Top Tax Related Tips for Real Estate Investors
Managing all aspects of your real estate investments should be considered a business and as such should be taken seriously for a number of reasons. A major one is how it is going to be treated for income tax purposes. In the following article I will be going through what I think are the top tax tips for real estate investing.
What you need to know:
Taking some time now to consider and implement what I think are some of the top tax tips can save you time, money and effort, and help you establish a reliable system to support your real estate investment.
Just in case you don’t have an organized system for all your real estate related documents, there are a few steps before you start pulling out receipts and expense logs…
Know your real estate investment style
It’s important to consider your real estate investment style. Are you a long term rental property investor or a property flipper – a short-term buy/sell investor? What is your comfort level for risk and market conditions? If you have rental property investments, are you actively involved in the property management or do you use a property management company? Do you like all the aspects of what you are doing related to your real estate investments? Can you delegate some? What are your strengths and weakness? What is your time worth?
Understanding your investment style is fundamental for you and for one of your most important supports for your real estate investment – your accountant.
Knowing this distinction is critical as the tax authorities treat flipping real estate significantly different than long term investing. For example, even if you are a long term investor and sell a property in a short time (a year or two after purchase) the tax authority may look at the property as inventory and lean towards treating the gain as business income vs. a capital gain. This can have a significant impact on your income and subsequent taxes. Recently, Canada Revenue Agency has made a point of focusing on the real estate investor and looking at this very important aspect of real estate investing. This leads me to the importance of the next tips.
Find a knowledgeable accountant
Having a good accountant on your team is invaluable. It’s important that they’re experienced in understanding and navigating the tax regulations regarding real estate investment. They should be able to guide you in structuring your business, maximizing your deductions while staying within the legal boundaries, as well as maximizing your profits. Your accountant can’t do it all though, so it’s important for you to follow their advice, keep your business organized and stay informed.
If you’re part of an investment group, ask your group members for recommendations for a good accountant. If you already have an accountant for personal purposes, make sure they are also experienced regarding real estate investment tax – not all accountants have a practice with that expertise.
Once you’ve selected an accountant, be sure they understand your real estate investment style and focus; also keep them informed of any changes. Make sure your business system is set up to provide your accountant with the information and documentation they need to prepare your tax return. Their ability to help you maximize your profits and reduce your taxes is only as good as the information you provide them.
One other major aspect of your real estate investing that requires some serious consideration is an overall exit strategy for all or part of your portfolio, whether that means selling your assets, passing them on to family or leaving them in or transferring them to a trust or corporation.
Get and stay organized
As many of our clients know from investing with us, utilizing the investor binders that we or our developers provide each client when they have completed their purchase is a simple yet effective tool that keeps all your property related paperwork and information organized throughout the year. This in turn helps you avoid the dreaded last minute search for property statements, receipts and related documentation in March and April.
You need to be organized in your accounting and bookkeeping. By keeping track of your income and expenses, you can save a lot of money when it comes time to forward your files to your accountant. There are many digital bookkeeping programs that are relatively inexpensive to track all of your income and expenses related to your properties. I use a simple bookkeeping program called Quicken and it works great for me. It’s always better if you can organize every income and expense item in your real estate business into a digital bookkeeping system that is easily accessible and hopefully compatible with your accountant’s systems.
Before purchasing a bookkeeping program it may be wise to consult with your accountant regarding the best system for you to use. Many digital bookkeeping systems are also compatible with your bank’s systems, which enables smooth flow of information. It is important to have all your real estate investment deposits, bills and expenses transacted through bank accounts and credit cards specifically designated for your real estate investing business for better tracking.
If you’re not comfortable managing a digital bookkeeping system, hire a bookkeeper to keep track for your business’s deposits and expenses each month – it is well worth the investment and the expense is deductible.
As previously mentioned, whether you have one or multiple real estate properties, keeping your investments organized like a business and tracking expenses month by month will save you time, effort and money.
Know your eligible expenses:
Whether you have invested through our turn key investing or you are self-managing your properties, understanding what expenses are deductible is integral to your real estate portfolio profitability.
- Advertising Costs – The fees to market your rental unit can be deducted from your income.
- Bank Charges – Check all your statements. Don’t forget your monthly and annual fees.
