By Nic DeAngelo, president of Saint Investment Group, a cutting-edge real estate fund platform.
As one of the most powerful and profitable investments you can make, real estate provides regular cash flow, a hedge against inflation and otherwise unattainable leverage. These may be the top benefits of real estate investing, but they’re only scratching the surface.
I want to shine a spotlight on the benefits I don’t think get enough attention: tax advantages, appreciation and refinancing.
Real estate investing is arguably the best way to grow long-term wealth without lining Uncle Sam’s pockets. The only downside to the tax-slashing strategies listed below is that they take some time and research to identify and utilize — but when you can reduce or entirely erase your liability, I’d say the effort is well worth it.
General Write-Offs: Owning any real estate asset will incur some costs; that’s just the name of the game. Fortunately, most can be written off as deductions to lower your taxable income. They include (but are not limited to):
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• Property taxes
• Insurance premiums
• Ongoing maintenance and major repairs
• Management, marketing and admin-related expenses
Mortgage Interest Deduction: Beyond the aforementioned deductions, you can actually write off your mortgage interest (a real gift from the tax-code gods). As an investment property owner, you can claim an itemized tax deduction for interest paid on the first $750,000 of the mortgage debt.
Cost Segregation: Buildings age, just like we all do. In industry terms, this wear-and-tear is called depreciation. The IRS allows for a depreciation deduction every year, defining the asset’s depreciation rate in terms of its “useful life.” Residential properties have a useful life of 27.5 years; commercial properties are looking at 39 years. Don’t plan on holding the asset that long? That’s where cost segregation comes in.
Some items outlive others; interior carpets will need replaced before the sidewalks outside do. Cost segregation accelerates the amount you can expense in the early years of ownership and can be taken over five-, seven- or 15-year periods, depending on the items in question.
Even while the building itself ages, property value goes up over time, exponentially so in developing markets. If your asset is located in a city or surrounding suburb with positive job growth, a booming economy and an increasing population, that asset is going to appreciate extremely well.
When examining the graph below, you can easily see the rate of new, single-family homes steadily increasing, with marginal drops during periods of economic downturns.
The ability to build equity in an asset is paramount to growing wealth and realizing financial independence. As the property appreciates and the mortgage is paid down, you build more and more equity. After enough has accumulated, you can pull that equity out through a refinance. Over the long term, the cash-out can be massive. This gives you more leverage to acquire additional assets, pay off other debts or even live out a personal dream after years of hard work.
When you look at it from all angles, real estate is a goldmine of wealth-building potential. With the correct strategies, smart planning and a solid management team (this is particularly true for passive investors), you can greatly reduce your taxable income, reap the rewards of asset appreciation and build equity to grow generational wealth.