Is It A Good Idea To Sell Your House? – 1031 Exchange Explained
There are lots of people asking themselves if it’s a better idea to sell the properties, sell your house or simply do a cash-out refi or a HELOC out of it.
The first concept you have to learn is the concept of capital gains. Let’s assume you bought a property not so long ago for $100,000, and then you held it for a couple of years, maybe you did some renovations to it, and now the value went up. Instead of being worth $100,000, now the new value of that property is $150,000. The difference between 150 to 100 is $50,000, and that is what is your capital gains.
Those $50,000 will become your capital gains if you choose to sell that property. Now, you might probably be wondering, “What does it have to do with me as a real estate investor?”. It’s very important that you’re very well aware of that because depending on how much money you make in capital gains, “Uncle Sam” it’s going to determine how much to tax you off of those gains.
What you should keep in mind if you want to sell your house
Two things that you need to keep in mind. Let’s assume that you bought a property. One is to use it as your primary home or your primary residence or to use it as an investment. Let’s say you decided to rent that out to other people to live in. The way those capital gains are going to get taxed will depend on how much money you actually made off of the capital gains and how long you’ve been residing in that property.
For example, you have resided two out of those five years in that property and that your capital gains turned out to be less than $250,000. If you happen to meet these criteria, less than $250,000 in capital gains, and you’ve lived or resided in that property at least two of the total five years, then you pay no taxes on those capital gains, but if you were to have a gain of over $250,000, then Uncle Sam is definitely going to tax you on it. How much money will you get taxed will depend entirely on your tax bracket. It could go from 0% to 15% to 20% depending on what your personal tax bracket is.
Now, let’s say you bought that property and you didn’t use it as a home, you solely use it as an investment property. If you hold this property for over one year, basically, what’s going to happen is, if you decide to sell it after one year will be 15% of capital gains. You might be wondering, “Okay, well, that doesn’t seem fair because I’m the one who’s been working, paying for that mortgage and making sure that everything is running properly. Is there a way to get a tax reduction?”
Sell your house: 1031 Exchange
We’re in the US, and we know everything is taxes and this is no exception.
The good news for you is that you won’t be able to avoid paying taxes, what you can do is that you can defer taxes until further notice with what it’s called a 1031 Exchange. You will have the opportunity to not pay taxes on any capital gains today. What you will do, what Uncle Sam is allowing you to do is defer the need to pay those taxes until whatever future time you have planned. It could be five years, it could be 10 years, it could be 15 years, you name it. The way a 1031 Exchange is going to work is, you need to hire an experienced accountant that actually has experience working with 1031 Exchanges.
Then two, if you’re planning to invest in another property with that money and you’re looking to have a mortgage, then you should definitely let the lender know that you’re looking to do a 1031 Exchange. The timeframe for a 1031 Exchange, is 180 days. Along those 180 days, you have exactly 45 days to identify a new property or a potential property that is going to replace that. It has to be a property of either equal value to 150 or it has to be of higher value.
This is why they say that the rich keep getting richer because the IRS just doesn’t let you go backwards, it only pushes you to go forward. If you’re planning to sell your property and you’re looking to defer your taxes until further notice, then you can definitely leverage a 1031 Exchange, save money on some of those taxes today, and just simply keep deferring it over time, and you will get the benefit of continuous growth of your real estate portfolio.
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