Real Estate Tax Benefits | Passive Investor

by Christopher Levarek

“One day, you will wake up and there won’t be any more time to do the things you’ve always wanted. Do it now.”

- Paulo Coelho

If I asked the average person what they look for most in an investment, I’ll bet they would answer a high return. I mean this makes sense right? Don’t people look for a good “return on investment”?

Funny enough, after speaking with 100’s of investors over the years, I have come to conclude that it is not the return that is most important to many high net worth investors. Often it is the tax savings or real estate tax benefits that are the number one reason for investing.

So it depends on the investor like every other decision with investing however, I can honestly say I’ve had more talks about the tax benefits of real estate then the return offered.

Real estate is unique in the investment space as it offers people a way to defer taxes due indefinitely. Yes, this is correct, indefinitely, and no this is not illegal. Far from it in fact, it is even encouraged through tax code by the IRS for many reasons, many which help our economy and society in general.

Yet, today, I bring sad news. 2022 is actually going to be the last year to achieve these amazing tax benefits. Let’s look at why…

A Return to the Start - The 2017 Tax Cuts and Jobs Act

In late 2017, the TCJA was passed during the Obama Administration. This piece of legislation passed into law some very favorable tax benefits for real estate investors. In brief, it allowed an investor to take all the possible property depreciation on a property and accelerate it to be used in the 1st year of ownership.

Property depreciation is simply a number on paper that is expressing the degradation of the property over time. Being able to accelerate all that depreciation in one year meant a significant paper loss. You could almost hear all the investors pop those champagne bottles eagerly thinking of the possibilities.

Imagine say, a $500,000 paper loss on a $1,000,000 real estate property taken in just one year, instead of annually over the traditional 39 years for commercial or 29.5 years for residential? Amazing! These losses could be used to offset other taxable income or gains made in the same year!

Yet there was a catch! The TCJA was set to phase out starting after five years in place. The clock began ticking and investors went to work spurring our economy into growth and expansion the likes which had not been seen up to that point.

2022 - The Game is Up

As you might have guessed, 2022 is year 5 so the TCJA or the real estate tax benefits are ending. This means the large paper losses from real estate acquisitions will be no more. Well, that’s not entirely true.

In fact, this bonus depreciation is being phased out in steps. So 2022 is the final year to take 100% of the paper losses in one year however, every year thereafter shaves off 20%. So in 2023 for example, an investor would only be able to use 80% of the losses and in 2024, only 60% of the depreciation. This continues for every year until 2027 where 0% is available to be used.

What happens to the remainder of the losses if 100% is no longer able to be used? Well, it gets depreciated back to traditional method or what’s known as the MACRS method. Again this is where depreciation is over a set period of years, so investors are only able to use a fraction of the losses each year.

So if you only get 80% used in 2023, then 20% would be spread over the remaining years of ownership using the MACRS method. If you get 60% in 2024, 40% would then be spread over the remaining years and so forth.

Now, if this all sounds like too much, understand that depreciation is simply a number on paper that allows investors to lower their tax liability or taxes due for the year. Having a bigger number or losses from 100% depreciation in one year is obviously better than having a smaller amount if you are looking for tax savings.

So is the LAST CHANCE for Real Estate Tax Benefits?

Yes. Yes it is, or at least to use the full 100% bonus depreciation tax benefits. The advantages of this piece of tax legislation will become less and less advantageous for the real estate investor starting next year. (Check out this 2 min video from our CPA team on this change.)

Here’s the bottom line. If you are a real estate investor looking for passive losses, 2022 is the best year to make that investment or pull the trigger on a real estate acquisition.

Waiting due to market conditions and trying to time the market might seem enticing, but for the purposes mentioned above, it is not as advantageous from a tax savings perspective.

I recommend looking at passive investment options that are using cost segregation studies to take advantage of the final year of 100% bonus depreciation. Typically these are large commercial acquisitions which have millions in passive losses passed off to passive investors.

If this is something you might be interested in hearing more about, join our Valkere Investor Club and a member of our team will let you know what we have in the pipeline with 100% bonus depreciation.

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