Are higher property taxes causing you to re-think your Austin rental property strategy?
Whoa! That was the reaction most folks had when they got their property tax appraisal this year.
After recovering from the sticker shock, we got the usual calls and emails asking about how to protest the tax value. But this year our investor clients also started asking if it was time to re-evaluate their rental property strategy.
Given the rising tax burden, that’s a good question. The tipping point depends on your personal situation and the amount you still owe on the property.
In some cases it makes sense to hold firm because the higher property taxes are a sign that the property is increasing in value. The increase in value gives you greater stability in the market over the long term. On the other hand, selling and restructuring your portfolio may make sense if you have built up enough equity to leverage your investment.
Here is what I am telling our clients.
If your focus is growing long-term wealth:
When you owe less than half of what your property is worth it’s usually time restructure your investment so that you leverage more of the bank’s money and less of yours.
Specifically, I suggest selling the high tax value property and reinvesting in other up and coming areas -- particularly if you can diversify your investment. By buying a less expensive home, you’re likely to have a lower tax burden and your money will go further. You might even be able to buy multiple properties and watch them grow just as you did with the first investment. If you repeat this enough times you will have a nice real estate portfolio that can help pay for your retirement.
Diversifying the type of properties you are invested in will also defray your risk as market conditions change. For example, you might sell one property and invest in three others in different areas of Austin. Or, perhaps you buy a multi-family property or even a beach home that generates vacation rental income.
If your focus is on short-term cash flow:
No doubt, taxes will eat into your profit. If you’ve reached a point where the tax burden has substantially limited your rental income, it may be time reassess your investment. To protect your cash flow, you might consider selling and investing in suburbs like Anderson Mill, Quail Creek, Cedar Park, or South Manchaca. Right now, cash flow and appreciation are going gangbusters out there.
Keep in mind, however, that investing in up-and-coming communities comes with added risk. When growth slows – and it always will – homes in those areas will see significantly less appreciation. In my experience, those communities are also the first areas to be affected during a real estate slow down, especially if we see job loss like we did in the 2001-2005 downturn.
Either way, tax avoidance is preferable.
Whatever you do, tax avoidance is preferable. I’m not talking about fudging the rules. Rather, I suggest using a tool that’s been approved by the government for tax deferment. It’s called a “1031 Exchange.” A 1031 Exchange allows you to sell a property and reinvest the money in one or more other properties and defer your capital gains tax – subject to specific rules, of course.
We personally used a 1031 Exchange this year when we sold some of our Austin properties and reinvested them. I’m happy to share our experience with you or refer you to a tax professional who can walk you through the nuances of the process.
We can talk through your options.
Whatever your situation, we’re always here to walk you through your options and help you strategize on maximizing your real estate investments. Please don’t hesitate to reach out with any questions.
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