Investing in real estate is one of the best ways to build wealth – especially when you invest passively through syndications. There are numerous passive investing tax strategies for real estate investors, that most people don’t take full advantage of.

In a recent interview on the Truly Passive Income podcast, we broke down the key passive investing tax strategies real estate investors need to know, with Amanda Han and Matt McFarland – CPAs and tax strategists who specialize in helping real estate investors save on taxes.

The Key Tax Benefits of Investing in Real Estate Syndications

Passive real estate investing is not just about the financial returns; it’s also about the attractive tax benefits. Let’s explore the passive investing tax strategies and see how they can lead to significant tax savings:

Losses from Depreciation Offset Income

One of the biggest tax advantages of rental real estate is depreciation. Even though your properties are likely gaining value, you get to take a tax deduction each year for the “loss” in value due to wear and tear.

This paper loss generated by depreciation can be used to offset taxes on the income the rental property produces. For example, if your share of a syndicated property’s income is $10,000 but depreciation creates a $15,000 loss, you would show a $5,000 loss overall on your taxes.

This concept is central to passive investing tax strategies. This depreciation deduction is especially powerful in the early years of rental property ownership. Amanda and Matt point out that syndications will provide these depreciation losses to passive investors automatically on a K-1 statement.

Shelter W-2 Income

For passive real estate investors who qualify as real estate professionals, these losses can also be used to offset W-2 income from a day job.

To qualify, you must spend over 750 hours per year working in a real estate trade or business, and more than 50% of your working hours for the year should be in real estate activities.

If you meet these qualifications, the losses from passive real estate investments can shield your W-2 earnings from taxes.

This is a common strategy among high-earning professionals like doctors who have a spouse that qualifies as a real estate professional. Even if the doctor is still working a 9 to 5, their rental real estate losses can erase taxes on the W-2 income.

Reduce Taxes on Other Passive Income

Even passive real estate investors who don’t qualify as real estate professionals can benefit. The losses from syndications can be used to offset other passive income.

For example, if you invest in a syndicated apartment deal that produces a $20,000 loss, and you also own a few single-family rental homes that generate $15,000 in positive income, the loss from the syndication can wipe out taxes on the income from your rentals.

How To Use a Self-Directed Retirement Account

Many real estate investors are funneling some of their Self-Directed IRA or Solo 401(k) funds into real estate syndications. Amanda and Matt have seen this strategy pay off for their clients:

  • It allows you to invest in an asset you understand rather than leaving it to the stock market
  • Real estate often produces better returns than traditional retirement account investments
  • You still get tax-deferred or tax-free growth on your investments

Some advisors warn retirees to avoid real estate because of something called Unrelated Business Income Tax (UBIT).

UBIT means your IRA could have to pay taxes if a property is debt-financed and operating as an active business. But as Amanda explains, the cost of UBIT is rarely high enough to offset the better returns from real estate.

For example, if stocks earn you 5% returns but a syndicated rental property earns 8% returns after UBIT taxes, you still come out ahead with real estate.

The key is working with your CPA to run the numbers comparing potential returns net of taxes.

Proper Planning and Passive Investing Tax Strategies

As a passive real estate investor, tax planning is crucial to maximize the benefits and avoid negative surprises. Here are some key strategies to consider:

Plan Ahead for Depreciation Recapture

While depreciation gives you hefty deductions in the early years of rental property ownership, it comes back to bite you when you sell.

All of that depreciation gets “recaptured” at a 25% tax rate when you sell the property at a gain. This can lead to big tax bills for passive investors who don’t plan ahead.

As soon as you know a syndicated property is set to sell, consult your CPA. Amanda suggests looking at offsetting the gains by:

  • Carrying forward previous passive losses from other investments
  • Accelerating depreciation deductions on other rental properties you own
  • Reinvesting the proceeds into another property via a 1031 exchange

With the right planning, you can entirely offset depreciation recapture taxes.

Consider an “Opportunity Zone” Investment

If you’ve sold a property, business, or stocks at a gain, investing those proceeds into an Opportunity Zone investment lets you defer paying taxes right away.

You can put off the tax bill until 2026 by rolling those gains over into an Opportunity Zone syndication. And if you hold the investment for 10 years, any gains on that investment are tax-free forever.

This powerful incentive can save loads on taxes from the sale of almost any appreciated asset. Amanda and Matt have used it successfully for clients selling real estate, businesses, and stocks.

Offset Gains with the “Lazy” 1031 Exchange

One of the simplest ways to avoid taxes on gains from selling a property is the 1031 exchange. But Amanda and Matt suggest a “lazy” approach if you want to defer taxes but aren’t keen on being a landlord again.

If you take gains from selling a property and reinvest them into a syndication in the same tax year, you can offset the gains with losses from the new syndication investment. Especially if the syndication is doing cost segregation or accelerated depreciation to produce large losses quickly.

While the IRS may scrutinize this approach, it is a way to get 1031-like treatment without having to buy another rental property yourself.

Be Aware of State Taxes

Amanda and Matt caution passive investors to pay attention to potential state tax obligations as well. If you invest in syndications across multiple states, you may receive K-1s from each state.

You may or may not have a requirement to file tax returns in those states. Check with your CPA on filing thresholds to avoid unnecessary state tax bills.

Choose the Right Syndication Partner

The impact of all these tax strategies hinges heavily on picking the right syndication partner. Passive investors rely on the sponsor to execute tax-efficient investing strategies.

Matt suggests vetting the syndication team thoroughly – and he literally means searching their names plus “fraud” as one background check!

You want sponsors with a proven track record over many deals, not first-timers. And take the time to understand the investment strategy, projected returns, and timeframe. If the deal is too complex or lengthy for your goals, keep looking for one that aligns better.

Ready to Save More on Taxes with Passive Real Estate?

As you can see, passive real estate investing unlocks incredible tax advantages. But you have to be strategic and work closely with your tax advisors to maximize the benefits.

For a deep dive into real estate investor tax strategies, be sure to check out Matt and Amanda’s book Tax Strategies for the Savvy Real Estate Investor.

If you’re interested in becoming a passive real estate investor, be sure to download our FREE Passive Investor Toolkit!

If you’re interested in passive real estate investing and maximizing your gains with effective tax strategies, listen to the full audio of the Truly Passive Income episode for Amanda & Matt’s full interview and insider tips. Or watch the full episode on YouTube below.

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