823: The Tax-Free Strategy Only Real Estate Investors Can Access w/Mitchell Baldridge
Sep 26, 2023
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CPA and CFP Mitchell Baldridge explains how cost segregation can help real estate investors lower their taxes and build their portfolios faster. Topics discussed include wiping out income taxes, bonus depreciation, using real estate losses to lower income, the short-term rental tax 'loophole,' carrying over losses, and the pitfalls of cost segregation.
Cost segregation allows real estate investors to accelerate depreciation and reduce their tax bill.
Real estate losses can be used to offset other types of income if one qualifies as a real estate professional.
Careful planning and consideration are necessary when implementing tax strategies like cost segregation.
Deep dives
Cost Segregation: Accelerating Real Estate Depreciation
Cost segregation is a tax strategy that allows real estate investors to accelerate depreciation and reduce their tax bill. By breaking down a property into different components and assigning shorter tax lives to certain assets, investors can take larger deductions in the first year. This strategy is particularly beneficial for properties with high improvement values and extensive land improvements. The bonus depreciation allowed by the Tax Cuts and Jobs Act of 2017 further enhances the tax savings potential. However, it is important to consider factors like tax brackets, excess business loss rules, and potential recapture when deciding to implement cost segregation.
Real-Life Example: Maximizing Tax Savings
To illustrate the impact of cost segregation, let's consider a property with a $300,000 purchase price and $111,000 allocated to land value. By separating the property into its components and utilizing cost segregation, investors can depreciate around $60,000 in the first year. This leads to significant tax savings, potentially reducing the tax bill by $21,000. Such tax savings can greatly enhance the return on investment for real estate investors. However, it's important to note that cost segregation should be evaluated based on factors like tax brackets, leverage, and long-term investment goals.
Considerations and Limitations of Cost Segregation
While cost segregation can provide substantial tax benefits, it's essential to understand its limitations and potential pitfalls. It is not a tax evasion strategy but rather a deferral of taxes. Investors should be aware of factors like recapture, which requires payback of previously claimed depreciation upon property sale. Additionally, cost segregation may not be suitable for everyone, such as individuals in low-tax brackets or those planning to sell the property in the near future. Careful consideration, consultation with an accountant, and understanding individual circumstances are crucial before implementing cost segregation.
Utilizing Real Estate Losses for Tax Benefits
Real estate losses can potentially be used to offset other types of income, such as W2 income, resulting in lower tax bills. However, passive losses from rental income can only be offset if the individual qualifies as a real estate professional. To qualify, one must work more than 750 hours and spend over half of their working time in their own real estate business. This status allows individuals to offset their active income with passive losses and take advantage of tax benefits.
Alternative Ways to Benefit from Real Estate Losses
For those who cannot or do not want to become real estate professionals, there are other options to benefit from real estate losses. One option is to marry a real estate professional, as their status can be transferred to the spouse. Another alternative is to create an active business, such as a short-term rental business, which allows the depreciation from real estate to offset active income. However, it is important to note that using strategies like cost segregation and bonus depreciation requires careful planning and consideration, as they can have long-term implications and may involve deferred taxes.
What’s the key to paying fewer taxes? A cost segregation study. Never heard of it? Most real estate investors haven’t, but we’re about to unlock a world of tax-free income earning using this specific tool. If you’ve wondered how the wealthy pay such few taxes while owning million-dollar-producing real estate, this is how. In today’s episode, you’ll learn how to use cost segregation, too, so you can keep more money in your pocket.
Taxes aren’t everyone’s favorite subject, but paying fewer taxes? You can probably get behind that. We’ve brought on CPA and CFP Mitchell Baldridge to explain how he helps real estate investors, large and small, delete their taxable income and build their real estate portfolios faster. Our own Rob Abasolo uses Mitchell’s team to cut his taxes down by more than six figures!
In this episode, we’ll explain what cost segregation is, why so many top real estate investors use it to lower their taxes, when you can (and can’t) use it on your properties, the short-term rental tax “loophole” to take advantage of, AND what happens when you do it wrong.
In This Episode We Cover:
How to wipe out your income taxes using cost segregation studies
