Top Real Estate CPA Explains The Power Of Seller Financing And The 1031 Exchange

Feb 26, 2021

The 1031 exchange has been a buzzword lately and John explains how this tax-deferment can be significant in building your empire first, before paying it to Uncle Sam.

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– So here with me today is CPA John Hartung, to answer your questions in regards to seller financing, 1031’s or any other real estate tax questions that you submitted.

And the first question we have is obviously what are the tax advantages that a seller could achieve when selling in an installment sale versus selling for all cash?

– Primarily it’s tax savings and offering some tax planning strategies as well.

So how does depreciation recapture work when selling? And if we’re dealing with an installment sale, how does that depreciation recapture work in that instance?

– Now section 1250 refers to the property itself, the building, it gets up to the capital gain rate, but it’s recaptured at ordinary rates up to 25% and then it stops. And if we’re talking about section 1245 property, that’s generally personal property. That is recaptured in full in the year of the sale.

If we take, depreciation is taken on investment properties, if it’s added to the cost basis, and how is this calculated?

– Basically what that does is, it reduces your basis thus creating that gap between whatever your sale price may be down the road and the basis to that you now have in order to figure out your gain.

So what documents will we need to show about the price that we purchased the property for and how much depreciation was claimed along the time of ownership?

– I would hang onto the settlement statement for the purchase. I would also probably keep a digital copy.

Speaking of that. So the follow-up question to that was, do we need to save all the year’s tax returns to show this? And I believe you already answered that.

– I usually recommend that you save about seven years of tax returns.

When does a 1031 exchange make sense? And what are the disadvantages to it?

– It makes sense if you’re looking to build a real estate portfolio in a relatively inexpensive way. And you start with one property and you can exchange that one property for up to three more. The disadvantages are, there’s a lot of rules to follow, a lot of hoops to jump through, but they’re definitely worth it, when you start adding on zeros to your transactions and they making real money, there’s definitely worth the trouble.

So I’m clear, a 1031 exchange is really a tax deferral. So if I keep exchanging property, A B C and D, when I finally sell D, that’s when I’ve gotta pay all my taxes. And in the future, it could be at a higher tax rate perhaps than what I am now, is that correct or?

– That’s a possibility. Eventually, unless you pass away with all of these exchanges under your belt, and you still have the property, but you pass away, eventually, you’re going to have to pay the tax bill, if you sell the property, you know, the final properties that you own. So yes, it’s definitely a tax deferral.

Is there a better tax-saving alternative to a 1031, when, you know, it’s time to upgrade to the larger investment property?

– There’s really not a much better one than a 1031 exchange. And you can also look into things like self-directed IRAs where you can manage real estate within those and then all your gains and stuff like that or a majority of your games are gonna be tax-free.

In your career, where do you see clients making their most costly mistakes or items not deducted when it comes time to do your taxes for real estate investing?

– I think the biggest mistake is people operate out of fear. They don’t wanna get that notice in the mail that says you know, they return addresses, the internal revenue service. And so they play it safe. They play it real conservative ’cause they just don’t wanna rock the boat but the laws are there and the rules are there. And if you could substantiate your position, you’re entitled to it.

So don’t be afraid.

Don’t let them intimidate you because they might send you a letter. Some of the deductions that I think people overlook, mileage I think is one. They don’t wanna keep a mileage log, but if you own 25 rental properties and you visit each one once or twice a month to check on it and stuff like that, well, that’s mileage. You could be deducted.

Well, thanks so much for joining John. And, you know, I’ve got a lot of followers asking, how do they get in touch with you?

– The best way to get in touch with me is my email address is John, J-O-H-N, My phone number also is 303-350-7670. You’ll probably end up getting my voicemail but I will return your call. And that’s also my cell phone. So you can text me as well. If you do text me, just let me know what your name is and that you found me through this video so that I know who you are. I’m happy to help and happy to answer any questions you might have.