Benefits of Real Estate Investing as a Tax Strategy
Investing in real estate as a tax strategy offers many benefits, including:
Investment Growth
One of the biggest benefits of investing in real estate is the investment growth potential. Real estate assets have the potential to return significant profits on your initial investment, especially if they’re given time to appreciate. Whether you decide to flip, rent to a long-term tenant, or create a vacation rental, you’ll also build equity in your asset. The longer you hold on to an asset, the more equity you’ll build.
Most home values also appreciate or increase over time. Holding a property for a few years in the right market can lead to the property being worth significantly more than when you originally purchased it.
Tax Deductions
Buying, selling, or managing real estate assets comes with many costs, but the good thing is you can write off many of these costs on your yearly taxes. Real estate assets offer investors a long list of deductions, including mortgage interest, property taxes, maintenance and repairs, and depreciation. A write-off decreases your taxable income, which could reduce how much you owe in taxes.
Certain real estate tax deduction strategies can also provide you with access to more deductions. A few of these include structuring assets in a self-directed IRA, holding properties for a minimum of two years, taking advantage of pass-through deductions, and deferring taxes with a 1031 exchange.
Diversification
The many investment strategies available in real estate investing make it possible to diversify your portfolio. Diversification is a common strategy investors can use to limit losses in other investment categories. Investing in multiple markets and property types allows you to take advantage of different tax benefits while also offsetting the risk of declining markets.
Investment Strategies
You have a few options available when it comes to investing in real estate, including:
Flipping
Flipping refers to buying a house that needs repairs, making those improvements, and then selling it as move-in ready for a higher price. Investors who engage in real estate flipping tend to hold on to the property for a short time. Flipping can be a great way to profit quickly, depending on the necessary repairs and the investor’s ability to manage them.
Fixing and Renting
Some investors prefer a longer-term approach to investing in real estate. Buying a fixer-upper and then renting it to a single family on a long-term basis provides you with passive monthly income. You might even consider investing in multifamily properties, allowing you to earn even more monthly.
This option also allows you to build equity, which is the difference you owe on your mortgage compared to the home’s value. Long-term real estate assets also tend to qualify for more deductions because you’re responsible for keeping up with maintenance, taxes, and other costs while holding the property. Rental properties also depreciate over time, meaning you have access to even more deductions.
Vacation Rental Property
A vacation rental property is similar to a rental, except it’s usually located in a tourist area. Instead of renting to a single family for a long period, many renters will book the property throughout the year while on vacation. Vacation property owners might have higher operating costs but can usually charge more per visit.
Lease-to-Own Property
A lease-to-own property is a good balance between flipping and renting. Flipping and then selling a property within a short period usually comes with high tax implications. Tax liabilities on long-term rentals tend to be less, but they might require the investor to be more active in the daily operations of the investment.
Flipping and then selling on a lease contract is a good balance that splits your profits over a longer period, helping you control taxes.