YOU probably know that owning real estate is one of the best ways to shelter your income from taxation. But beyond that, how much do you really understand about your property's tax basis, deductions and depreciation?
If the answer is, "Just enough to know I should let my accountant handle it," you may be making a costly mistake, writes Sandy Botkin in "Real Estate Tax Secrets of the Rich."
Handing the job over to your accountant to work financial miracles for you is like saying, "My doctor takes care of my body," then eating all the fattening foods you want, never exercising and expecting the doctor to fix you, he says.
Learn enough to pursue your own tax strategies and direct your accountant, Botkin says, otherwise you can lose thousands in deductions and write-offs. "A solid knowledge of real estate taxation can increase most people's rate of return on their homes and investment property by 10 percent to 20 percent per year."
That's all well and good, but there are few subjects less exciting than taxes, even if a financial bonus is the potential payoff. Luckily, Botkin, a former Internal Revenue Service attorney, seems to understand that. This primer on maximizing real estate tax savings is broken into bite-size chunks and livened up with whimsical illustrations and boldface headings.
Botkin builds his book like a house, starting with the foundation, an explanation of tax basis — the cost of acquisition (or, if the property is inherited, fair market value at the decedent's death). Adjusted basis takes into account gains, losses, improvements and depreciation.
From there, Botkin talks about recordkeeping, new mortgage interest rules, points, deductions and sales. He highlights areas where Congress is considering making changes in tax laws and points out where the alternative minimum tax can come into play.
He starts each chapter with an overview telling you what you're going to learn. Then he explains the concepts, offering up examples, problems and tax-saving tips. At the end of the chapter, he summarizes what he's said. The repetition might be overkill on a simpler subject, but here it's helpful. Just when you're about to think, "Huh?" he presents an example that makes the topic clear.
In a chapter on divorce and death implications, for example, he shows how "Anita," buying their greatly appreciated family home from her soon-to-be-ex-spouse, "Marc," would come out the financial loser because she would inherit the home's original cost basis. He recommends that the house be sold to a third party and that each spouse buy a new home instead.
Some of the book's points apply to homeowners, others to owners of investment property. Homeowners, he says, should focus on improving their homes rather than repairing them. That's because improvements add to a home's basis, which means that homeowners have less taxable gain when they sell. One example he gives: Make gutter cleanup and repair part of a new roof project to have it count as an improvement.
But for investment property owners, it's the opposite: Repairs are better because they're immediately deductible, whereas improvements have to be written off over a period of years. Botkin explains how to make sure that fix-ups are classified as repairs: by fixing a minor portion of a wall or roof, using similar or less expensive materials and repairing after an event, such as a water pipe break, or when something wears out.
Botkin also discusses more complex financial transactions — using seller financing to lower your tax bite (and what to do if the buyer defaults), minimizing passive loss problems and eliminating investment property gains by doing a like-kind exchange.
If all this sounds too complicated to handle on your own, don't worry, you can keep the accountant. Botkin recommends against doing your own returns because people make too many mistakes. But after reading his book, you'll have a better idea of where to look for the tax savings.