The Biden Tax Plan’s Potential Impact On Real Estate Investors

It’s been a doozy of a year. 2020 has brought with it a global pandemic, harrowing stock market roller coaster rides, devastating wildfires, Black Lives Matter protests around the country, and an election that had us all on the edge of our seats.
 
In the midst of it all, we learned how to master the art of Zoom meetings, tried our hand at homeschooling our kids, and now have a mask handy in every nook and cranny of our homes, cars, purses, pockets, and more.
 
As we begin to wrap up this year, close the chapter on 2020, collectively take a breath, and look ahead to 2021, you might be wondering how a Biden presidency could impact your real estate portfolio and overall tax situation.
 
In this article, we’ll share some potential implications of President-Elect Joe Biden’s tax plan on your personal tax situation, some things you should consider as we finish out this year and roll into 2021, and some potential actions you might want to take now, before 2020 is officially over.
 
Important: Please note that we are NOT tax professionals. The information in this article is meant to be for educational purposes only and should not be taken as tax, financial planning, or investing advice.
 

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Top Tax Changes Impacting Real Estate Investors Under The Biden Tax Plan

Every new president brings with them a breath of fresh air, a wave of change and hope, and yes, you guessed it – proposed tax changes. And Biden is no different.
 

Below are some key changes under Biden’s tax plan that may directly impact you and your personal tax situation.

 

Restore Pre-TCJA Tax Rates And Increase Social Security Taxes For Individuals With Income Over $400,000

When the Tax Cuts and Jobs Act (TCJA) was passed in 2017, it reduced individual tax rates through 2025, with the highest tax bracket being lowered from 39.6% to 37%.
 
Biden has proposed to immediately restore the pre-TCJA income tax rates for income in excess of $400,000, including an increase of the top marginal tax rate from 37% back up to 39.6%.
 
In addition, Biden has also proposed an increase in social security taxes for those making more than $400,000.
 

What To Do / Things To Think About

If your income is above the $400,000 threshold, this could mean that you might be subject to increased tax rates.
 

One thing you might consider in an effort to offset this potential increase is to pursue Real Estate Professional Status, which would allow you to apply your real estate losses to your other income. Consult your CPA for more details.

 

Increase Capital Gains Taxes For High Earners

When you sell a capital asset for more than you paid for it, the result is a capital gain. Capital assets include stocks, bonds, precious metals, jewelry, and real estate.
 
The tax you’ll pay on a capital gain depends on how long you held the asset before selling it. Capital gains are classified as either long-term or short-term and are taxed accordingly.
 
Long-term capital gains are derived from assets that are held for more than one year before they are disposed of. Biden’s tax proposal would replace the long-term capital gains rates with ordinary income rates for taxpayers earning more than $1,000,000. 
 

What To Do / Things To Think About

If this potential change might impact you, start by taking stock of your current holdings and goals. If you’re planning on holding your assets long-term with no intention of selling in the near future, this may not impact you.
 

However, if you’re planning on selling in the next year or two and paying those long-term capital gains taxes, it might be worth considering whether it makes more sense to sell now.

 

Eliminate Step-Up In Basis At Death For Capital Gains

Let’s say your grandmother purchased a home decades ago for $100,000. Over the years, the property value has appreciated, and the home is now worth $500,000.
 
If your grandmother were to pass away and leave you the house, there is a step-up basis law in place that would prevent you from having to pay taxes on the $400,000 “gain.”
 
Under current law, you would take a $500,000 basis, so if you were to sell the house for $500,000, you wouldn’t owe federal income taxes on the sale.
 
Biden’s tax proposal eliminates this step-up in basis, meaning you would take a $100,000 basis in the home (i.e., the amount your grandmother originally paid for the home). If you were to sell it for $500,000, you would need to pay capital gains taxes on the $400,000 “gain.”
 

What To Do / Things To Think About

If this potential tax change may impact you or your family in the coming years, speak to a tax professional to see if now might be a good time to consider gifting the assets, to avoid the tax implications if the step-up in basis were to be eliminated.

 

Changes To The Qualified Opportunity Zone Program And/Or 1031 Exchanges

Both the Qualified Opportunity Zone program and 1031 exchanges have allowed investors to shelter their growth from capital gains taxes.
 
With Opportunity Zones, you can roll over your gains from other assets into a Qualified Opportunity Zone fund, which can help you defer your capital gains tax burden, potentially indefinitely if your capital is invested for over 10 years.
 
With 1031 exchanges, you can sell one real estate investment property and exchange that for a like-kind investment to avoid having to pay capital gains taxes.
 
Biden has proposed altering these programs, phasing them out, or eliminating them altogether.
 

What To Do / Things To Think About

While it’s unlikely that Biden will be successful in fully eliminating these programs, it’s worth taking some time to consider the possibility. Do you have properties or other investments you’ve been looking to sell?
 

