How To Avoid Capital Gains Tax On Rental Property

When you buy and sell rental properties, then you can quickly fall into the trap of the capital gains tax. Whether you believe this tax is senseless or a needed part of the economy, the simple fact remains that being fully aware of your financial condition will help you pay the exact amount that is due. Many who rely on rental property for income end up paying the capital gains tax and probably don't need to do so.

Here are some common ways to avoid this tax.

#1. Make Sure to Match Your Losses

Rental property investors can have losses realized that will cancel their gains for a specific year. Sometimes this means harvesting capital losses when they happen so they can be used on future taxes. If you have more than $3,000 in excess losses, these can be carried to a future tax year for an indefinitely period of time.

#2. An Exclusion For the Primary Residence

If you sell your primary residence, then you can exclude up to $500k of capital gains. This is particularly useful if transitioning to a rental property that you wish to control through an LLC instead of your personal revenues, especially if you've owned the property for more than a decade.

#3. Renovation Write-Offs

If you make a future rental property your primary residence and you renovate it to improve the property's value, then you can create better rental income while being able to keep the increases from hitting you on your capital gains tax.

#4. A 1031 Exchange

Whenever you buy or sell rental property, you're given 180 days to rollover your investment into another rental property without needing to pay the capital gains tax. It's a pretty complicated rollover and you'll likely need a tax professional or legal professional helping you out with this transfer, but you'll be able to avoid the tax through the process.

#5. Stock Exchanges

If you've sold rental properties and this has created a high level of investment income, then stock exchanges that put your money into a similar security can create an equally valued portfolio that has the diversification that you need. It's cheaper to do this through a broker than it is to pay the capital gains tax, so it could make sense for you if you want to get out of rental properties for good.

#6. Contribute To Your IRA or 401k

There are tax benefits to donating to your retirement and many of these credits can help to offset the capital gains taxation that occurs from the buying and selling of rental property. You'll be unable to touch these funds without penalty for several years in most circumstances, but it is a win/win situation! You get short-term gains through taxation savings and a more secure retirement.

#7. Move To a Different Place

Many capital gains tax rates are based on the state that you live. California, for example, charges over 35% in capital gains taxes when combined with the national level responsibility, creating the second-highest capital gains tax in the world today. Consider living in one of the 7 current states that don't charge any capital gains taxes at all: Alaska, Florida, South Dakota, Tennessee, Texas, Washington and Wyoming.
Posted on Sep 25, 2014


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