Taxes are our greatest expense. Today the average person is paying more than 50 percent on income taxes and hidden taxes. One of the beauties of real estate investing, when compared with investing in stocks and mutual funds, is the ability to pay nothing in taxes, legally. As far as I know, this real estate loophole is the biggest and best legal tax loophole remaining, and that is why Gary Gorman is my friend and advisor. Gary has both saved and made Kim and me a lot of money.
While this tax loophole has saved a lot of people money, it has also caused people to lose a lot of money. Many people lose money because they sell a piece of property, deferring their tax bill, but fail to plan their next real estate purchase. This failure to carefully plan their sell and their next buy causes them to either pay the capital gains tax anyway, or purchase a bad piece of property just to avoid the tax. Often, rushing to buy a bad piece of real estate is worse than paying the capital gains tax.
Today before I sell or buy a property, I call Gary Gorman's company for strategic advice. I call Gary before I call a real estate broker.
One of the last great tax shelters left in the United States deals with the ownership of real estate, and more importantly, with how it's taxed when you sell it. There are essentially four different classes of real estate: property you own for development, property you own for a short time (less than one year), your personal residence, and investment property you own for an extended period of time (at least a year). Each is taxed a little differently. Here's a quick overview.
First, property you own for development is subject to ordinary income taxes, as well as self-employment tax (the self-employed equivalent of FICA). Short-term property, by contrast, is subject to short-term capital gains tax, which is typically taxed at the same rate as your salary and other ordinary income. There's no self employment tax. Your personal residence is treated differently, too. It qualifies for a gain exclusion of different amounts, depending upon whether you're single or married. That leaves us with investment property that you've owned for at least one year, and this is where real tax shelter advantages kick in.
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