Tired of Taxes? The Tax Benefits of Multifamily Apartment Investing

There are many reasons and advantages to invest in real estate:

1. Principal pay down
2. Leverage 
3. Cash flow
4. Appreciation

One of the biggest benefits are the incredible tax benefits that allow you to keep more of your money.  These benefits include tax-free refinancing, deferring taxes on your gains by a 1031 Exchange, and legacy wealth transfers to heirs.

But the tax benefits we'll look at more closely in regard to multifamily apartment investing are: 

1. Deduction of expenses before taxes
2. Depreciation
3. Bonus Depreciation

Deduction of Expenses Before Taxes

Employees and business owners are taxed differently.

• Working for a company you are an employee.
• Owning a company (how a multifamily investment is structured) you are a business owner.

As a W-2 employee, you earn a gross income, next you are taxed on your gross income and Uncle Sam takes his money, then you receive your check and pay your expenses from the remaining amount.

As a real estate owner, your property earns a gross income, you deduct your expenses from the gross income, you are now taxed on the net income and Uncle Sam takes his money, then you receive your check.

• As a W-2 employee you are taxed first on your gross income.
• As an apartment owner you deduct first your expenses.

To highlight, here’s an illustration using an equal tax rate and equal expenses for the sake of keeping things simple:

Again, this is an incredibly oversimplified example used only to highlight that:

• As an employee, you pay your expenses after you’re taxed
• As a business owner, you deduct your expenses before you’re taxed.

The bottom line: As an owner you are taxed on less and keep more.

Depreciation

As real estate investors, the IRS allows us to write off a percentage of the value of our building as an expense due to its depreciating useful life. This doesn’t cost us anything and it lowers our tax bill.

Even better, apartments are considered residential and enjoy a faster depreciation time than other commercial real estate. This means more deduction to offset income tax.

And expanding upon depreciation comes the biggest benefit yet.

Bonus Depreciation

Pre-tax deductions and depreciation are benefits for all real estate owners, but with multifamily we have the gigantic impact of an additional tax bonus called Bonus Depreciation.

Under the new tax law signed in 2017, the tax incentive of bonus depreciation allows an apartment owner to immediately deduct a large percentage of the purchase price of their building in the first year.

By doing what’s called a Cost Segregation Report, the owner is allowed to itemize the land improvements and contents of an apartment building (doors, windows, fixtures, landscaping, etc.) at an accelerated depreciation schedule; thus giving larger depreciation, recognized faster by the IRS.

English translation:

The new bonus depreciation has an effective result equal to around 30% of the cost of the building.

A 30% tax deduction immediately available in the first year!

This is absolutely phenomenal.

Example:

Say you buy a building for $1,000,000. Through bonus depreciation you have a year one deduction of $300,000!

That is not a misprint.

$300,000 in immediate tax deductions.

Let the enormity of that sink in.

The effective result:

• Tax-free cash flow

• Eliminating gains on other passive investments

• Real estate professionals can use the deductions against personal income

Bonus depreciation is an immediate, gigantic tax loss that can also be carried forward to future years and applied towards other passive income, reducing or even eliminating taxes paid.

You keep more and Uncle Sam gets less!

There is no equivalent tax benefit in the stock market like there is in multifamily.