Florida Landlord Network

Before You “Give it Back To The Bank”
Do Your Homework

We speak with hundreds of landlords every week.  Plus five times that number by email and discussion forums, etc.  It’s great because we get a good feel for the market and sometimes spot emerging trends.

One trend that really disturbs me is the number of investors, especially landlords, who are preparing to walk away from their investments because they are losing too much money.  Sadly, many of them are in that group of folks who jumped on the gravy train in 2002 to 2004 or so.  They paid top price just before the market crash.

Still others, more experienced investors, refinanced many of their properties to take to generate cash for more investments.  Now, they are chocking on the debt and believe they have no choice but to “give it back to the bank”.

It’s a decision that’s easy to understand.  If your savings are gone and all sources of income are insufficient to sustain you something has to go.   That’s when husband and wife have the fateful chat around the bank book and begin to identify priorities:  food, clothing, shelter, etc.  Everything that doesn’t make the list when the money runs out is history.

There is an item that is almost never considered and it’s huge!  IRS.  And there is no escape.

Earlier today I spoke with a woman who has been acquiring properties for five or six years.  She has nice rental homes in the $150k to $250k range.  The cash flow has always been tight but isn’t it always in the first few years of real estate investing?  She’s also a real estate agent.  Nuf said!

Lately, some of her tenants have been having trouble paying the rent and have downsized.  Now she has two vacancies and both will need a bunch of cash to get ready to re-rent.  Her savings are gone and she’s pretty sure she’s going to have to throw in the towel.  She’s considering personal bankruptcy and foreclosure of her rental properties.  She said she knows it will hurt for a while but in a few years she should be able to push ahead again.

I asked her if she’d ever heard of “recaptured depreciation”.

I explained that when she sells a rental property – or no longer owns it (foreclosure) all of the depreciation she has taken since its purchase comes back (recaptured) and taxed at 25%.  This is different from “Capital Gains” which most investors understand.

We ran some quick numbers and estimated that she paid about $1 Million for all of her investment property.  Assuming she owned them for five years she had taken about $170k in depreciation and all of that will be brought back in the year she no longer owns the property and will be taxed at 25%.

In most cases a Foreclosure is treated as a sale for tax purposes.  In her case it means she will owe IRS about $42k.  She told me she doesn’t have it.  She mentioned bankruptcy and I reminded her such tax debt is difficult to discharge in bankruptcy.

Now, each situation is unique including yours.  You accounting and legal professionals should be consulted far in advance of foreclosure or your rental property as there may be specific remedies in your case. 

So, before you decide you can’t sustain a continuous $1,000 per month negative cash flow, sit down with your tax advisor and run the numbers.  For many of us it would be a tragedy to exchange that monthly loss for a five figure debt to the IRS.

Do you homework!

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