The reasons for selling a rental property vary. Landlords who personally live in and manage their properties may move and want to buy a different investment property near their new residence. A landlord may also want to cash in on the appreciation of a rental property rather than accumulating cash flows through rent. It may even be a case of a property that is losing money, either through vacancy or not enough rental income to cover the expenses. Regardless of the reason, real estate investors looking to sell will have to deal with taxes in some way shape or form.
A deferred exchange, also called a 1031 exchange (after the IRS code section that allows it), permits the seller of rental real estate to take the profits from a sale and invest them in another rental property without having to pay taxes. This is a federal tax provision that is also honored by all but two states (Georgia and Mississippi). It is referred to as a deferred exchange because taxes will have to be paid when the last property is sold. However, because there are no limits on the number of 1031 exchanges you are allowed to participate in, you could continually roll over profits into new properties and never pay taxes. You must use an exchange facilitator or other impartial third party to hold the proceeds between sales, and the transactions must conform to strict timelines.
When you sell rental property, profits, or capital gains, and losses are categorized as either short-term or long-term. Short-term profits are taxed at the same rate as ordinary income. Long-term capital gains are taxed at between 5 and 15 percent, depending on your tax bracket. Neither short-term nor long-term capital gains are subject to the social security tax. The maximum long-term capital gains rate is typically lower than the ordinary tax rate for most people selling real estate. To qualify for the long-term rate, you have to hold real estate for at least one year. Se sure to speak with your CPA or tax preparer about the specifics of any sale so you are prepared.Read more
Do I need different insurance if I’m house flipping? What type of coverage do I need for vacant homes?
Make sure you are properly covered! Vacant homeowners insurance (vacant home insurance hereafter) is special insurance protection placed on a residence that is expected to be empty or unoccupied for over 60 to 90 days, or perhaps much longer. Every insurance policy offered by a property insurer is different and there are even variations from State to State, but no “regular” homeowners insurance policy is able to cover a house that is not being lived in.
In order to properly protect the home, the existing policy needs to be cancelled and a special vacant home or vacant building policy needs to be put in place. A new policy has to replace the old. The vacancy policy is not the same as the existing homeowners policy in most cases. The homeowner has to understand what the differences are, and also should expect to pay much more for a vacant homeowners policy.
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As an investor trying to build a significant portfolio of rental properties, it’s in your best interest to have a good relationship with small local banks within the areas you plan to invest. The local credit unions or savings and loan will provide several distinct advantages over larger commercial institutions (like Bank of America). When you’re in the in the market to purchase additional units or to refinance some of the units you own, these local banks will be your best resource for those funds. The following are 3 advantages of using your local lender for your financing needs.
- Quick Loan Decisions: Your local bank is often going to make decisions at a quicker pace than the larger commercial bank. Loan officers are often on the spot and decisions need to be checked by less people as it moves up the change of command. The banks appraisers are also typically local and will be able to put a value on the property mush sooner.
- Local Banks Know the Market: Being local means they institutions have an intimate knowledge of the local real estate market. They understand the trends in particular neighborhoods and can better evaluate particular loans that hit their desk. If you’re investing in a hot spot of the city and values are quickly trending upward, the local credit union is more likely to be aware of this trend and make the loan more comfortably.
- Adjustments to Lending Criteria: Here is where your relationship with the banks really comes into play. The typical commercial lender has a minimum credit score, maximum loan to value ratio and other guideline that they need you to fit… and if you don’t you don’t get the loan. Your local savings banks will also have guidelines for lending but will allow for some wiggle room based on the applicant’s history and reputation. If you’ve had a long standing account history with the bank and have done what you say in the past this will mean something here. For example, if you’re trying to purchase a new rental unit and don’t have the full 20% down payment (commonly required for investment purchase), you’re more than likely able to negotiate this requirement than you are with a large commercial bank. If you can show that you have a long standing history of re-payment and have completed several other projects, your savings bank will usually bend for you.
Supply & Demand: Like everything else in the economy when the supply of a particular good increases the price will typically decrease. This is simply because buyers can buy somewhere else if not with you. You can’t over charge for a home if your neighbors 3 doors down are also selling a very similar house at a lower price. The two of you are competing with each other and will actually drive price down for both of you. Conversely the opposite is true if the supply of homes for sale is low. If buyers don’t have many options to choose from then sellers can usually charge a premium or create a bidding war. When buyer demand is higher than the available inventory of homes it creates a “sellers” market. When the supply of available homes for sale is high and demand is lower is creates a “buyers” market.
Municipal Improvements: New roads, bridges, schools and highway expansions all have an impact on property values. The downtown redevelopment taking place in Quincy is a perfect example of this. Quincy is in the process of converting the city’s downtown area in the same way Boston did the big dig. The city is directing major traffic away from its center and creating alternate routes to major highways. The city also built a new high school and middle school. Major projects like these have a tremendous impact on the property values for surrounding homes. Existing residents tend to stay in place with improvements happening while new residents are trying to get into the area pushing demand upward. The opposite can happen to a city’s home values when the wrong projects are puts in place or there is a long-term lack of improvement.
Inflation: Inflation is described as “The rate at which the general level of prices for goods and services is rising, and, subsequently, purchasing power is falling.” Inflation affects the value of your property by changing its replacement cost. If the prices are going up in general then we can assume the materials to build a home are getting more expensive …which means the total cost of replacing your home will go up. If you walk down the aisles of home depot today the cost of building products are significantly higher than they were 10 years ago. Labor wages are always on the rise as well. If material cost and labor cost of building a new home are trending upward then the cost of existing homes (already built) will follow closely.
Cash Flow: This is where property owners have the most control. Your cash flow is the monthly rents you collect minus the properties operating expenses. You can positively affect the properties cash flow (and value) by increasing the income and lowering expenses. Income increases come from raising the rents as well as finding other sources of income …like laundry, parking and storage. If all else remains, as cash flow is improved the property’s value will increase.
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