Tax Benefits of Property Vs. Residential Investment

Owning property provides you with a number of tax deduction opportunities.

Owning property provides you with a number of tax deduction opportunities.

Purchasing property as an investment allows you to take advantage of some tax benefits. While the rules regarding taxes for your primary residence differ from those related to an investment property, owning both types can net you a number of tax benefits. Even though your deductions may be greater with your primary residence, owning an investment property has its perks as well.

Primary Residence

The home where you live is considered your primary residence. With this in mind, there are a number of write-offs available for you to use. IRS Form 1040 features a number of line-item deductions that you can use to lessen the blow of your tax bill. These deductions include your mortgage interest, property taxes and even the interest on your home equity loan or line of credit for up to $100,000.

Selling Your Residential Property

There are major tax implications for selling your home. If you have lived in the home for two years out of the five prior to its sale, you can make up to $250,000 in profit on it without having to pay any sort of tax. Anything over $250,000 is considered capital gains, which will incur a 15 percent tax. Married couples filing jointly can make up to $500,000 in profit without being hit with the capital gains tax. You can sell a home that qualifies as a primary residence once every two years without any type of penalty or tax, as long as you have lived in that property for two out of five years prior to the sale.

Investment Properties

While there are several immediate tax perks associated with having a primary residence, investment properties are not as favorable when it comes to deductions and credits. Interest on secondary property can be written off for one building only. However, if you rent your investment property, there are a number of write-offs available -- for repairs, for example, or pest control, supplies, cleaning, utility expenses and management costs. Insurance premiums are also deductible for real estate investments.

Selling Your Investment Property

Unlike your residential property, you will have to pay a capital gains tax on any profits you make from the sale of an investment property. The IRS treats any property that you have not lived in for two out of the five years prior to a sale as an investment property, meaning all profits will be taxed. You must report any profits after the sale. Otherwise you will risk being penalized by the IRS. However, you can buy and sell multiple investment properties each year without waiting for a two-year window as you would with residential property.

Tax Deferral on Profit

You can defer paying taxes on your property when you sell if you quickly buy a similar property with the proceeds. Known as a 1031 exchange after the section of the tax code that allows it, the exchange process can be used on a private home. But it is far more commonly used by property investors who use it to defer paying taxes on their transaction gains -- in some cases, for life. In order to accomplish a 1031 exchange, you must declare your intent to do one and you must hire a qualified third party to handle the proceeds of the transactions and document that all the proper rules and regs were followed.

 

About the Author

Travis Ames has written for numerous publications since 2007 and has been writing instructional articles online since 2010. His areas of expertise are wide and include travel, politics, arts and entertainment, technology and finance. He currently lives in Portland, Oregon where he will begin teaching in the fall of 2011.

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