Wow… that is a lot of topics.  There was a lot of good fodder in the Democratic debate from Philadelpia last night.  There was a lot of talk about Iraq, the Military and the Bush Cabinet’s fiscal policies.

The really interesting part that relate to the world of real estate when the Charlie Gibson questioned Barack Obama about his stance regarding raising Capital Gains Taxes.  Charlie Gibson made the point that in the 1990’s Capital Gains Taxes were lowered to 20% and Federal Tax Revenue went UP, not down! 

The first Clinton Administration lowered Capital Gains to 20% and saw a large hike in tax revenues thanks to it.  The Bush Administration chose to further lower Capital Gains Taxes to 15%…. but Senator Obama has stated that he wants to RAISE Capital Gains to 28%!

Charlie Gibson’s point was Economics 101… the "Freeloader Syndrome".  If you choose to raise a tax for people that have money (investors) then those same investors will learn how to legally avoid paying those taxes. 

Definition of Capital Gains:

Capital Gains Taxes are paid on investment income after you divest from the investment vehicle. 
When you sell an investment for more than you paid, those are Gains in Capital.

Now… how does that relate to the Mortgage and Real Estate Industries? 

Well… if you really get speculative with me, you’ll see some round-about logic that may work… try this on:

If Investors are posed with the dilemma that their gains will be diminished by a future tax hike, they are likely to look for an investment that will not have the same tax problems, right?

What investment does not have that problem??

Real Estate!

Real Estate is one investment that can help an investor shelter his/her money from Capital Gains.

Here is some proof – and for heaven’s sake call your CPA and Tax Attorney to verify all these!:

1) Tax Deferral

On your primary residence, the IRS allows you to DEFER CAPITAL GAINS TAXES when you sell and move to a new primary residence.  The rule states that so long as you live in the property for 2 years it qualifies.  It actually can qualify if you live in a property for 2 years out of five years of ownership.  A single person can defer up to $250,000 and a couple can defer up to $500,000

So if you buy a property and live in it for two years, then rent it out and sell it prior to the end of the fifth year, you could still qualify for the Tax Deferral!

2) Tax Credit

Some Properties get Tax Credits attached to them.  They could be for revitalization of an area or simply for affordable housing.  Those gains may be capital gains free if they are structured properly.

One example of this is the Go-Zone.  This is the name the Federal Government has given the areas that were devastated by Hurricane Katrina.  There are special tax incentives available for anyone looking to help rebuild this area!

3) Tax Shelters

Some investors hold properties at a LOSS to offset certain gains in their real estate portfolio!

4) 1031 Exchanges

If your property qualifies, you can sell it and buy another with the proceeds and then you would not owe taxes on the Capital Gains!!  Consult a 1031 Intermediary as you cannot touch the funds, you need a disinterested third party involved… plus your accountant and Tax Attorney!

For an investor that owns a small apartment building and wants to sell it and buy a large apartment building, this would allow that investor to defer the payment of Capital Gains until the time at which they sell the last property in the chain!

5) Cost Segregation

This is a highly complicated tool… but essentially this is an IRS regulation that allows property owners to accelerate the depreciation schedules on their properties to increase cash flows and lower tax burdens on income producing properties.

Huh?  Simply put… when you own a real estate investment, it appreciates in market value but the structure depreciates at the same time.  Depreciation schedules are used by your CPA to determine how much of a deduction you get on your taxable income thanks to you being a real estate investor.  The thing is… when a property depreciates, that is technically measuring how fast it will wear out!  But parts of a building will wear out faster than others, right??

So Cost Segregation takes the building apart on paper and lets "assets" (particular parts of the building structure) depreciate at their natural rate as opposed to depreciating on an arbitrary straight line number annually.  Doing so allows the roof which may last 10 years depreciate over 10 years, not more!  The Asphalt which needs re-striping and re-paving doesn’t last forever either… neither does the A/C or much of the rest of the building.

So Cost Segregation lowers the annual taxes…but it can INCREASE capital gains by lowering the cost basis of the building over time!  So that brings us back to #4 which you would almost always use if you are a Cost Segregator!

6) Tax Free IRA Investing

Believe it or not you can invest your IRA funds in Real Estate!  By converting your ROTH IRA (tax free) to Self Directed, you can use those funds to purchase Real Estate related investments.  A Self Directed IRA company would be the right person to ask about this one for specifics.

Basically, if you use the IRA funds to buy a property, when you sell it the gains go back into your IRA and if the money is already Tax Free, then so are the gains!

So you see… regardless of what Capital Gains taxes are, Real Estate Investing offers a lot of methods for deferring taxes so that you can continue to grow wealth and not have to be hit with huge tax bills every time.

This is by no means an endorsement of a candidate… I can’t say I like any of them that much!!

Personally, I think that raising Capital Gains will help bring some investors back to Real Estate…but also hurt a lot of investors that are buying and selling other vehicles.  It can also hurt those retirees with stock porfolios, mutual funds, 401Ks, and Traditional IRAs who will end up paying more taxes in their retirement years!!

Capital Gains Tax is not really a great method for erasing the National Multi-Trillion dollar debt… people that invest are savvy enough to avoid those taxes or pay people that help them.  So beleaguering this point is just fruitless for Senator Obama. 

And truthfully, it just hurts smaller investors MORE and those are the ones that need the money the most.

More Florida Mortgage and Real Estate News you can use from
David A. Podgursky, MBA
The Mortgage Go To Guy!!
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