How is real estate cash flow/passive income taxed?

Hayward, CA · Member since 2017 · 70 posts · 7 votes

How is real estate cash flow/passive income taxed? Is it better to live in a state with income tax (e.g. California) or a state with high property tax (e.g. Texas) to minimize taxes on the passive income/cash flow generated from rental properties? How can I do this quantitative analysis when choosing which states to invest in?

What states have the best tax laws for investors to optimize the amount they get to keep with real estate investing? What states have the worst tax laws that investors should try to stay away from?

I want a way to compare apples to apples properties in different states with regard to the tax differences to see which state would allow me to keep most of the passive income/cash flow. Is there a way to do this? Has anyone done this comparison/analysis before?

Thank you!

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Greg ScottPro Member

Rental Property Investor · SE Michigan · Member since 2014 · 4k+ posts · 6k+ votes

Bryan:

As a former Californian, I can tell you that you live in what is probably the very worst state to be a real estate investor. You are taxed higher in almost every way, it is landlord hostile, and the costs to manage your LLCs are astronomical. Just about anywhere you could go would be better than where you are!

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Greg ScottPro Member
Rental Property Investor · SE Michigan · Member since 2014 · 4k+ posts · 6k+ votes
8y
Bryan:
As a former Californian, I can tell you that you live in what is probably the very worst state to be a real estate investor. You are taxed higher in almost every way, it is landlord hostile, and the costs to manage your LLCs are astronomical. Just about anywhere you could go would be better than where you are!
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Matt Mason
Investor · Los Angeles, CA · Member since 2013 · 231 posts · 260 votes
8y
Depends on what you are trying to do. If you live in CA you are going to pay CA income tax on it no matter where your property is. If you have a property in Texas you are going to pay Texas property taxes no matter where you live, which is why living in CA and owning property in no income tax but high property tax states like Texas is basically the worst of both worlds. If you own property in CA at least you get Prop 13 benefits where your taxes are capped at an increase of inflation or 2%, whichever is less. This is a huge benefit for long time owners of property. For example I’ve owned my primary residence for 19 years as I bought young and the value has increased about 325% but the taxes haven’t even gone up 50% in that time.
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Lane Kawaoka
Rental Property Investor · Honolulu, HAWAII (HI) · Member since 2011 · 4k+ posts · 2k+ votes
8y
Bryan Tasumi passive returns with or without an LLC should pass through to your personal tax return. Sorry I hear you Californians can’t get around the LLC fees even if your rentals are out of state.
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Basit SiddiqiBusiness Member
Accountant · New York, NY · Member since 2015 · 8k+ posts · 3k+ votes
8y
@Bryan Tasumi

In the ideal world for tax purposes - you want to live in a no income state and invest in a state with no income tax and low property taxes.

As a resident of California - You are required to report worldwide income on your California state tax return.

Investing in a state should go beyond just factoring in taxes(however taxes are important). Items such as state outlook(job and population projections), appreciation factors, cash-flow, safety etc.
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Andrew Johnson
Real Estate Investor · Encinitas, CA · Member since 2016 · 3k+ posts · 3k+ votes
8y
Bryan Tasumi So are you going to move? If the answer is “no” then the “where to live” question is moot. You can search for the property tax rankings by state. You can also look at what areas have low land value. Low land (generally) means more “value” to depreciable improvements. If you’re a buy-and-hold it’s nice to have that deduction along with mortgage interest. But, you are correct, in that Texas presents a quandary for Californians. We pay the property taxes but don’t get the zero state income taxes. The appeal of Texas is that everyone in California (I’m guessing) knows someone that moved to Dallas or Austin. So we end up with “comfort” with Dallas and Austin over a market like Bismarck, Cincinnati, Shreveport, etc. where we don’t have friends that moved. At least that’s my theory :)
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