- Depreciation of Assets – Depreciation is one of those expenses that can make sense to include or not depending on your particular situation and how it is treated. In Canada, depreciation of the building portion of the asset is recaptured upon the sale of the property, so it is important to understand the impact on your taxes and bottom line. Consulting with your accountant on how to best approach this type of expense is very important. Depreciating your appliances and the like may be worth doing as they will need replacement at some point in the future. Your accountant will guide you through this process and may take care of that aspect in your tax return when filing. Even an older property can have significant depreciation benefits due to recently installed fixtures and fittings. You can claim capital cost allowance (CCA) on appliances within your property as well as the building itself if the income is positive. This should be considered if you are in a higher tax bracket now compared to when you retire. Later, when you retire and your income is lower the capital gain on sale and the recapture of CCA can be taken into income at lower tax rates.
- Gardening – If you pay for all the gardening/lawn mowing for your Rental Property (and it’s not part of your property management service package), ensure that you claim for all the costs. If the tenant pays for this, you cannot make a claim.
- Repairs and Maintenance – All repairs and maintenance related to the property whether you do it yourself, hire someone or if you are a passive investor and it is included in the expenses that determine your investor distribution. Check with your accountant to find out if it’s an instant write off or a capital cost claim.
- Home Office – You may write off a portion of your utilities, internet, interest on your primary residence mortgage, insurance, etc. directly related to the running of your real estate investment business. You also may be able write off all office expenses directly related to the running of your real estate investment business. Again your accountant will guide you as to what is applicable or not. This step is very important as you do not want to misreport when filing.
- Insurance Premiums – Your insurance premium in full can be claimed for your rental property.
- Interest Fees – The interest fees associated with your mortgage, related loans and credit cards expenses are all write offs. The mortgage interest and most operating costs are tax deductible against the rents received. For your credit cards or loans, the loans must be used for your rental property expenses in order to claim interest fees.
- Professional Fees – Accountant fees, legal fees, appraisals, property inspections, etc. can all be expensed.
- Property Management Fees – The fees you pay to your property manager are all tax deductible; be sure to get a month end report of your property and its expenses.
- Property Taxes – The property taxes of your rental unit can be expensed.
- Travel – In addition to mileage and Vehicle Expenses mentioned below, you may be able to claim travel expenses, especially if you manage the property yourself and you live a long way from your investment property. Travel expenses related to attending professional development and education opportunities regarding real estate investing may also be deductible.
- Vehicle Expenses – Certain expenses for your vehicle can be written off such as; financing charges, fuel, maintenance, insurance, parking etc. as they relate to your accessing/maintaining your investment properties. You need to maintain accurate travel logs for your vehicle as to what you were doing so that you can claim the expense.
Other things to consider:
- If there are any losses incurred in your investment, then the losses are deductible against other income.
- In Canada, when the property is eventually sold and is not considered business inventory, the appreciation in value is treated as a capital gain and only half the appreciation is subject to tax.
- Unlike interest income and dividend income, you can include rental income in your total earned income calculation on your tax return to determine the maximum amount you may contribute to an RRSP.
- Buyers of property will pay a provincial transfer tax that varies among the different provinces. An exemption may be granted on the first piece of Canadian property purchased by a buyer. Getting a good return on investment can begin with knowing which provinces have the lowest transfer tax.
- Upon death, you can transfer the property to your surviving spouse without triggering any tax consequences until the surviving spouses dies.
- If you have several properties and your spouse helps you take care of maintenance or administration, they can claim a reasonable salary, thus benefiting from income-splitting. Income splitting can also be achieved by holding the properties in joint names.
Words of advice re dealing with the Canada Revenue Agency (CRA):
- Pay attention to any and all communications from CRA
- Meet their deadlines – don’t incur unnecessary fines or legal actions
- Talk with your accountant to ensure your complying with tax regulations while maximizing your profits related to your real estate investments
When to incorporate your property business:
Incorporating may or may not make sense for your situation, so it’s important to seek advice from your accountant and other professionals such as your lawyer, insurance agent and lender. I recommend reading Don R. Campbell’s book, 81 Financial and Tax Tips for the Canadian Real Estate Investor for more information and background on the pros and cons of incorporating your business as well as other considerations for real estate investors.
Taking the time to hire an accountant with a real estate investment tax practice, treating your real estate investments like a business and staying organized, and paying attention to my top tax tips will set you up for a smooth tax season and a profitable year.