Taxes and Selling your Real Estate Investment

So you've getting tired of the Landlord business and you want to get out.  Your thinking ok big hunk of cash but  Oh ya I'm going to have to pay taxes on that big chunk of cash... as you start to do the calculation you realize that there is a lot of taxes that you will have to pay.  Poking a few buttons on the calculator All of a sudden that selling of your real estate investment doesn't seem so great!  How can I avoid or defer the taxes when selling?  There are a couple of  solutions  to this problem. 

Holding Paper:
Holding a paper or a mortgage note allows you to finance part or all of the price of the property to the buyer.  This can be very appealing to buyers. Frequently you can get a higher interest rate and get a regual payments over many years. The great thing is that you are paying smaller amouts in taxes every year over many years instead of one big lump of taxes.

1031 Exchange:
A 1031 exchange is transferring the gains from one property to a new property. The great thing about this there is fair amount of flexibility in the property types that you can exchanged into.  In order to qualify for this exchange, certain rules must be followed:

1. Both the relinquished property and the replacement property must be held either for investment or for productive use in a trade or business. A personal residence cannot be exchanged.
2. The asset must be of like-kind. Real property must be exchanged for real property, although a broad definition of real estate applies and includes land, commercial property and residential property. 
3. The proceeds of the sale must be re-invested in a like kind asset within 180 days of the sale. Restrictions are imposed on the number of Replacement Properties which can be identified as potential Replacement Properties. More than one potential replacement property can be identified as long as you satisfy one of these rules:
   • The Three-Property Rule - Up to three properties regardless of their market values. All identified properties are not required to be purchased to satisfy the exchange; only the amount needed to satisfy the value requirement.
   • The 200% Rule - Any number of properties as long as the aggregate fair market value of all replacement properties does not exceed 200% of the aggregate Fair Market Value (FMV) of all of the relinquished properties as of the initial transfer date. All identified properties are not required to be purchased to satisfy the exchange; only the amount needed to satisfy the value requirement.
   • The 95% Rule - Any number of replacement properties if the fair market value of the properties actually received by the end of the exchange period is at least 95% of the aggregate FMV of all the potential replacement properties identified. In other words, 95% (or all) of the properties identified must be purchased or the entire exchange is invalid.(1)
    

When you decide to get out of your investment take a serous look at your tax options with your CPA when deciding to sell your Investments.  There are ways to avoid or differ your tax bill.



Source:  (1) http://en.wikipedia.org/wiki/Internal_Revenue_Code_section_1031