Maximizing Homeowners' Savings: Expert Tax Strategies for Real Estate Investments

Since homes often represent clients' biggest asset and expense, financial advisors and tax professionals can help homeowners unlock savings and income from their properties. The following five tax strategies, sourced from interviews with Sam Petrucci, head of advice, planning, and fiduciary services at Neuberger Berman Private Wealth, and Greg Clement, CEO of Realeflow, each carry their own caveats and downsides for some clients. These strategies go beyond the basic federal mortgage interest deduction under the Tax Cuts and Jobs Act, the "Masters" or "Augusta" rule, and credits for energy-efficient home improvements.

"Taxes play a key part in any kind of real estate investing," said Clement. "A lot of people get into real estate to make more income, but what we realize is it's not how much you gain, it's how much you keep."

Despite lower levels of itemization for deductions in areas like mortgage interest, state and local taxes, or moving expenses under current guidelines, tactics such as a qualified personal residence trust, changing a client's residence to a state with lower taxes, or renting out space in a home can still offer substantial savings for homeowners.

Many certified financial planners and wealth management businesses found it beneficial to relocate during and after the pandemic. High net worth clients are increasingly interested in changing their residency for tax benefits, according to Petrucci. The favorable tax treatment for residents' income in states like Florida and Texas attracts those fleeing high-tax states such as New York, California, New Jersey, Massachusetts, and Illinois. State-level estate taxes also influence these moves.

"Financial advisors should be knowledgeable about these issues to discuss major complications with their clients contemplating a move to a new state," Petrucci said.

Establishing a New Residence

Leaving a high-tax state like New York and buying a home in a lower-tax state is just the beginning. Clients must establish residency to avoid extra tax burdens in their former state. This involves adjusting estate plans, voter registrations, and car records; enrolling children in local schools; finding new doctors; joining local clubs; and moving valuable household items to the new home. They must also be mindful of the time spent in their old state and keep accurate records to support their residency claims.

"New York can continue to tax you if it deems you are still domiciled there, based on various factors," Petrucci said. "If you're a New Yorker wanting to establish residency in Florida, you must fully abandon New York. Check each box to ensure a strong case in the event of an audit."

Property Tax Deduction

Some states with lower income taxes may have higher property taxes. The federal cap of up to $10,000 in state or local tax deductions under the Tax Cuts and Jobs Act reduced potential exemptions but didn't eliminate them. Clement noted that property tax exemptions are often overlooked. "That's a big deduction for people," he said.

Qualified Personal Residence Trust

For those considering the long-term future of an estate, a qualified personal residence trust can mitigate the gift-tax impact of a property's appreciating value before transferring it to a beneficiary. This strategy works best for vacation homes rather than permanent residences, where a parent might end up paying rent to their child at the end of the trust's term.

"It's an elegant way to transfer real estate to the next generation efficiently for tax and gift purposes," Petrucci said.

House Hacking

"House hacking" involves renting out a portion of the home to a tenant, often while the owner is living there. This strategy can be challenging in terms of finding a tenant and accommodating a new resident, but it can be particularly profitable for multifamily properties like duplexes or triplexes. Owners can benefit from mortgage interest and property tax deductions or use advanced depreciation methods with professional guidance.

"It's a growing concept, especially in the Airbnb economy. People have been using this term in real estate investing for the last five or six years," Clement said. "Your tenants are paying part of your mortgage, and as a real estate investment property, you get attractive deductions."

Home Office Deduction

Small business owners with home offices can deduct expenses such as homeowner association fees or mortgage bills, proportional to the amount of space used for business purposes. "For many people in this hybrid work environment, their home office would work," Clement noted. Article's source.