Multifamily Syndication Tax Benefits Every Passive Investor Should Be Aware Of
Updated: Jun 22, 2022
While many people tend to dread tax season each year, those proactive with multifamily real estate investing (specifically real estate syndications) are likely excited about it. That is because multifamily investments can and often offer tax benefits and incentives for passive investors to maximize profits and preserve capital through tax benefits.
In short, investing in multifamily syndications offers one of the most tax-favored investment avenues.
Before we dive into these benefits, here’s a quick disclaimer. Since we are not tax professionals, the information in this article is not intended to offer professional advice. You can speak with your tax professional or CPA for details and advice about your specific situation for more information. This article should not be construed as tax advice.
Below are the leading multifamily syndication tax benefits that every investor should be knowledgeable of to be fully prepared to capitalize on their opportunities.
Depreciation is a considerable tax deduction and is often overlooked. In tax terms, depreciation is an accounting method that calculates the cost of tangible business assets’ declined value over time and allows the owner to write it off. The most common form is straight-line depreciation, a system that takes the annual deduction cost of items and divides it by its useful life. As for real estate, the IRS states that the useful life of residential properties is 27.5 years, and 39 years for commercial.
Investopedia defines depreciation as “an accounting method used to allocate the cost of a tangible or physical asset over its useful life. Depreciation represents how much of an asset’s value has been used.” (Tuovila, Yashina, & Kazel, 2022).
Bonus depreciation is very similar to depreciation but accelerated. Bonus depreciation results from a cost segregation study that considers that some parts of the property depreciate much faster than 27.5 years, which is the “useful life” of residential property (Kagan & Berry-Johnson, 2021). Bonus depreciation allows a business to deduct a large portion of the purchase price of eligible assets in the first year instead of over the “useful life” of the asset. A cost segregation specialist does a study where they evaluate the individual elements of a property and then calculate the amount of bonus depreciation available.
1031 Exchange Tax
When a real estate investor sells a property, it may be subject to a capital gains tax. However, an investor can defer paying capital gains by doing a 1031 exchange. A 1031 exchange allows investors to sell one investment property and move that equity into another like-kind property within an allocated amount of time without paying capital gains immediately. A “like-kind” property, according to Section 1031 of the Internal Revenue Code (IRC), means that when a seller sells an investment property, it must be “exchanged” for another investment property (Kagan & Uradu, 2021). The 1031 exchange provision is not available for use with personal residences.
It is not uncommon for multifamily real estate investors to invest in a property for about 1-3 years and then refinance it after the value has increased due to renovations and rent increases. Doing this does not come with any tax obligations because it is not taxable when you pull out new equity via a refinance to return all or part of the investor’s equity. After all, it is a loan and not a sale.
Other tax benefits
Rental income is not subject to social security tax or Medicare tax, which is a benefit.
Summary - The Tax Code Favors Real Estate Investors
In summary, multifamily real estate syndications can be a significant investment that optimizes tax breaks and has been a proven channel to grow and preserve wealth. With the various multifamily syndication tax benefits, combined with typically excellent returns, it is clear how investing in real estate syndications can add up to significant short and long-term gains.
For any investor looking to convert their hard-earned capital to passive income in one of the most tax-friendly ways, multifamily real estate syndication is undoubtedly a prime avenue.
Kagan, J., & Berry-Johnson, J. (2021, April 20). Bonus Depreciation. Retrieved from Investopedia.com: https://www.investopedia.com/terms/b/bonusdepreciation.asp
Kagan, J., & Uradu, L. D. (2021, April 10). Section 1031. Retrieved from Investopedia.com: https://www.investopedia.com/terms/s/section1031.asp
Tuovila, A., Yashina, N., & Kazel, M. (2022, March 9). Depreciation. Retrieved from Investopedia.com: https://www.investopedia.com/terms/d/depreciation.asp
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