Real Estate Revealed: How to AVOID Paying Taxes...(Legally, of course)

What's up you guys, it's Graham here! So have you ever wondered how so many people seem to avoid paying taxes legally? Of course, even though they might be making a ton of money. Have you ever wondered how you could avoid paying taxes legally, of course, even though you might be making a ton of money? Well, you came to the right video! So here's how, and these are some of the strategies that you can use in real estate to potentially wipe out any tax you would owe on this income.

Now keep in mind that these are all completely legal, and it's not like I'm talking about any magic witchcraft here. But it is very important to remember that every individual situation might be a little bit different, and it's important to speak with a CPA instead of listening to someone on YouTube for all of their tax advice. There we go!

So with that said, let's get into the video.

Now, number one is that any expense that you have in real estate is almost always a write-off against that income. For instance, let's say that you have a toilet that breaks in one of your rental properties, and that's a hundred dollars to fix. Well, guess what? That is a tax write-off. Maybe you go and hire a property manager to manage that rental property. Well, what you pay that property manager is a tax write-off.

Or let's say that you hire me for a one-on-one paid consulting call. Well, guess what? Most likely, that would be a tax write-off. Just about anything you spend that's related to the income that you make in your business is seen as an expense, and because of that, it becomes a tax write-off against what you make.

So let's take this as an example: You make ten thousand dollars a year in gross rent, but then you end up paying a thousand dollars a year to a property manager. You then also pay an additional five hundred dollars a year in property taxes, and maybe you pay an additional $2,000 a year in mortgage interest. Then, let's say you pay an additional $1,500 in random expenses related to that property.

So now you've taken your income down from ten thousand dollars a year down to five thousand dollars a year, and with that, you've decreased the amount of money that you would want taxes on that income. So even more now could be applied to that five thousand dollars to bring it down even further, and that brings us to step number two.

This is often how people can make tens of thousands, or sometimes hundreds of thousands of dollars a year, but on paper somehow they're showing they're making a loss every single year, and they walk away with all of this money completely tax-free. Now, here's a very basic example to show how this works.

So here's how it works in very basic terms: the IRS says that your property has a lifespan of twenty-seven point five years. This means that every year that goes by, your property on paper becomes less valuable. Their reasoning behind this is that things wear out over time and need to be replaced, and with that, things just get older to the point where on paper after twenty-seven and a half years, your items will have worn out, and you would need to replace them.

Things like the roof, or the water heater, maybe the foundation needs some work, or maybe the house just gets torn down. After twenty-seven and a half years, you have to do the whole thing over again, but on paper that is the lifespan of a property. And this is where that sweet, sweet depreciation comes in.

This means that if your property, the structure itself, is worth two hundred and seventy-five thousand dollars, you divide that over twenty-seven and a half years, and that gives you ten thousand dollars a year as a write-off, as depreciation.

On paper, that is essentially your paper loss. So let's take the previous example here where you had ten thousand dollars of gross rent and you brought that down to five thousand after your expenses. But wait a second! Now, this depreciation – and you have ten thousand dollars of depreciation against five thousand dollars of income that ended up in your pocket.

So now you can actually show on paper that that property gave you a five thousand dollar loss after depreciation. Even though you profited and made five thousand dollars in your pocket, that five thousand dollars could be seen right there as completely tax-free money.

Now, it gets even more insane when people are buying million-dollar properties and just appreciating them insane amounts just to wipe out their income entirely. So people take this certainly to an extreme, but this is the general principle in exactly how it works.

So with that said, let's go on to number three. This is probably one of the most used tax write-offs when it comes to real estate, and also one of the coolest. For those that aren't aware of it, this is what's called the 1031 exchange.

This is really one of the best benefits of real estate: you can do what's called a 1031 exchange and pretty much indefinitely defer paying taxes on the money that you make when you sell a property, as long as you replace that property with a like-kind, which means that you basically sell one property for another property, and you don't pay taxes when you do that.

So as a very basic example here, let's say that you bought a property for $100,000 in cash, and now it's worth, drum roll please, $300,000. This means that if you were to sell that property at $300,000, you would be paying taxes on $200,000 worth of profit.

That, at just a basic 15% capital gains tax, would be $30,000 in taxes that you would have spent. That would buy you a lot of my Real Estate Agent Academy courses (link in the description), or that would also buy you a lot of my coaching calls (link in the description).

