Originally posted by @Tony Kim:
Originally posted by @Tushar P.:
Originally posted by @Tony Kim:
Originally posted by @Tushar P.:
Originally posted by @AJ Shepard:
In addition to that, Syndication allows you to compound your money for years without paying taxes until the property is sold while generating a positive cash flow, so investments will be extremely tax efficient!
Perhaps you could have underlined the words “until the property is sold” and added a fine print that when the property is eventually sold the taxes due will be more than the taxes saved because depreciation recapture is taxed at a higher rate than long term capital gains rate 😏
Here is a an example of someone paying thousands of dollars in tax preparation each year in order to record the paper losses noted in K-1.
https://www.biggerpockets.com/...
My guess is paper losses were significant because the GP did cost seg to solely benefit themselves and the middlemen - most LPs are busy professionals, not real estate professionals, hence cost seg doesn’t benefit them but their money is nevertheless used by the GP for GP’s tax benefit. If these significant losses are not recorded in LP’s tax return then upon exit (when the property is sold) the LPs will pay more taxes than due because depreciation recapture will apply even if losses were not recorded in prior years’ tax return. And if the losses were recorded and used/captured during the hold period then the LPs will still pay more taxes than saved because depreciation recapture is taxed at a higher rate than long term capital gains rate.
I don’t think real estate investing offers any unique tax benefits (except for people with REP status who are slogging their a$$es harder than W2 employees, which doesn’t necessarily mean they are earning more), though it definitely offers some unique tax disadvantages. But highlighting those will be conflict of interest for many on biggerpockets 😉
I love this post Tushar, but are you sure you're comparing apples to apples? I agree that recapture is higher than LTCG, but the accelerated depreciation would be offsetting ordinary income during the duration of the deal. The LTCG component does not change with or without recapture. The recapture rate calculation when your ordinary income tax rate is higher than 25% gets extremely complicated.
I agree that folks often overstate the tax benefits of RE. There's a reason why we are able to depreciate our buildings....it's because cap expenses take a huge bite!
I think this was discussed in another post, that distributions during the hold period are treated as ordinary dividends generally for REITs, while for syndications they are treated as qualified dividends (taxed at ltcg rate). So for syndications the accelerated depreciation would be offsetting qualified dividends rather than ordinary.
But since the distributions form a small fraction of the total gains from the syndication (most of the gains are ltcg), chances are high that accelerated depreciation from the next deal will offset a big chunk of ltcg from the exited deal, irrespective of whether the distributions during the hold period were treated as ordinary or qualified dividends.
I agree that most people don’t look at depreciation as a loan/subsidy by the govt, maybe because their ego doesn’t allow them to admit that their investment would not produce competitive yields without subsidies or maybe because they don’t understand the entire value chain.
Got it. So I guess it varies depending on the type of syndication in which you are invested. In all but one of my syndications, the K-1 indicated either ordinary income or net rental income which would mean the accel dep offset my ordinary income. The only one in which the K-1 indicated dividend income was in an HML fund that converted to public REIT, which was a grand-slam for the investors till Covid took a little bit of luster off the shine.
Yes, the distributions may get treated as qualified dividends depending on how the GPs manage the deal. I wonder if the GPs even care about that - I think they are generally more interested in talking about what benefits them (i.e. cost seg). I’ve come across only one GP so far who explained how cost seg will benefit him but not the LPs 🙂
I wonder if your suspended losses (generated via cost seg) were higher or lower than the ordinary income. If lower then all good. But if higher (likely because cost seg losses are much higher than few years of distributions) then there will be a good portion of losses suspended after offsetting the ordinary income, leading to ltcg being offsetted by the suspended losses upon deal exit. I am assuming there may be studies/research on the actual impact of such things by institutional money managers. I need to find those rather than assume what the potential impact on taxes.
Regarding reits, my understanding is that dividend distributions from reits are always taxed at ordinary rate, which is the reason it is advised to be held in tax efficient accounts (e.g. 401k, IRA). I'm trying to get rid of the reits from my brokerage accounts for that reason. Regarding stock dividends, almost 100% of the dividends I receive every year are qualified dividends (taxed at ltcg rate), as noted in 1099-Bs.
