Tax advise for high earner w2 couple.

[Jinesh Patel]

Hello,

Me and my wife both work fulltime on w2. we are planning to start investing in the real-estate this year. I am not sure how I can take advantage  of the rental losses here. As I went to one of the tax classes and they told that we have to be working more hours in the rental property than our w2 job.

I am not sure what will be the best course of action will be here.

Any help appreciated.

Jinesh

[Zachary Jensen]

Hey Jinesh, 

I would highly recommend taking it slow. The goal here is to get our active income recategorized as passive, and to do so we need to own a bit of property for it to make sense for you and your wife. I would suggest first looking into buying a 5 unit multifamily building, and then another the year after. Once you are comfortable with running real estate, you can consider having one of you leave work and manage the properties full time. Once this happens, things accelerate quickly. You can pay less tax on your w2 via having the spouse that goes full time real estate qualify as real estate professional, and then continue to grow by buying more and more properties. I hope that makes sense! Im here to help with any questions 

[Lane Kawaoka]

From the real estate you are going to be getting Passive Activity Losses (PALs) which is depreciation to offset passive income, potentially reducing your overall tax liability. This strategy, if combo with REPS (real estate profession status) basically checkbox on your taxes is key to canceling out full-time W2 employment.

If this is new to you... PALs fundamentally work by allowing investors to deduct depreciation from their properties, which can significantly reduce the taxable income generated by these investments. Depreciation is a tax deduction that reflects the costs of wear and tear, deterioration, or obsolescence of the property. For example, my first property in Seattle was a $350,000 property, separating the land value ($150,000) from the improvement value ($200,000) enables an annual depreciation deduction around $6,000 over 27.5 years. This deduction can offset the income generated by the property, potentially reducing it to a tax-neutral position.

For those with full-time jobs, the challenge lies in the IRS designation of "real estate professional," which has specific hour requirements that must be met to take full advantage of these deductions against ordinary income. If you can't qualify as a real estate professional, your ability to use PALs to offset non-passive income (like your W2 earnings) might be limited. However, the real estate investments still offer the potential for tax-deferred growth and, under certain conditions, the ability to carry forward unused passive losses to offset future passive income.

The concept of depreciation and bonus depreciation is particularly advantageous in the early years of an investment, allowing for significant upfront deductions. Bonus depreciation can accelerate deductions, increasing the amount of passive losses available to offset passive income from real estate or other sources. It's important to consult with a tax professional who can advise on how these strategies align with your overall financial situation, especially considering your full-time employment and income structure.

Moreover, as your portfolio grows, and particularly if one spouse can transition away from W2 employment, the landscape of your income and tax liabilities shifts. The progression towards more passive income sources, balanced against the backdrop of your evolving investment strategy, can lead to a more favorable tax position. This journey, is the transition from primarily active (ordinary) income to a portfolio characterized by passive income streams, benefitting from tax-efficient strategies like PALs.

[Michael Plaks]

Quote from @Jinesh Patel:

Any help appreciated.

Short answer: no immediate tax savings from regular rentals as long as both of you have regular W2 jobs.

You invest to create passive cash flow and grow your wealth through appreciation of your properties, but not for immediate tax savings.

[Basit Siddiqi]

I think people look at real estate the wrong way and want the loss to offset their W-2 income.

The first and most benefit goal with real estate is that your cash flow and appreciation is not taxed.
if you are making 8% from cash-flow and appreciation and it is not taxed, imagine how quickly your wealth can grow.

If you can offset the rental loss with your income income, that is just icing on the cake.