Calculating Capital Gains Taxes in Investment Real Estate

I received the following information regarding the calculation of capital gains taxes from Asset Exchange Company.  I thought it was laid-out simply for most investors to understand.  Please keep in mind that the best way to avoid paying capital gains taxes is to conduct a 1031 exchange.  These types of exchanges have rigid rules governing timing, values, property type and other factors so be sure to pursue tax and legal advice as well as advice from your exchange accommodator.

Burt

 

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Many property owners are familiar with the “Terrible T’s” in real estate: termites, tenants and trash. Often the “Terrible T’s” become so burdensome that investors decide they want out of real estate altogether.  At that point however, investors become all too familiar with another “Terrible T” – Taxes!  In the state of California, property owners who decide to sell an investment property are subject to the following taxes on gain:

15% Federal Capital Gains Tax

9.3% State of California Tax

25% Federal Depreciation Recapture tax

Calculating the tax bill upon the sale of a property isn’t as hard as one might think, but it does require that you have a firm understanding of how much gain is in the property.  The first thing to understand is how to calculate the Adjusted Basis:

 

Formula	Example
Net Purchase Price	$500,000
(Depreciation)	(100,000)
+Capital Improvements	+25,000
Adjusted Basis	$425,00

 

Once the Adjusted Basis is figured, calculating the Gain is easy: 

 

Formula	Example
Net Sales Price	$1,000,000
(Adjusted Basis)	($425,000)
Gain	$575,000

 

With the gain calculated, tax computations are relatively simple:

 

Tax	Formula
15% Federal Capital Gain	15% * (Gain – Depreciation)
9.3% CA State Tax	9.3% * Gain
25% Depreciation Recapture Tax	25% * Depreciation

 

To defer the capital gains tax liabilities investors have the option of conducting a 1031 Exchange.  For more information regarding the 1031 Exchange process, please call 877-471-1031 or visit www.ax1031.com. Please be advised that this document is not a substitute for professional tax or legal advice.  Asset Exchange Company strongly advises all clients to consult their tax or legal advisors.