Roughly How Much Property To Buy To Create $200k in Paper Losses?

Question

Hey all. My wife is a doctor, and we have an opportunity to offset a lot of her taxable income this year if I qualify for Real Estate Professional Status. However, I could also continue working my W2 and claim what deductions we can whilst keeping real estate investing as a passive activity.

We've worked out that we would need to create $200,000 in additional paper losses this year to fully offset my lost W2 income from becoming a real estate professional. My question is, roughly how much real estate would we need to buy to create these paper losses, assuming we take full advantage of the tax code? This includes current 20% bonus depreciation, cost segregation, mortgage interest, property tax, etc. etc.

I'm just looking for a general rule of thumb, and fine using general assumptions like the 1% rule, national averages for property taxes, etc. etc. I understand that actual calculations are highly specific to the property in question.

Dylan Brown · Answer

I really wish it was that simple. I would be giving out rough estimates on this for him all the time!

The truth is, it is very highly dependent on your situation in the type of property you plan on acquiring. You can generally expect about 20 to 30% of a properties purchase price to be categorized to bonus eligible property using a cost segregation study. Though that can be significantly higher or lower, depending on the type of property. It also highly depends on the value of the land as well because highly valued land can be contracted from the value contributed to the property that’s depreciable.

If you assume 20% of a purchase price ends up being bonus eligible and in 2025, it’s 40% bonus depreciation- you would need a property acquisition with a purchase price of around $2.5 million to net $200,000 of bonus depreciation. Of course that really is meaningless because of how many variables there are here. You could get the same deductions with $1 million property or you might need a $5 million property.

What’s super awesome here is you have an opportunity to potentially even tap into the short term rental loophole if you’re planning on or are open to having a short term rental.

That would allow you to have the best of both worlds. You would be able to unlock the losses so that they aren’t passive well. Still keeping your W-2 job.

There are also tons and tons of strategies relating to real estate deductions that I can’t really get into with the post here. But if you truly have the capacity to begin doing this on a quasi-part-time or full-time basis, you should really be connecting with a CPA.

Bill B. · Answer

Stephen  and aaron you both have valid points. I guess I’m the one that assumed when the OP wrote they wanted to offset $200k in w-2 income that was their base income. Not the $400k minimum needed to qualify for the 32% bracket. Maybe they outsmarted me or my answer was correct for their situation.

Either way they certainly don’t want to offset their income below $97k (the 12% bracket) otherwise they’re taking a 12% discount today to lose a 24% discount next year.

Bill B. · Answer

Don’t forget your screwing your self for the next 29 years with lower deductions if you take them all year 1. You’re not creating deductions out of thin air. You’re simply taking them today instead of in the future. While there is the argument that money saved today is worth more than money saved in the future. Much if not most of your deductions if taken all in one year will be against lower tax rates than if you took some each year. (As a married couple. Deductions on income  over $206k saves you 24%, $96k-$206k saves you 22%, but any further deductions only save you 12% or less.) 12% tax savings this year isn’t much of a deal compared to 22-24% off next year. Plus. If you ever sell without a 1031 you’re stuck paying depreciation recapture up to 25%.

Stephen Nelson · Answer

The 500-hour material participation test is the hardest. But six other methods exist too.

For STRs, the "more than 100 hours between you and your spouse AND no one else participates more" is often the sweet spot. That threshold is actually pretty easy to achieve.

Also for a supremely well-timed and cleverly structured investment you can often use the "substantially all the participation" method which means you can materially participate with a few hours. Like the time you spent looking for the property plus a couple of hours of housekeeping? That may be enough.

Stephen Nelson · Answer

Waiting decades to take a depreciation deduction isn't cost free.

With 3% inflation, for example, a deduction worth $50K in year 1 is worth maybe $20K in year 30?

Also we serve a lot of physicians so know the salaries some make. And they're often easily saving 37% plus state taxes on $200K or $400K or more of income.

Stephen Nelson · Answer

@Matthew Samson, so I think you probably need to be buying something that's more than $1,000,000 to get close to $200K of first year depreciation. (Bonus depreciation in 2025 is 40% right?)

FYI, you want to look at short-term rentals as another alternative. That would let you keep your job and then get the giant deductions with relatively few hours. (With short-term rentals, you just need to average rental intervals of 7 days or less and then usually either carefully time the investment for late in the year or spend more than 100 hours to get material participation.)

Two other comments:

1. I'd connect with @Sean Graham to see his calculator. I know we've got those at our blog (JavaScript written by ChatGPT interestingly!). So it is absolutely possible to get actionable planning insights from a calculator.2. My rough estimate above is based on the sorts of study results @Julio Gonzalez 's team has repeatedly done for our clients. (We've worked with his crew a lot over the recent past.)

Todd Goedeke · Answer

@Stephen Nelson if the 2017 tax cuts are made permanent bonus depreciation will be 100% for 2025.

Using total bonus 1st year depreciation of 35% means that a $550k property will yield  about 200k in deductions.

Matthew Samson · Answer

Thanks all for your help! We're absolutely in the 37% tax bracket, and very much subscribers to the present vs future value of money. Any future transactions would be done via 1031 exchange, to kick the can down the road as long as we can (/ forever). Given our high W2 cashflow, the idea is to take aggressive year 1 depreciation on a succession of new purchases, at least until we've offsite a lot of my wife's taxable income.     Sean, I'd love to see your calculator. Looking forward to connecting!The short term rental loophole is definitely intriguing; just worried a bit about the 500 hr time commitment with a full time W2 job (and a newborn). Also, is it overkill to put all 500 hours into just one property? Would that raise IRS eyebrows?Will take y'alls advice to connect with a CPA to get into the details.Thanks again!

Aaron Zimmerman · Answer

@Bill B. - your point is absolutely valid about going too low and dipping into the 12% or 10% tax bracket. However, let's say they're in the 37% tax bracket, the maximum that the depreciation would be recaptured is 25%. So, you're gaining the time value of money AND paying less tax overall assuming they're selling the property down the line.

As others have said, you'll need to be buying a fair amount of property to net $200k in paper losses. I would discuss with a CPA to go over the tax strategy to ensure you're implementing everything properly. REPS and STR loophole are both highly scrutinized areas of the tax code, so you want to make sure you have someone on your team that knows the rules inside and out.

Sean Graham · Answer

Yes, the calculator is a great way to run the scenarios! It will allow multiple inputs / angles.

Roughly How Much Property To Buy To Create $200k in Paper Losses?

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