Investing in real estate syndications offers a compelling way to grow your wealth, but it’s not just about passive income and appreciation. One of the most attractive features for savvy investors? The tax benefits. If you’re considering diversifying your portfolio with real estate, understanding the tax perks of syndications can be a game-changer. Here’s a high-level look at why real estate syndications can be a tax-friendly investment.
1. Depreciation: Lower Your Taxable Income
Depreciation is one of the most significant tax benefits in real estate investing. The IRS allows property owners to deduct the cost of the property over its useful life (usually 27.5 years for residential and 39 years for commercial properties). This is true even if the property’s value is actually increasing over time.
When you invest in a syndication, you’re part-owner of the property, which means you also get a share of the depreciation. This “paper loss” can offset your passive income from the investment, effectively lowering your taxable income—even if you’re still seeing positive cash flow.
Bonus Depreciation: Thanks to recent tax laws, investors can take advantage of bonus depreciation, which allows a large portion of a property’s value to be depreciated in the first year. This can result in substantial tax savings, especially in the early years of the investment.
2. 1031 Exchange: Defer Capital Gains Taxes
A 1031 Exchange allows real estate investors to defer paying capital gains taxes when they sell a property, as long as they reinvest the proceeds into another “like-kind” property. This strategy helps you grow your portfolio faster by keeping more of your profits working for you.
While 1031 Exchanges are more commonly used by direct property owners, some syndications may offer a 1031 Exchange option upon exit. If this is something you’re interested in, it’s worth asking your syndicator about their strategy for deferring taxes when properties are sold.
3. Pass-Through Deductions: The 20% Tax Break
Under the Tax Cuts and Jobs Act, investors in pass-through entities, like LLCs and limited partnerships (which is how most syndications are structured), can deduct up to 20% of their qualified business income. This means that some of your earnings from a real estate syndication could qualify for a tax deduction, reducing your overall taxable income.
4. Interest Expense Deductions
The interest on debt used to acquire a real estate property is generally tax-deductible. For syndications, this means that the mortgage interest on the property can reduce the taxable income of the investment. These deductions are passed through to investors, which can further reduce your individual tax liability.
5. Capital Gains Treatment on Sale
When the property in a syndication is eventually sold, investors typically benefit from long-term capital gains tax rates, which are lower than ordinary income tax rates. If you’ve held your investment for over a year, you’ll pay the long-term rate, which can range from 0% to 20%, depending on your income bracket. This is a much more favorable tax rate than what you’d pay on your regular income.
6. Offset Other Passive Income
Income from real estate syndications is considered passive income, which means it can only be offset by passive losses. Luckily, the depreciation and expenses from the syndication often generate passive losses, which can be used to offset other passive income you may have (like earnings from rental properties or other syndications). This can help reduce your overall tax bill.
7. Potential to Use a Self-Directed IRA
If you’re investing through a Self-Directed IRA (SDIRA), you can grow your investment in a tax-deferred or tax-free environment (depending on whether you use a traditional or Roth IRA). While there are some additional rules and complexities when using retirement funds, the potential for tax-free growth is a significant benefit to consider.
The Bottom Line
Real estate syndications are not just a powerful way to build wealth passively—they’re also a smart tool for tax optimization. From depreciation to capital gains treatment, the tax benefits can significantly boost your overall returns. However, like any investment, it’s essential to consult with a tax professional who understands real estate syndications to make sure you’re taking full advantage of these benefits.
By leveraging the tax perks, you can not only enjoy passive income but also keep more of that money in your pocket, making your investments work harder for you.
Interested in learning more about how real estate syndications can help you achieve your financial goals? Reach out to us today to explore your investment options!