So then you think about that. You think, "Well, I'd rather save that $30,000 because Graham Steffen recommended that in his video." And then you do what is called a 1031 exchange.

So by doing a 1031 exchange in that example, you're able to sell that property for $300,000, and then, within a specified time frame, move that money into another property. Let's just say it's $500,000, and you defer paying taxes on the $200,000 of profit that you made.

You've saved the money that you would have been spending in taxes, and you moved it into a better, bigger deal that could then grow again. And then all of a sudden, you do the same thing again. Now you've deferred paying taxes on your profit and been able to use that extra money to fund an even larger deal that then goes and makes you even more money.

Of course, I am simplifying things a lot in this example, and there are plenty of specifics that you have to identify a few properties by a certain amount of time. You have to close on those properties within a certain time frame, so this is really just the basic blueprint outline of how the concept works.

But this is really one of the best tax advantages of investing in real estate that allows you to pretty much sell, buy, sell, buy, continuing to profit bigger and bigger amounts, completely with tax-deferred growth that just lets it grow even bigger.

Now number four, and this would probably apply to most of you watching if you own your own place, is the capital gains exclusion. This is also one of the major reasons why I disagree with Grant Cardone's "buy what you rent, but rent where you live" – I think I got that right – because that completely ignores this advantage of completely making tax-free money.

The concept of this is very simple: if you own a primary residence and you live there for two of the last five years, you can sell that property up to $250,000 of profit if you're single, or $500,000 of profit if you're married, and owe zero tax on that! Like seriously, where else can you make up to $500,000 of tax-free profit if you're married by simply just owning where you live? That's why this is so amazing!

So in this very basic example, let's say that you bought a property for $500,000 in 2010, and then you got married, and now today that property is worth $1,000,000. This means that you can sell your property for $1,000,000, and that $500,000 you just made is completely tax-free.

Ordinarily, with any other investment, like with stocks or anything else like that, you would have to be paying a long-term capital gains tax, which on that could be anywhere between 15 and sometimes 20 percent, plus potentially state income tax on top of that.

So this method would save you fifteen to twenty percent or more on taxes, which could equate to six figures. You could save a hundred thousand dollars by doing this over simply selling long-term capital gains stock with the same amount. So hypothetically, if you're married and can get five hundred thousand dollars of extra value per home, you could be making two hundred and fifty thousand dollars every single year simply by buying a property, adding equity to it, living in it for two of five years, selling it, and doing that entire thing again, all tax-free!

Now number five, and this might seem a little common sense, but I have to mention it here: there is no tax on appreciation until you actually sell. This is similar to owning a stock, by the way, that goes up in price. You're not paying tax on that stock until you actually sell it, and until then, this profit is what's called an unrealized gain.

The same thing applies to real estate. If your property is going up in value five percent a year, your net worth is going up that same amount, even though you're not paying taxes on any of that additional net worth that you're getting.

But wait a second! Because I do realize that there are some people in the comment section right now just getting ready there to get ready to go and type some angry comments like, "Graham, that's it! You can't use that money, real money, until you sell that." No! Get back!

I'm glad you got angry and asked, because that leads me to number six. This is what I like to call the cash-out refinance or HELOC, which stands for home equity line of credit. The benefit of doing this is that you can access all the money that you've made completely tax-free, without ever actually making any money in the eyes of the IRS.

You don't actually make any money until you sell. Now since you're actually not really technically making any money since you're borrowing against something you haven't sold yet, there's technically no tax to be paid.

So, in another good old example, let's say that you bought a property for $100,000, and now it's worth $200,000. If you were to sell that property, assuming you weren't living in there for the last two or five years and it's just an investment, and you're not doing a 1031 exchange, you would have to pay taxes on one hundred thousand dollars worth of profit.

So instead of doing that, you simply borrow the money that's already in the property. So you have that money; it's sitting there to pay off the loan at any time. But you're borrowing against money you already have. This is what I did with the duplex I recently bought. It was worth over two hundred thousand dollars more than what I had into it, so I simply pulled out an extra $100,000 completely tax-free.

This is an extra one hundred thousand that I made more than that, actually, that I didn't have to pay any tax on whatsoever that I can then go and reinvest to make even more money. So this is my way of making an extra six figures without paying taxes, as though I were making an extra six figures.

Now, the same thing also applies to a HELOC, which is basically like using your house as collateral. The HELOC is almost like a credit card in that you can charge things to your house, and your house is used as collateral, and then you make payments to pay down the HELOC over time.

