Are There Tax Advantages to Owning Rental Property?

Are There Tax Advantages to Owning Rental Property?

Posted by Mckenna Duncan on Jan 18, 2023

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Direct real estate investments have a few tax advantages that passive real estate investing doesn’t. Of course, direct real estate means more work. Passive real estate investing is just that, passive and mainly hands-off, except for some managing of the investment. Passive investors don’t have to deal with tenants or repair buildings.

However, for the work, the tax advantages can be fairly large in direct real estate. Let’s take a look at what these tax advantages are.

Direct Real Estate Vs. Securities

When we’re talking about tax advantages, we’re talking about direct real estate rather than passive. As outlined in the introduction, passive real estate investing doesn’t offer the same number of tax benefits as direct real estate. Passive real estate investing includes real estate stocks, real estate investment trusts (REITs), Delaware Statutory Trusts, and basically any real estate investment that is considered a security. If you aren’t getting your hands dirty with day-to-day operations in the investment, then it is probably passive.

TICs (i.e., Tenants-in-Common) are direct real estate unless the TIC has been securitized. Two or more people involved in a TIC who handle building maintenance, finances, and deal with tenants are in a direct real estate investment. No one else is managing the investment except them. The investment is not passive for either investor because it would not exist without their involvement.

Investors in a TIC that a sponsor manages are most likely utilizing a security. Most investments that have a sponsor are securities. The investors or LPs (i.e., limited partners) are not directly involved in the day-to-day operations of the security. They only funded the project.

Tax Advantages to Owning Rental Property

As outlined above, we’ll focus on direct real estate, which owning rental property falls under. 

The first set of tax advantages is the many operational expenses. These directly offset profit and thus lower taxable income. Operational expenses include day-to-day expenses involved in operating the business.

Next is CapEx (i.e., capital expenses), which are larger expenses that are generally deducted over several years. These expenses involve large purchases such as a roof, air conditioning, and parking lot replacement. Because these assets have a multi-year life span, they are written off over multiple years.

Rental property investors can also deduct their mortgage interest as an expense. Like other expenses, this reduces taxable income.

We finally reached one of the most popular and tax-advantaged expenses a rental property investor can take — depreciation. Depreciation is a non-cash flow expense. It doesn’t require any money from the investor’s bank account. Like CapEx, depreciation is taken over a period of years.

So yes — there are tax advantages to owning rental property. Many real estate investors spend lots of time focusing on these tax advantages to get the most out of them. It’s best to work with a tax professional to ensure your rental property is maximizing its real estate tax benefits.

This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor.

Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation.

All real estate investments have the potential to lose value during the life of the investment. All financed real estate investments have the potential for foreclosure.

The income stream and depreciation schedule for any investment property may affect the property owner's income bracket and/or tax status. An unfavorable tax ruling may cancel deferral of capital gains and result in immediate tax liabilities.

Because they are private placements, TICs are illiquid securities. There is no secondary market for TIC investments. Moreover, the form of ownership may require unanimous consent to sell a TIC interests.

Like any investment in real estate, if a TIC property unexpectedly loses tenants or sustains substantial damage, there is potential for suspension of cash flow distributions.

All investments have an inherent level of risk. The value of your investment will fluctuate with the value of the underlying investments. You could receive back less than you initially invested and there is no guarantee that you will receive any income.

No public market currently exists, and one may never exist. DST programs are speculative and suitable only for Accredited Investors who do not anticipate a need for liquidity or can afford to lose their entire investment.

The actual amount and timing of distributions paid by programs is not guaranteed and may vary. There is no guarantee that investors will receive distributions or a return of their capital. These programs can give no assurance that it will be able to pay or maintain distributions, or that distributions will increase over time.

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