Reasons to Sell Multi-Family Property
Deferring taxes through a 1031 Exchange
If you’re considering selling your investment property you need to make sure to understand all of your options, such as a 1031 exchange. When investors sell their properties they end up hooked on paying capital gains tax. If it’s a bad investment there is a chance that selling the investment property can cost the investor more than they make off the sale. However, if the investment property is worth more when selling than it did during the initial purchase, then investors can greatly benefit by using a 1031 exchange.
In a 1031 exchange, investment property owners sell their current property and reinvest the profits from the sale into another property that is of equal or greater value. A 1031 exchange allows the investor to avoid paying capital gains taxes when selling their properties. Although most swaps are taxable, if investors meet the 1031 requirements they’ll either have no tax to pay or a limited tax payment at the time of the exchange.
The benefit of receiving a tax deferral through a 1031 exchange is that it grants the investor more capital to invest in the replacement property. There is no limit on the number of exchanges you can do. Investors can continue to roll over the profits from one commercial investment to another as many times as they’d like to.
New depreciation schedule
Commercial real estate is an asset, not an expense, for that reason, the IRS does not allow write-offs the year that you purchase the property. The IRS requires that the asset depreciates every year by a relatively small amount, creating a gradual loss of value. Depreciation is a tax-deductible that must be spread out over the property’s recovery period. Commercial real estate properties generally have a 39-year recovery period.
A depreciation schedule shows the depreciation amount over the span of the property’s life. For tax purposes, the depreciation expense is calculated to write off the cost of purchasing high-value assets over time. Owners of commercial property are able to reduce their tax bill by depreciating the value of their property. For every year you own the commercial property you are able to deduct the depreciation costs as a tax write off.
In order to continue to write off the depreciation of your property for as long as possible, the best approach is to sell your current property and buy another one, leaving you with a new depreciation schedule. Let’s say for example you’ve owned your multi-family property for 20 years. That means you have been writing off the depreciation on your building for the past 20 years, leaving you with 7.5 years left of write-offs. Once those 7.5 years run up you are no longer able to write off the depreciation of your building as a tax cut. To avoid that you should sell that building and buy another commercial property to renew the depreciation schedule. Once you buy the new building then your new tax schedule is set at 27.5 years, allowing you tax cuts for an extended period of time.
Diversify portfolio for a different asset class
Diversification is a technique that manages risk by incorporating a wide variety of investments within a portfolio. A diverse portfolio that is made up of a variety of different assets have, on average, lower levels of risk and higher returns. The positive performance of some investments neutralizes the negative performance of others. The more you invest in diverse assets the more secure your portfolio becomes. Selling one of your multi-family properties to use the cash to invest in another asset class, such as NNN, will help diversify your portfolio and will shift you away from risk.
Appreciation in another area
One of the main purposes of investing in a multi-family property is to financially profit from the cash flow the property generates. If investors are no longer profiting from their investment due to the location of their property then there is no benefit to keeping that property. Many multi-family property owners sell their properties to leave a market that is slowly losing its value to buy in another market that is experiencing appreciation.
Location is an important factor when investing. For example, if the neighborhood in which your current commercial property resides in is experiencing a decreasing population then you may become at risk to lose tenants and may find it difficult to find new tenants to fill vacancies. A decreasing population, in turn, causes the value of your property to go down because there is no longer a demand for the housing. A property that can’t fill vacancies and is losing value is not as profitable as it should be and the return on investment becomes lowered. At that point, you should strongly consider selling that property and investing in a location that is experiencing a growing population to be able to maintain the highest possible return on your investment. A growing population indicates an increase in property values because of increasing demands. It also means that you will not have that hard of a time finding tenants to fill the units because they are in demand.
Often times when multi-family property owners sell their property, the decision has little to do with the property itself, rather the responsibility accompanied by the ownership. Commercial real estate investing is not a part-time job, rather it can take a lot of time and can be relatively strenuous. Making sure tenants are satisfied, tracking down tenants to pay rent, being on top of maintenance, insurance, and property taxes can take a toll on most people and takes away large chunks of time that could be applied to other things. Selling a multi-family property can be a huge relief for those that find themselves constantly short on time and resent having to manage the property.
Take on a new loan with a different interest rate
Commercial real estate loan rates tend to remain steady from year to year. However, there can be significant variation over the course of a 10 or 20-year commercial real estate loan. Current commercial real estate loan rates generally range between 10% and 20%, depending on the loan you apply for. It’s important to make sure that you have a loan at a rate you can afford. If you find yourself struggling to make your loan payments, it’s worth considering selling your current property and investing in a property that requires lower loan rates, providing you with some relief on your payments.