Capital Gains - Selling to chase the tax rate?

If you are an investor, you know what capital gains are, so they need very little explanation to most. But considering that some may be investing, or planning to invest/or sell an investment property for the first time, I will provide a simple explanation and crunch some numbers.

When you buy a property and sell it for a profit, or more than you paid for it , then you had a capital gain. If you held it longer than a year, then it is considered a Long Term Capital Gain, and thus subject to a more favorable tax rate.

Number crunching example: Property purchased for $100,000 in January 2008 and sold after January 2009 for $160,000, is treated as a long term capital gain. The $60,000 you made will be subject to a 15% tax, or $9,000.

I am going to ignor ACR ( accellerated cost recovery) and it's effects, to make this a single focus of the Capital Gain Rate. Ask your accountant to help you if you have an investment, and are making plans to sell.
Most of you have heard in the news that President Obama has a tax plan which will effect the Capital Gains rate. When Ronald Regan was President, the rate was 28%, during the Bush administration it was cut to 15% and is still in effect until the end of 2010. President Obama's is planning to raise it to approximately 23%. This may not be the same rate for all tax brackets, so see your tax advisor for your specific set of circumstances.

I have read about some experts suggesting that there will be a huge sell off of investment properties before the rate expires. It sounds logical......maybe.  If this is the case, then that may mean taking a lower price/profit, to get it sold, to avoid paying 8% more in tax on the profit.

Let's crunch some of those numbers so you can see the opportunity, or insanity of such a move.

If you sold your property, for $150,000 at the end of 2010, to take advantage of the 15% capital gains rate, then the tax would be $7,500. (ignoring ACR) If you waited until after the tax change, and sold later at the new tax rate, then it would cost you $11,500 or $4,000 more in taxes. But consider that many others may be selling at that time, and you only got $150,000 when it was actually worth $160,000. If you waited, your gain may have been $60,000 and your tax under the new rate would be $13,800. Look at the net cash to you. Selling quickly made you $50,000 - $11,500 = $38,500 net. Selling later, (possibly) $60,000 - 13,800 = $46,200 net. You might have made more, when less people were selling, if you ignored the tax increase. I don't have a crystal ball,  and cannot predict the effect. 

I don't think anyone can predict the real effect of a tax rate increase on your situation. Bigger or smaller numbers may change the results. Just consider that you should sell properties based on a plan, or the market, or your needs, or the value of your property, and not to chase a tax rate.

New Location - Lease versus Own

Okay, we have done all our homework, considered all the associated costs to move your business. Together we have found the ideal location. Now we need to decide if you are leasing or buying the building.
Maybe you are not sure if you have the ability to buy the building. There is a substantial down payment to consider. But remember, there is also a first and last lease payment and damage deposit due the landlord. Think about the lost cost of leasehold improvements, which become the improved value of the landlords property. Think about all the upfront out of pocket. They may be more similar than you first thought.

There are two different methods when calculating lease versus own. They are, Present Value and Internal Rate of Return. We will compare the after tax cost of leasing versus owning using Present Value. If I were helping you, I would calculate both, but for illustration here, I am only providing PV. I have spreadsheets to assist with these calculations, using both methods, and would provide them to your accountant for their verification. There are a lot of assumptions in any calculations like this, so you need the independence of your accountant or attorney to look closely at all the numbers I provide to see if they fit your specific situation.

With the Present Value method, we add all the related income and expenses for each line item in leasing or owning and come to a bottom line, cash flow after tax. Using those numbers, we then select a PV calculation rate, (which equals what you would receive in an after tax investment, or perhaps the after tax cost of capital) We then reduce the after tax cash flow from leasing and owning to its present value. Remember, the cost of ownership, also comes with selling the property at the end. This includes some of those assumptions I was speaking of earlier. We have to assume that we would sell at some point, and include the estimated cost and estimated appreciation associated with the sale.

Whichever method gives us the lowest present value ( leasing or owning ) will be the one that we should select. If you are confused, let me do it for you. Call me.

Moving your business - More cost or profit?

It is one of my underlying commercial real estate philosophies that business owners, do not give one of the most important decisions in their business life the importance it deserves.  I mean,  the choice of where we locate the business.  We have a general idea of where to locate,  but have you really thought about all the numbers.  Sometimes, overlooking a few can be very costly.  I have met business owners whose business location or building is actually hurting their business. If they looked at the whole financial picture,  they would be gone already.

If you are considering a new location, here's just one item to consider for example:  Will your service or delivery vehicles be closer or further away from their customers?  Six additional miles may not seem like much until you crunch the numbers.  Six  times eight trucks times 600 trips per year adds up quickly.  At a reasonable seventy-five cents a mile,  that's over $20,000. Also consider an additional twelve minutes per employee per trip. Even at minimum wages,  that's about $10,000.  Now consider that you moved six miles closer.  These become savings or additional profit.

You know your business better than I do,  so think about your customers,  your employees,  your vendors.  Can you save money, or improve your service by moving.  If so, then it is the right decision.

There are many more factors to consider when we start to look for a new location for you.  Not the least among those are lease versus buy. But we can crunch those numbers  once we find a place to move and calculate its value to you.      

Would Realtors buy now - July 2010?

I went to a real estate seminar recently and the speaker asked the realtors present, to raise their hands, if they would buy some real estate today, if they had cash to buy. The entire room of realtors, raised their hand.

That should tell you something about this market. Realtors are immersed in it, they live it every day, and despite the media and the problems, every realtor in that room knew there are good properties out there. If you are a buyer with cash you should be looking to make an investment that will make your money work for you.
I hope you are not one of those waiting for prices to go down further before you buy. Instead you should be looking for investment properties that fit your investment profile that are fairly priced now. Waiting for a five percent decrease might lose you ten percent return. We are in a unique market in SW Florida. There are many owner/investor groups who own properties which may only be a very small percentage of their portfolio. Oh yes, we have very wealthy people in our market. They can afford to wait for the market. You have to forget about those owners and find the ones who cannot afford to wait.

Serious sellers are motivated. Interest rates are at an all time low. Properties that are priced right, sell in any market. Buyers with cash should raise their hands, and say you understand the market just like the realtors.