Tax Advantages Of Owning Rental Properties by primusboy

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									Tax Advantages Of Owning Rental Properties
Rental Income
The first advantage of owning Rental Property is obviously the rental
income you receive each month or period you choose. Rental income is
considered a type of passive income and rental property is considered a
business. This means that rental property follows the tax laws of
businesses which means the government doesn't automatically take money
from you like they would if you were an employee. The best part about
rental income is that it is fixed for inflation. If you get a fixed rate
mortgage for 15 or 30 years that payment will never change because it's
"fixed". However, your rental income will increase with inflation over
the years creating a bigger gap between your expenses and your income.
For example, if I have a piece of real estate property that I have to pay
$500 a month for and my rent is currently only $525 then I am only making
a $25 profit each month. Over time inflation sets in and rent will
increase so that perhaps 5 years down the road I could charge $700 a
month rent for the exact same apartment but still only pay $500 in
expenses.
Phantom Cash - Depreciation
Phantom Cash can be taken literally, it is money that doesn't exist.
Phantom Cash is a government incentive and tax loophole of the rich so
they can furthermore benefit from real estate. The government states that
you can take the value of a building divide it by 27.5 years and deduct
that amount from your taxable income every year. Let's say that I buy a
building valued at $60,000 and I rent it out at $500 a month ($6000 a
year) then I would be allowed to subtract ($60,000 / 27.5)about $2181 a
year from my taxable income. Meaning I would only have to pay taxes on
$3819 $(6000-$2181) for that year not including the other deductions you
get from real estate. There are a variety of tax advantages for real
estate which makes it one of the best investment vehicles out there.
Appreciation
Appreciation is something just about everyone is familiar with. Over time
your property will generally appreciate in value depending on the area.
This is caused by several factors; inflation, cost of supplies, desire to
live in certain areas, etc. If you buy a house for $60,000 and it
appreciates at 2-4% a year(close to the national average) in 5 years your
property would be worth somewhere between $66244-$70191 and all you had
to do was own and maintain it for those 5 years. If you pick the right
area you could do well with Appreciation. For example, from 2001-2005 in
Sierra Vista, Arizona the property values nearly doubled. If you bought a
house for $114,000 in 2001 people were easily selling these for up to
$200,000 in 2005. The next section is going to talk about how to take
advantage of appreciation and equity in your properties without paying
taxes on them.
Tax Deferred and Home Equity Loans
There exists a form, called a 1031, which allows you to sell a property
with the intent of upgrading to a more expensive property and not having
to pay taxes on any of the capital gains you received from the
transaction. For example, if you buy a house at $100,000 and you sell it
5 years later at $150,000 then you would be responsible for paying
capital gains taxes on the difference $50,000 ($150,000 - $100,000). To
get around this you use a 1031 form which allows a third party to hold
the money for a period of time until you can put it back into another
real estate investment of greater value. This allows you to keep
upgrading your rental properties using appreciation without having to pay
taxes on it.
The Home Equity Loan
Home equity loans are generally used for all of the wrong reasons; to pay
off credit card debt, to have extra cash, to buy a new car, etc. Let me
give you an example of how it can be used for good things. Let's say you
buy a rental property for $50,000 in 5 years it appreciates to $60,000
and you've also paid down the mortgage on it so that you only owe
$40,000. You could now use a home equity loan to borrow up to
$20,000($60,000 - $40,000) tax free. What you should do with this money
is invest it back into more real estate deals, but most people have bad
money habits and will do home improvements, which never really payoff, or
buy things they don't need. For example, a $20,000 dollar swimming pool
may only increase property value by as little as $3000 and very rarely,
if ever, increases it by the amount spent on it.
Other Deductions
Interest on Mortgage
As with being a home owner, interest on a mortgage can also be used as a
tax deduction against rental income. Let's use the figures above after
the phantom cash deductions were taken out. On a building valued at
$60,000 that earns $6,000 a year rental income after phantom deductions
we were down to $3819 taxable income. Most fixed mortgages rear load
interest, which means you pay mostly interest in the beginning and
somewhere around the midway point it balances out and you pay mostly
principal after that point. For scenario purposes let's say you have a
$48,000(20% or $12,000 down payment) mortgage on that property at 6%
interest for 15 years. Your payment on the mortgage would be about $405
dollars a month or about $4860 a year and the schedule would look like
this for the first 3 years:
* I = Interest, P = Principal, B = Balance
* I: $2,824.62 P: $2,036.00 B: $45,964.00
* I: $2,699.04 P: $2,161.58 B: $43,802.42
* I: $2,565.72 P: $2,294.90 B: $41,507.53
The first year you would be allowed to deduct another $2842.62 from your
remaining $3819 which leaves you with about $977 taxable income. From
this remaining money you are also allowed to deduct repairs, loss of
money due to tenants not paying rent, property taxes, and possibly a few
other things. Even if you were in a 15 percent tax bracket you are
talking about having to pay 15% of $977 about $147 in taxes. That's not
including property taxes or repairs either. Rental Properties can be
virtually a non-taxable form of income when you start out and still give
great tax advantages when you are further down the line.
So why are people afraid to invest?
I'm Not a plumber
I hear a lot of people say "I'm not a plumber. I don't want to be fixing
toilets at 3:30 in the morning." If a toilet breaks in your house do you
fix it? If you do you are one of the few who knows how. Rental property
owners do not fix toilets, property managers and plumbers do. When
something in my house breaks, I call in a professional to do the work.
It's too Hard
So is working for 40 years. Why would you not take the extra effort and
have your money work for you? If you put a sincere effort into real
estate, learn fast, and never give up, your passive income could easily
be more than your expenses in less than 10 years. That means you don't
have to work anymore. There are property managers who will manage your
property for 5-20% of the rental income and it's even a tax deduction!
All you have to do is find the deal and purchase the property.
There isn't a Valid Excuse
It all comes down to you just have to do it. You can make excuses all day
long and I could tell you why it's not a valid excuse, but you'd just
come up with another one and it would be an infinite loop. So you just
have to go out there and do it. Thank you for reading this article.
Why pay for the same financial advice you can get for free from Tom Van,
founder and author of http://www.thomasvan.net

								
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