Understanding Tax Deferred Investments: A Guide for Real Estate Investors

Updated: Dec 23, 2020

Aside from diversifying your portfolio, the ability to take advantage of the tax benefits is one of the main reasons to invest in real estate. However, if you’re not careful, when it comes time to sell your investment property, you can get hit with a pretty hefty tax bill. Fortunately, though, there are ways to invest in real estate while deferring those taxes to a later date. With that in mind, below are the best tax-deferred investment strategies. Some options include;

Self-Directed IRA (SDIRA)

Regular IRA vs. SDIRA

As the name suggests, a self-directed IRA allows you to have more control over your Investments. Unlike other IRA accounts, which limit you to investment vehicles that can be traded on the stock market, including stocks, bonds, mutual funds, exchange-traded funds (ETFs), annuities, or Real Estate Investment Trusts (REITs), self-directed IRAs allow for more flexibility. With this type of account, you can also invest in alternative investments like real estate, cryptocurrency, hedge funds, or individual businesses and partnerships.

In particular, with a self-directed IRA, you can invest in real estate assets such as:

  • Residential real estate

  • Commercial real estate

  • Vacant land

  • Mortgage notes

  • Foreign real estate

  • Tax liens

Understanding the tax benefit of an SDIRA

Similar to a regular IRA, you have the option of opening a traditional or a Roth SDIRA. If you choose a traditional SDIRA, you do not pay taxes when you contribute to the account. Instead, you’ll pay taxes when you eventually withdraw the funds. On the other hand, with a Roth SDIRA, you pay taxes on the money you contribute to the fund.

Typically, if your goal is to get the biggest tax benefit, it makes sense to go with a Roth SDIRA. This way, you’re only paying taxes on the amount that you contribute to the fund, rather than the amount you contribute plus any growth that occurs over time. Additionally, a Roth SIDIRA gives you the certainty of knowing what taxes you owe. With a traditional SDIRA, you’ll have no way of knowing the size of the tax bill that you’ll be responsible for in your golden years.

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