Have you planned for the capital gains taxes? If not, it might be worth assessing your long-term goals for your assets, when and if you would sell, and your plans for the capital gains taxes.

 

Phasing Out Of QBI (Qualified Business Income Deduction) For High Earners

In addition to the changes to the tax rates mentioned above, the TCJA (Tax Cuts and Jobs Act) made it possible for self-employed taxpayers and small business owners to deduct up to 20% of their qualified business income (QBI) from “qualified trades or businesses,” including real estate ventures.
 
Biden’s tax proposal would phase out the QBI deduction for high income earners making over $400,000.
 

What To Do / Things To Think About

If passed, this could impact a significant number of real estate projects and businesses. It might be worth discussing with your CPA the impact of this change on your overall real estate tax picture.

 

Implement A $15,000 First-Time Homebuyer Tax Credit

During the Great Recession of 2008, Congress passed the Housing and Economic Recovery Act, which provided a tax credit for first-time homebuyers, to help encourage homeownership and stimulate the US housing market.
 
In today’s world, it isn’t so much that people don’t want to own homes, but often, due to lack of affordability, and they can’t buy homes.
 
Biden has proposed a similar plan to that of 2008, this time providing a $15,000 first-time homebuyer tax credit to allow affordability and accessibility to first-time homebuyers.
 

What To Do / Things To Think About

If you’re reading this and have never owned a home, this could be a good time to consider buying your first home. If this first-time homebuyer tax credit is passed, and interest rates remain at record lows, it could be one of the best times to buy.
 
If you’re not a first-time homebuyer, this tax credit might still impact you and your real estate portfolio. If passed, this tax credit could encourage a significant number of renters to purchase homes, thus driving up demand in the residential real estate market.
 

This is especially pertinent if you are thinking of purchasing rental properties, as the increased demand could lead to an increase in housing prices.

 

Reduce The Estate Tax Exemption From $11.18M To $5M

Another thing the TCJA (Tax Cuts and Jobs Act) did was to double the estate tax exemption to $11.18 million for individuals. This means that a person could pass away with up to $11.18 million in assets and not have an estate tax due.
 
Biden has proposed a reduction in this exemption, from $11.18 million to $5 million.
 

What To Do / Things To Think About

This potential estate tax exemption reduction, in combination with the elimination of the step-up in basis, could mean that your estate could get squeezed from both ends.
 
If you have over $5 million in assets and are concerned about the estate taxes you could owe under Biden’s proposed reduction, talk to your CPA about gifting some of your assets now, before the end of the year.
 
 

Elimination Of Bonus Depreciation

One of the most impactful things to come out of the TCJA (Tax Cuts and Jobs Act) for real estate investors in particular was the ability to immediately deduct a large percentage of the purchase price of eligible assets through bonus depreciation, rather than writing them off little by little over the useful life of that asset. This is a form of accelerated depreciation.
 
For example, when you spend money on improving your property via new appliances, furniture, landscaping, and other real estate property improvements, you can use bonus depreciation to deduct the entire cost in the year you spend the money, or you can deduct them little by little over time.
 
Biden has proposed that bonus depreciation be eliminated altogether, something that could drastically impact the numbers on your K-1s.
 

What To Do / Things To Think About

Depreciation is largely a tax deferral strategy. In the case of passive real estate investing through syndications (group investments), for example, bonus depreciation allows for more paper losses during the hold time of the property.
 
Bonus depreciation can help offset any taxes owed on your passive income. However, when the asset is sold, you would be subject to depreciation recapture tax.
 
Due to the time value of money, bonus depreciation is a big benefit to real estate investors. If eliminated, this could have a significant impact on many real estate projects.
 
 

Plan Of Action

Faced with a largely Republican Senate, Biden definitely has his work cut out for him if he’s going to enact any of these proposed changes.
 
It’s unlikely that any of these changes would happen overnight, though this change in leadership is a good time to reassess your overall investing and wealth goals, consider the possibility of each proposed change and its impact on your investments and your life, and take action if needed.
 
Here are some things you might want to do:
 
  1. Assemble your team of trusted professionals to help you navigate any potential changes
  2. Define / refine your investing and life goals
  3. Consider doing what it takes to qualify for Real Estate Professional Status
  4. Consider paying taxes at the lower rate now, rather than later
  5. If applicable, consider gifting assets to heirs now
  6. Consider converting some or all of a traditional individual retirement account to a Roth account. You’ll pay tax on the conversion, but at this year’s lower rate.
 
Overall, now is not a time to panic, but rather, a time to reflect, strategize, and re-evaluate your goals. We’ll be keeping a close eye on any potential changes.
 
If you’re interested in investing alongside us in upcoming real estate syndication opportunities, we invite you to join the Goodegg Investor Club.
 

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