Shadow

The Top 5 Key Benefits of Purchasing

The Top 5 Key Benefits of Purchasing

Real estate is the IDEAL investment compared to others. I will explain each benefit in depth.

“I” in IDEAL stands for Income. (a.k.a. positive cash flow) Does it generate income? Your investment property must be generating income from rentals received each month. Of course, there will be months when you may encounter a gap, but for the most part, your investment will yield a return. Be careful because many times beginner traders exaggerate their assumptions and don’t take into account all potential costs.

The Top 5 Key Benefits of Purchasing
The Top 5 Key Benefits of Purchasing

The investor should know when going into the purchase that the property will COST each month (otherwise known as negative cash flow). While this scenario is not ideal, it may only be appropriate in certain situations, which we will discuss later. It comes down to risk tolerance and the owner’s ability to fund and pay for a negative generating asset. In the boom years of real estate, prices were very high and rents did not increase in proportion to many residential properties investment properties.

The Top 5 Key Benefits of Purchasing

Many naive investors bought property on the assumption that the appreciation would more than make up for the fact that the high-balance mortgage would have a significant negative impact on the funds each month. Be aware of this and do your best to anticipate a positive cash flow scenario so that you can actually fulfill the INCOME part of the IDEAL equation.

Often times, it may require a higher down payment (hence the lower amount to be mortgaged) each month for your cash flow to be acceptable. Ideally, you’ll eventually pay off the mortgage, so there’s no question the cash flow will come in each month, and it largely does. This should be a vital component of one’s retirement plan. Do this a few times and you won’t have to worry about money later down the road, which is the main purpose and reward for taking the risk of buying investment property in the first place.

The “D” in IDEAL stands for Depreciation. With investment property, you can use its depreciation for your own tax advantage. What is depreciation anyway? It is a cost-free accounting method that takes into account the overall financial burden arising from real estate investment.

The Top 5 Key Benefits of Purchasing
The Top 5 Key Benefits of Purchasing

Look at this from another angle, when you buy a brand new car, the value of that car has dropped as soon as you parked it. In the case of your investment property, the IRS allows you to deduct this amount from your taxes annually. Please note: I am not a tax expert, so this is not meant to be a lesson in tax policy or to be construed as tax advice.

The Top 5 Key Benefits of Purchasing

However, the depreciation of a real estate investment property is determined by the total value of the property’s structure and the duration (recovery period by type of property – residential or commercial). If you’ve received a property tax bill, they usually divide the assessed value of your property into two categories: one for the value of the land and the other for the value of the structure. Both of these aggregated values equal your total “base” for property taxation.

When it comes to depreciation, you can only deduct your taxes from the original base value of the structure; The IRS does not allow you to amortize land value (because land usually only APPRECIATES). It is the structure on the property that becomes less valuable each year as its effective age grows, just as your new car is getting off the ground. And you can use that for your tax advantage.

The best example of the benefit with this concept is through depreciation, you can actually turn a property that generates positive cash flow into a property that shows a loss. And by doing so, this (paper) loss can be deducted from your income for tax purposes. Therefore, it is a huge advantage, especially for those who are looking for a kind of “tax shelter” for their real estate investments.

The Top 5 Key Benefits of Purchasing

For example, without being too technical, let’s say you can depreciate $15,000 per year on a $500,000 residential investment property you own. Let’s say you have a cash flow of $1,000 per month (that is, after all expenses, you have a net positive $1,000 each month), so you have a total annual income of $12,000 from rental income for this property.

Even though you received $12,000, you can show through your accounting through your accounting that you actually lost $3,000 by depreciating investment property, which is used against any income tax you may owe. For IRS terms, this property incurred a loss of $3,000 after taking into account the “expense” of $15,000 in depreciation.

In addition to paying taxes on this rental income, you can also use the $3,000 paper loss against your other regular taxable income from your day job. Investment property at higher price points will have a proportionally higher t-value.

Leave a Reply

Your email address will not be published.