The Principle Difference

Depreciation recapture is a tax concept that applies when you sell an asset that you’ve depreciated over time. To understand it, it’s important to first grasp the concept of depreciation itself. Depreciation is the process of allocating the cost of an asset over its useful life for tax purposes. It allows businesses and individuals to reduce their taxable income by deducting the depreciation value each year. Assets like real estate, machinery, and equipment typically depreciate, meaning their value decreases over time.

However, when you sell an asset that you’ve depreciated, the Internal Revenue Service (IRS) wants to ensure that you pay taxes on the value that has been “recaptured” due to those depreciation deductions. Essentially, depreciation recapture happens when the amount of depreciation you’ve deducted in previous years is added back to your income when the asset is sold, subject to tax.

Let’s break it down with an example:

Imagine you bought a piece of rental property for $300,000. Over several years, you’ve claimed depreciation deductions totaling $50,000, reducing the property’s adjusted basis to $250,000. Now, if you sell the property for $300,000, you’ve made a $50,000 gain. The IRS will treat that $50,000 as income, subject to taxation at a higher rate.

In essence, depreciation recapture serves as a way for the IRS to “recapture” the tax savings you received from depreciating the asset. The rules governing depreciation recapture vary depending on the type of asset and the specific circumstances of the sale. For example, real estate is subject to a different depreciation recapture tax rate than other types of assets, such as equipment.

For most types of property, the depreciation recapture is taxed as ordinary income, but with real estate, the portion of the gain attributable to depreciation recapture is taxed at a maximum rate of 25%. This is generally higher than the capital gains tax rate, which means that selling a depreciated asset can result in a larger tax bill than you might expect.

It’s important to note that not all of the proceeds from the sale of the asset will be subject to depreciation recapture. If you sell the asset for more than its depreciated value (e.g., you sell it for $350,000 when its adjusted basis is $250,000), only the portion of the gain corresponding to the depreciation deductions will be recaptured. The remaining gain will be taxed as capital gains.

Understanding depreciation recapture is essential for anyone who owns depreciable assets, especially those considering the sale of such assets. It can affect how you plan for taxes and structure your business decisions, making it a critical consideration when navigating the world of investments and real estate. If you’re unsure about the potential impact of depreciation recapture on your tax situation, consulting with a tax professional is always a good idea to ensure you’re making informed decisions and minimizing unexpected liabilities.

Don’t count on it.

Real Estate is a great store of wealth, and can provide good income in retirement, but it’s typically not something that will make you rich.

This message is for young people that have been watching Tic Tok videos about getting rich with real estate investing. You want to “get into the game” with creative financing and no money in reserve. But if you are trying to buy real estate with creative financing, you are being impatient and foolish.

The people who win in real estate are financially secure. This means they have a steady income, are able to save 25% of their income or more, have 6 months of personal cash reserves, are able to put at least 25% downpayment, and have at least 20% of purchase price in reserve.

Reserves are necessary for large capital improvements such as roofs, HVAC, driveways, patios, turnover and vacancy. If you don’t have money for a significant downpayment, the property will be difficult to cashflow. If you don’t have money in reserve, you may be forced to sell when you don’t want to.

If you don’t have proper financial resources, you are not only putting your big investment at risk, you are putting somebody’s home at risk. Tenants deserve to have an owner that can pay for necessary repairs and maintenance. If you can’t pay for these, you will lose good tenants. If you can’t attract good tenants, your investment is worthless.

The best owners are in it for the long term. They buy great properties at fair prices, not fair properties at great prices. They also realize that the property is not only an investment, it’s somebody’s home. Thus it must constantly be maintained and improved.

Owners that are constantly improving the property will see appreciation and rent increases over the long term. They will have good tenants stay for long tenancies. This will eventually result in passive income for retirement. It will also be something they can pass on – and the next generation will receive a step up in basis upon inheritance, along with a great cash flowing, tax advantaged asset.

If you have bad credit, but you can afford the house, the best way to increase your chance of being selected is to prepay your yearly rent in advance. The prepayment negates your bad credit.

