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Real estate investors may soon pay more taxes on high-dollar deals.
President Joe Biden wants higher taxes on real estate deals with profits of more than $ 500,000. The tax plan aims to support the $ 1.8 trillion plan for American families, which puts money into child care, paid family leave and educational programs.
However, financial experts say raising taxes could put a strain on smaller investors.
The strategy of cutting blocks ̵
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“You don’t have to cut your hair for Uncle Sam’s share every time you move from one investment to another,” said Michael Repack, vice president and senior real estate designer at Janney Montgomery Scott in Philadelphia.
Currently, investors can use 1,031 exchanges to buy and sell real estate with deferred tax for life. If the investor holds the property until death, he can pass it on to heirs without tax.
“It’s a great way for real estate investors to make money,” said Matt Berquist, a certified financial planner and managing director at Intrepid Capital Management, based in Jacksonville, Florida.
The Joint Congressional Tax Committee estimates that 1,031 exchanges could save investors $ 41.4 billion in taxes from 2020 to 2024.
Reduction of tax relief
Biden seeks to make 1,031 stock exchanges for deals with profits over $ 500,000.
The effects could be far-reaching, financial experts say, especially with the call for higher taxes on capital gains.
About 12% of real estate sales were part of a 1031 exchange from 2016 to 2019, according to a 2020 study by the National Brokers Association.
These investors may not be the real estate moguls that many expect.
Although Biden’s plan is aimed at the rich, the proposal could also affect smaller investors.
The survey of the National Association of Brokers shows that 84% of 1,031 exchanges are from smaller investors – those in sole proprietorships (47%) or S-corporations (37%).
“There will be some side effects if all goes well,” Berkist said.
Small businesses that want to exchange property may face difficult decisions.
For example, suppose a dental practitioner owns a $ 1.2 million building that he originally purchased for $ 500,000. Under current law, owners can exchange the property for an office building of a similar type and defer taxes by adding a profit of $ 700,000 to a new building they have purchased.
The new law will levy capital gains taxes on the company’s earnings above the $ 500,000 exemption.
Repack said the new rule could make it harder for people who want to replace a lower-maintenance property as they retire.
The proposed changes can also flow to small business rental businesses.
Sixty-eight percent of respondents to the National Brokers Association expect rents to increase if 1,031 exchange cancellations occur.
Repack said landlords could try to recoup losses or additional taxes by charging more rent.
“Tenants are probably the easiest to try and push,” he said.
Although the details are still unclear, Repak said some investors are starting to prepare for change. He said it was wise to start a conversation with your attorney and property planning accountant.
However, those affected must not make an impulsive decision.
“There are a lot of things that can change for people,” Berkist said. “People need to be ready and open to change if necessary.”