Tax-Savvy Strategies: Maximizing Profits and Minimizing Taxes When Selling Investment Properties

When you sell your investment property, the IRS will look for a payment.

But, they give you many tools to legally delay, minimize, and sometimes avoid, taxes.

As your portfolio grows, you will find more elaborate tools. Here is a quick recap.

Full disclosure: I am not an accountant, attorney, tax advisor, or 1031 exchange administrator. Please discuss these topics will an expert for updated rules and details.

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For small properties such as single-family homes and small multi-families, you will likely take advance of capital gains taxes.

There are two tax rates: Short-term for assets held less than 1 year, and long-term for assets held longer than a year.

These rates change.

Typically, short-term rates are much higher than long-term rates. So, holding your property longer will lower your tax bill.

However, sometimes, the short-term and long-term rates are the same.

Flips get hit with the higher tax rates, followed by rentals.

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But, you can delay taxes, except for flips.

1031 exchanges allow you to defer your taxes (not avoid them.)

However, the cost of setting up a 1031 exchange does not make sense for small properties. The cost of the exchange is often more than the tax savings.

On large properties, 1031 exchanges make sense.

In short, how it works is that you find target properties to purchase. You sell your current property and roll the profits into the new property without paying tax on the profit.

The basis of the new property is increased to reflect the deferred taxes.

There are two ways to do an exchange.

One, sell your property first, then find replacement properties.

The second, less common way, is called a reverse 1031 exchange. With this, you buy a target property first. Then, you sell your existing properties.

The big advantage to the reverse exchange is that you can jump on a deal when it arrives. However, you will have to have the funds, or access to the funds, to buy the property before selling your existing properties.

With 1031 exchanges, you must use a qualified administrator and you must start the exchange before selling your property (or buying a new property for a reverse exchange).

Once you sell your property, or buy a replacement property, it’s too late to set up an exchange.

There are lots of rules and timelines associated with exchanges. Talk with your administrator. I could write an entire article just on exchange rules, but I’ll leave that article to the experts to write. LOL

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You can delay paying these taxes indefinitely.

There are a few exit strategies.

One, at retirement, sell your property and pay all of the deferred taxes.

Two, donate the property to a charity – pay no taxes.

Three, leave the property to your children in your will. You pay no taxes. The results for your children can vary.

At the time of this writing, if your children inherit the property, the basis will step up to current fair market value. That means they do not have to pay the deferred capital gains taxes. They still have to pay estate taxes, though.

There are plans to eliminate this stepped-up basis for inherited property. That could mean a huge tax bill.

There are other methods to minimize the taxes, such as gradual gifting of assets. Your experts can give other ideas.

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Since most of us don’t know when we will die, we have to plan our estates based on current tax laws and update our plans as the laws change.

Be sure to work with a good accountant or tax attorney who is experienced and up-to-date with these laws. Creativity is a bonus. LOL

Happy Investing!