Wealth Building With Real Estate
Three little ideas that can mean big upside for your clients.
September 20, 2007
by Alan Haft
Although there’s plenty of bad press and dark clouds over the housing market these days (see related story in today’s issue), it’s hard to argue that real estate will remain a foundation of many people’s wealth for a long time to come.
As AICPA Wealth Management Insider readers well know, building wealth with real estate can be as simple as buying a house, living in it for many years and eventually selling it for a profit. Building wealth with real estate can also be as “simple” as investing in a commercial property such as a shopping center and collecting an income from it while it presumably appreciates in value.
That said, the purpose of this article is not to address the more familiar scenarios above, rather, to summarize three often overlooked concepts that could be helpful to your clients:
Let’s take a closer look at each.
In its simplest form, a 1031 exchange provides your client with the opportunity to defer payment of capital gains tax when selling one property for another. By deferring taxes owed on a sale of a property, your client basically has more money available to purchase a new property, essentially receiving a “tax-free loan” from Uncle Sam on the amount of money that would have ordinarily been lost to taxes.
Although 1031 exchanges are relatively simple to implement, there are a handful of important points to understand:
There are many other important issues that need to be addressed before any transaction takes place, but hopefully the above summary demonstrates that a 1031 exchange can certainly be a worthy benefit to consider before someone sells an investment property.
One of the main shortcomings of a 1031 exchange has nothing to do with the process itself. Rather, it has to do with the common problem of simply not being able to identify a “like kind” property worthy of purchase after the original property is sold.
In such a case, you might advise your client to consider one of the many Tenant-In-Common programs available in the country. Otherwise known as a “TICs,” “fractional-ownerships” or “co-ownerships,” these programs provide real estate investors with the opportunity to purchase a partial or proportionate interest in an existing property, instead of owning the entire property itself.
Although a 1031 exchange can take place when “rolling” the proceeds of the sold property into a TIC, some investors shy away from these programs given the lack of controlling interest. Conversely, some investors might actually prefer a TIC program given the management of the property is off-loaded to a third-party, obviously at a cost.
That said, when a 1031 is desired and a property cannot be identified, one might consider a TIC program in order to defer paying the capital gains.
Using IRA Money to Invest in Real Estate
When it comes to building wealth with real estate, this is without a doubt one of the biggest surprises out there. Unbeknownst to many, it is entirely legal to purchase real estate using individual retirement account (IRA) funds, but there are a handful of restrictions and important details to consider before doing so.
Technically speaking, IRAs cannot invest in things such as artwork, rugs, antiques, metals, gems, stamps, coins, beverages, stock in an S corporation, life insurance and other tangible personal property. Other than these items, everything else is generally fair game, including real estate such as land, commercial property, residential property, real estate options and real estate loans.
Although using IRA funds to purchase real estate is generally simple to implement, there are a few restrictions and important details to consider such as:
Needless to say, the above covers only the general concepts of using IRA funds to purchase real estate. But when it comes to building wealth from investing in real estate, if there is one concept many investors are not aware of, hands-down, I’d say this one is it.
As with all concepts mentioned above, be sure your client understands all the details well before diving in. After all, when it comes to investing, taxes and just about everything else, it’s the details that always count the most.
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Alan Haft is a nationally-recognized author and investment advisor. He offers securities through Workman Securities Corp., Eden Prairie, MN . Member FINRA/SIPC. For more information, please visit http://www.alanhaft.com.