There are several reasons why you may desire to invest in real estate. Owning property may provide income through appreciation — when the value of the home rises over time — and passive income if you rent it out. It’s also an excellent strategy to diversify your investment portfolio.
However, before diving into this, you need to understand the fundamentals of real estate investments and taxes.
What taxes are subject to real estate
With real estate investments, you pay a lot of tax. Depending on your situation, these can change. However, these are the primary five to remember:
- Property taxes – These are often based on the property’s assessed value, including the land, structures, and other improvements. Property tax rates differ substantially based on your city and state.
- Capital gains tax – Depending on your purchasing method, you may need to pay capital gains tax when selling or buying a home. The tax rate on most net capital gain is no higher than 15% for most individuals.
- Business income tax – This only occurs if you offer more than basic services. For example, buying a house and turning it into a bed and breakfast.
- Real estate income tax – Rental income from real estate is considered passive income and is taxed like regular income.
- Net investment income tax (NIIT) – Interest and dividends are two forms of investment income generated by real estate. If you are a higher investment earner, you will have to pay NIIT, which the IRS imposes at a 3.8% rate on certain net investment income.
As you can see, real estate investment tax exists. Whether buying or selling a home, these are the five you’ll want to remember.
How different real estate investments are taxed
Real estate investing tax works similarly to most tax systems. So you can get a visual representation of how it works, here are some popular examples:
- Rental property – Rental income is subject to taxation at the same rate as other regular income, such as job-related salaries. Depending on the total amount of your taxable income, the federal income tax rate might range from 10% to 37%.
- Real estate investment trusts (Reit) – REIT dividends are typically non-qualified dividends that are taxed the same as regular income. A capital return is not taxable income but lowers your investment basis, resulting in more significant capital gains when you sell your REIT shares.
- Real estate limited partnerships (RELPs) – You may generate rental income and capital gains through RELPs. In this business arrangement, there are two partners: a “general partner” who accepts liability and a “limited partner” who is a hands-off investor. A RELP is not obliged to pay taxes, but a Form 1065 with the IRS to record all revenue must be submitted.
How can Bridgecoin help?
Above are the basics behind real estate investments and tax. At first, it’s confusing. However, the more you involve yourself in the investment style, the more you’ll feel comfortable