These videos give you a bunch of things to take into consideration when you are deciding to buy or rent.

When evaluating a purchase and making a budget, we are often asked how much is a fair amount to budget for maintenance.

Maintenance costs typically range between $1-$3 per square foot, per year. On a 1500 square foot home, this would be $1500-$3000. Lawn and snow removal on a typical home run about $100/month.

It is also recommended that owners have in reserve 10% of the value of the home for use on capital expenses. Capital expenses include roof, siding, gutters, driveway or porch replacement. For a $150,000 home, it is wise to have $15,000 in reserve for these capital expenses.

Our rental owners come from all walks of life, but they have one thing in common: they have the ability and the willingness to keep up their property in a manner that allows us to attract and maintain quality tenants. This is what they sign off on in order to apply to have us manage the property.

Most of our owners are from Peoria and care about housing stability in our city. Some of them live out of state and some of them live in the same neighborhood as their rentals. The majority of our properties are owned by licensed real estate agents. These are people that know the laws and submit to a code of ethics that is much higher than the law. And they trust us to their higher code of ethics as well.

When you submit a rental application, we look at the whole picture. This includes income, credit, criminal record, evictions, and past rental history. What are some reasons you may not be selected as a tenant?

1. We have a more qualified applicant

The most common reason a person is not approved is because we have a more qualified applicant. Many of our houses are very popular and we receive multiple applications. In this event, we choose THE MOST qualified applicant, but since there is only one house, it is possible to have multiple qualified applications denied because they were not THE MOST qualified.

2. Inadequate or unverified income

We want you to be making at least three times your monthly rent to ensure you can afford it. We need to verify one month’s worth of pay stubs show that your net income is at least 3x rent.

3. Poor credit

We run credit checks. The higher your credit score, the better. We pay most attention to recent unpaid bills, evictions, and high debts.

4. Landlord references

If your past landlord cannot give you a good reference, you may be denied. A past landlord may not give you a good reference if you were constantly late with payments, caused disturbances at the property, did not maintain the property well, left with an outstanding balance, etc.

5. Evictions

Having prior evictions on your record can make it more difficult for you to rent an apartment. If you failed to pay rent and were evicted, this is an indication that you are not a reliable renter.

6. Unstable housing history

The more stable your housing history, the better. If you have vacated a property prior to your lease being up, this is a red flag. This doesn’t mean you’ll be automatically rejected. If there was a legitimate reason for the gap, be sure to explain that upfront.

7. Criminal History

We run criminal background checks. Any criminal charges in which you were convicted may disqualify your application.

8. Pets

Some of our houses do not accept pets. If you have pets and are applying for a non-pet friendly home, you may be rejected on this basis.

1. Our Commitment to our Mission of providing stable housing for our community. This means we only work with rental owners that share our values and have the willingness and ability to maintain their properties in such a way that they can attract and maintain quality tenants
2. We are Innovators – We are constantly looking for new ways to make the rental process easier for everyone. We market our listings to the greatest amount of people, make it easy for them to view the unit, and make the application process quick and easy. In this way we’re able to connect the best tenants with the best homes.
3. Integrity and Transparency – All of our maintenance people are third party vendors with whom we have pre-negotiated rates. We do not have maintenance on staff. This means we are not cutting maintenance checks to ourselves like many other companies do. Additionally, all of our accounting is transparent to our rental owners. They can log in to view the performance of their property anytime, in real time.

This week we were able to partner with Steve and Dina Herrera. Steve and Dina purchased and remodeled the home next door to them in West-Central Peoria. They did a wonderful job upgrading flooring, paint, the bathroom, and even added a deck and she-shed.

We received over 200 inquiries, 22 showings, and 12 applicants in one week. They were able to sit down and choose from several qualified applicants.

We love partnering with owners like the Herreras, who not only are working to improve their family’s financial future, but they’re doing so by investing in and improving their neighborhood. #strongtowns #strongneighborhoods

Cheers to the Herrera’s!!