Being a responsible landlord might be advantageous. For instance, if you consistently make renovations and investments in your rental property, not only will your tenants value it and stay tenants longer, but you may also claim a depreciation discount on your taxes. Sadly, depreciation can occasionally cause landlords headaches once they sell the property in the form of a depreciation recapture tax. However, there are ways for you to evade the depreciation recapture tax. How? Read on.
If you require tax assistance, a financial advisor can assist you in developing a tax strategy.
What’s A Depreciation Recapture Tax?
The difference between the sale price and depreciated value of a rental property is the depreciation recapture tax. After selling the property, the excess revenue will be taxed on your upcoming tax return.
In other words, the Internal Revenue Service is “recapturing” what it perceives to be lost taxable income. The IRS will collect this tax if one sells the property for a profit. Additionally, assuming that it has been depreciated throughout the years.
How To Avoid It?
You might wish to use a few tactics if avoiding the depreciation recapture tax is vital to you.
Taking Advantage Of IRS Section 121 Exclusion
If you’re single and filing separately, you can subtract up to $250,000 of the profits from selling your primary house; if you’re married and filing jointly, you can remove up to $500,000. The property would be regarded as your primary residence if you lived there for two out of the five years before selling it (and those years do not have to be consecutive). And all of those depreciation deductions from previous years would be forgotten.
Doing A 1031 Exchange
Using the proceeds from the sale of an investment property to buy another comparable one, you can utilize this approach to postpone paying capital gains tax on the sales proceeds of the property. Although there are many strict guidelines to follow to profit from this technique, it might be worthwhile to look into and discuss it with a financial expert.
Passing On The Property To Its Heirs
When your children or grandchildren sell the property in the future, neither a capital gains tax nor a deferred depreciation recapture tax will be passed on to them. Of course, if they rent out the property directly, they can cause tax problems.
Selling The Property At Loss
The depreciation tax on a rental property can be avoided in that fashion, even if it may not be pleasant.