How Coronavirus Is Changing the Real Estate Game
As Will Rodgers said, over 60 years ago, “Invest in Real Estate, they’re not making any more of it.” We know the numbers, each year more Americans need housing yet construction has not kept pace with population growth for almost a decade. This shortfall in construction will continue to cause the price of existing housing and monthly rent rates on existing rentals to grow faster than inflation. These facts continue to make real estate a great investment. However, let’s look at the whole picture. There will be major changes coming for real estate investors that can affect your returns.
For years, there have been two basic ways to invest in real estate.
1. With your, or borrowed money. Whether directly or inside a structure such as an LLC.
2. Invest in real estate using a Self Directed IRA, preferably a Roth IRA. In this case, your IRA buys and owns the property and enjoys IRA tax treatment.
- In scenario 1, investing on your own has advantages. Paying taxes at the long-term capital gains rate at the time of a sale. Or postponing (not eliminating) the tax due by using a 1031 exchange.
- In scenario 2, the Roth IRA has the advantage of not paying income tax on the proceeds earned from the property. Plus, distributions from the Roth IRA are income tax-free after age 59.5
Letting a Roth IRA invest in the property provided the best net return however, investing outside an IRA was not bad either. Not as good as inside an IRA but, still okay.
That was then, this is now.
The Federal Government is faced with a new reality. A reality caused by 30 years of poor planning caped by trillions of dollars of stimulus spent due to the Coronavirus.
American is now both broke and swimming in debt. Congress will need to raise money and start to do so soon if it wants the U.S. dollar to remain the default currency for the world. How will Congress raise more money? Some might say, “Just raise taxes.” However, we know that Congress lacks the courage to legislate an “across the board” tax increase.
A. Congress lacks the courage to raise taxes on the bottom ½ of income earners even though the bottom 50% pay only 3% of the personal income tax collected (the top half pay the other 97%).
B. Congress lacks the courage to raise taxes on the top half because they are in the top half themselves plus, these people are the donors.
Hence, the revenue Congress must find will need to come from somewhere else. The logical ox to gore will be to tax a group that is:
• A small enough voting block that Congress can kick around without jeopardizing a large block of votes.
• Can be a large source of funds.
Who fits that model? Active real estate investors.
Watch for these tax benefits to vanish.
1. Long term capital gains tax for real estate investments held over 12 months. Active real estate investors love this tax break, however, it was put in place years ago to encourage investments in real estate. As that encouragement is no longer necessary and the only people who will complain if this tax break is withdrawn would be active real estate investors; watch for Congress to end this benefit.
2. The 1031 exchange. This is a juicy target for Congress. 1.) It brings taxes due forward to the year of the taxable event. 2.) Outside of real estate investors, it has no constituency to support it. So, expect this tax break too will be cut from the IRS Code.
When the above two items are acted upon by a Congress who is desperate to raise money then Investing in real estate inside a Roth IRA will become “the best play in town”.
But wait, can’t Congress also kill off the IRA?
Not likely. There are over 60 million IRA owners and no Congressman or woman wants to put their name on a bill that could reduce any American’s ability to save for their future. Unlike real estate speculators, IRA owners are seen as good people who are just trying to save for their future. Hence, IRA owners like Social Security recipients are an almost untouchable group.
The first people to buy real estate in their Roth IRA will be the next group to be the most successful long term. The above can also work using a Solo 401(k) however not quite as well because of restrictions on transferring Roth dollars to a Solo 401(k).
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