Many people end up doing a HELOC, by the way, if they want to renovate a property. Let's say that they want to spend thirty thousand on the kitchen. They don't have it, but they own their home outright. They can borrow the money from the home, renovate the kitchen, and add more value to the property simply by making some renovations.

Number seven, and this is one of the major advantages of getting rental income over just about anything else, is that rental income doesn't pay self-employment tax. Now, usually, if you're self-employed, you pay a 15.3% tax; some of that goes towards Medicare, some of that goes towards Social Security, but it's about 15.3% of whatever you make.

Now, even if you're an employer and, let's say, you're on a salary, even employees pay a part of this self-employment income, except their portion is about half. So you're paying about 6.2% towards Social Security and Medicare if you're self-employed.

But guess what? Rental income doesn't pay any. This means that rental income, right off the bat, saves you fifteen point three percent in self-employment tax, and rental income versus your normal salary job is saving you another 6.2 percent or so, give or take, on Medicare and Social Security that you don't have to pay.

This also doesn't take into account all the write-offs that you have, all the depreciation, your ability to do a 1031 exchange, and defer more taxes almost like indefinitely. So there are a lot of advantages here of not only making rental income but using some of these tax advantages in real estate to avoid paying taxes, legally of course.

Alright, now drum roll for number eight! And this is something that also would apply to just about anybody who owns a property; it's what's called the mortgage interest deduction. The IRS says that with a rental property, you can deduct all of the interest that you pay against your rental income, thereby lowering the amount that you would pay in taxes on that income.

Not only that, but with a primary residence, one that you're living in for yourself, you can deduct the interest off the first seven hundred and fifty thousand dollars of the mortgage that you have. So let's just say, as another very basic example, that you itemize your deductions and you made eighty thousand dollars last year, but you also paid fifteen thousand dollars in mortgage interest last year.

That means that that fifteen thousand dollars can be subtracted from the amount of money that you made, which is eighty thousand dollars. And all of a sudden, you're paying tax now on sixty-five thousand dollars of income instead of eighty thousand dollars of income. That is often a good example of saving money by keeping a mortgage rather than paying it off early, especially if you have a super low interest rate.

Now, in another video that some people either really disagree with or really agree with, but I'll let you make that choice, and the link to that is in the description.

Now finally, number nine, and this is like the holy grail for all the real estate professionals out there. This is the best one, and this is what's called the title of being a real estate professional. Now becoming a real estate professional opens up many advantages and many doors that some people just don't have access to.

And now to become this requires two things: the first one is that you spend more time doing real estate activities than doing anything else. And the second is that you spend at least 750 hours per year doing real estate activities.

The biggest advantage of being a real estate professional is that you can often use your paper losses to offset other earned income that you get. So remember that example where you had five thousand dollars of profit, but then you showed a ten thousand dollar depreciation? Well, that means that you showed a five thousand dollar loss.

But what can you do with that five thousand dollars? Well, in this example, let's say that you made five thousand dollars, let's say, mowing lawns. Well, all of a sudden, since you had a five thousand dollar loss in rental income on paper but you made five thousand dollars over here mowing lawns, you combined - and all of a sudden that five thousand dollars that you made over here, poof! You don't owe any tax on that, because all of a sudden that depreciation wipes out the money that you made because you're a real estate professional.

Now, I really hope that made sense. I hope that's basic enough. If it doesn't make sense, just comment down below, let me know, but I hope that example worked.

So anyway, this is why becoming a real estate agent while also investing in real estate is the perfect combo, because this allows me to depreciate the properties that I have, where I show a paper loss that then goes and offsets the income I make working as a real estate agent, thereby lowering my taxes even further.

Now, of course, non-real estate professionals can also benefit from this as well, but only if their income is below $100,000 a year, and this depreciation and this loss is capped at $25,000. So in this case, you're still able to do this up to $25,000 per year. But if you anticipate making way more than $100,000 a year, this is one of the many advantages of simply becoming a real estate professional.

So anyway, you guys, those are some of the strategies that people use to avoid paying taxes legally, of course, and some of the strategies that you might be able to implement as well.

Now remember, I'm not a CPA, and this is not financial advice, and this channel is purely for entertainment purposes only. It's really up to you to do your own research to determine what is best for you and your specific tax situation since we're all different.

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