid. According to the IRS, a deduction is allowed for mortgage insurance premiums paid in the year the premium is both paid and accrued.
Property management fees
As previously mentioned, investors can claim a deduction for any expense that is ordinary and necessary, which includes property management fees. So if you hired a property management company, any fees incurred can be deducted on your tax return.
Cost to maintain and repair the building
Not only can you deduct property management fees, you can also deduct fees incurred to maintain and repair your property. However, if you are thinking of claiming a deduction for a repair or an improvement, be sure to consult with a tax professional first. A repair can be confused with an improvement, and they have two entirely different tax treatments.
Travel expense
A little-known expense that real estate investors can take advantage of is travel expenses. You can deduct from the travel expenses associated with collecting rental income, managing, conserving, or maintaining the property.
2. Claim depreciation
In addition to claiming a tax deduction for expenses, real estate investors can also take advantage of one of the gems of the tax world: depreciation. Depreciation allows investors to recover the cost of their tangible property over its useful life. For residential property, the cost is depreciated over 27.5 years, and for commercial properties, it's depreciated over 39 years.
In addition to claiming depreciation on the property, investors can also have a cost segregation analysis completed to claim depreciation. If an investor chooses to utilize this strategy, depreciation can be claimed on land improvements and the internal contents of the building over a period of five, seven, or 15 years.
If you plan to use this strategy, working with a tax professional is highly advisable.
3. Defer taxation on capital gains
In addition to depreciation, one of the other major luxuries of owning an investment property is being able to defer taxation on capital gains. Investors can do this by completing a section 1031 like-kind exchange, utilizing a Delaware Statutory Trust, or completing a 721 exchange.
Each type of exchange has specific IRS rules that must be closely followed, so working with a qualified advisor is a must when it comes to deferring capital gains.
4. Practice good recordkeeping
Lastly, when it comes to the world of tax benefits and deductions, accurate recordkeeping is a must. The IRS typically requires business owners to keep records for four years. So if you take advantage of any of these strategies, be sure to keep good records.
