Quote:
Originally Posted by ArkTinkerer
How do you treat that extra money as far as taxes are concerned?
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So the money is treated like a deposit until either they execute the contract which will then be treated as part of the selling price and I will then have capital gains tax and depreciation recapture. If they do not execute the purchase and defaulted on the funds then I will have to claim the funds as income during that tax year.
Each month the tenant has more and more funds at risk and has more incentive to execute the contract. The reason they wanted to do this was they were concerned about their ability to finance 2 yrs ago. They had already been renting for 3 yrs at that point. The term to execute is 4 yrs so a couple more to go. When time comes they will have a lot of "equity in the house" at closing and I have had the luxury of using the funds before the time of sale. I have used the funds to pay down principle which has reduced my borrowing costs. I did recently use a HELOC on that property to purchase another property that I am going to use for a housing cost hack. I will disclose what I did to the board once I have a track record on how it is going. The price we set has an adjustment in it if we decide to extend. They have asked me to extend a little longer. We set a price that I was comfortable with and they were comfortable with. I lost some potential appreciation but it could have gone the other way. At the time I did the contract I had a lot of risk. For me the house is too much risk to keep as a rental when I leave the area next year and I wanted to get rid of it on my timeline. In my area I like my townhouses for rentals instead of this McMansion which was a primary residence at one point. I do get a nice IRR on the capital I have tied up in the house.
I may do a 1031 exchange to a property that I might want to occupy at some point. I have nothing in mind and may decide to just bite the bullet on the taxes at time of sale. I say that but honestly the thought of paying the taxes might push me into the 1031 exchange near an area where I eventually will inherit 6 more homes. Needless to say my strategy to avoid the tax payment longterm is to pass it through an estate. Of course I am putting that off as long as I can.