What To Know About Capital Gains Tax On Commercial Real Estate

Preparation is crucial for taxes, whether you plan to utilize software or hand-write your form. Even if you’re prepared, getting started with tax preparation can be difficult, but it doesn’t have to be. When it comes to capital gains, commercial real estate investors should be knowledgeable and understand it at a fundamental level. 

How Do Capital Gains Taxes Work?

Having a sound tax strategy is essential for multifamily or commercial real estate investing. Otherwise, an excessive tax bill could eat up a substantial percentage of your profits. Capital gains tax is the most important of all the taxes that an investor may have to pay due to their investment. 

Capital gains taxes are due when a taxpayer makes a profit from an asset sale such as commercial real estate, bonds, or valuable collectibles. Ordinary personal and commercial income and the sale of a person’s primary residence are normally exempt from capital gains taxes.

Rates Of Capital Gains Tax On Commercial And Multifamily Properties

Capital gains taxes are levied on properties held for less than a year, whereas long-term capital gains taxes are levied on properties held for more than a year. In general (at least from a tax standpoint), “flipping” a business property and selling it in a year or less is more expensive than holding it for a longer period. 

Capital gains tax rates, like income taxes, vary depending on a taxpayer’s income during the year in which they sell a property. The following rates are currently in effect:

  • 0 to $39,375: 0%
  • $39,376 to $434,5500%: $15%
  • $434,551+: 20%

What Are The Types Of Commercial Real Estate For Investment?

Commercial properties can be used for a variety of purposes; however, the following are the most common:

  • Industrial Property: Commercial properties like these might be among a commercial real estate fund’s most valued assets. Industrial properties are frequently leased to high-credit, long-term tenants for multiple years, resulting in consistent and significant positive cash flows.
  • Multifamily Property: These assets typically have shorter lease terms and more turnover than commercial properties that are more business-oriented, such as industrial and office buildings.  
  • Office Building: The most common commercial property is an office building, which can range in size from a single-unit building for a single tenant to a high-rise building with hundreds of tenants.
  • Retail: This type of space is one of the most frequent types of commercial real estate. These commercial sites can range from modest strip malls with a few thousand square feet to large community centers with a quarter-million square feet of banks, restaurants, and specialty stores.
  • Special Purpose: Special purpose commercial property is designed specifically for specific uses, making it difficult to convert or utilize for other commercial reasons. These assets attract a high-quality mix of tenants who pay premium rental rates and benefit from prominent visibility in high-demand areas, making them good investments.

Are There Any Exemptions or Deductions for Capital Gains Tax on Commercial Real Estate?

Investors in business real estate have access to a number of exclusions and deductions that can lower their capital gains tax obligations. The 1031 swap, also referred to as a like-kind exchange, is one of the most popular. By reinvesting the profits from the selling of one property into another comparable property, investors can postpone paying capital gains tax. The Qualified Opportunity Zone program, which offers tax benefits for spending in specified economically troubled regions, is another exemption. Investors can also benefit from deductions like depreciation, which enables them to write off a part of the property’s worth over time, and costs associated with the selling, like real estate agency commissions and legal fees. It is crucial to speak with a tax expert to ascertain which exclusions and discounts might be applicable in each individual circumstance.

Strategies for Minimizing Capital Gains Tax on Commercial Real Estate

One of the most common strategies for minimizing Capital Gains Tax on commercial real estate is through a 1031 exchange. This allows an investor to defer the capital gains tax on the sale of a property by reinvesting the proceeds into a new property within a certain timeframe. Additionally, investing in Opportunity Zones, which are designated areas that offer tax benefits to investors, can also help to minimize capital gains tax. Another strategy is to hold the property for the long term, as the capital gains tax rate decreases for properties held for longer than a year. Finally, engaging with a qualified tax professional can help identify additional strategies for minimizing capital gains tax on commercial real estate investments.

When Should I Hire A Professional?

Professional tax services range from simple filing to long-term strategic assistance. When reporting arduous taxes on commercial properties, tax professionals can save you time and possibly money. Some candidates who should consider hiring a tax specialist include:

  • Those who own a business
  • People going through a major life change (e.g., marriage, divorce, etc.)
  • Those who’ve had a transaction-heavy year (e.g., home sales)
  • Taxpayers who expect tax issues

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Frequently Asked Questions:

What is Capital Gains Tax on commercial real estate?

The profit from the sale or disposal of a commodity, such as business real estate, is subject to capital gains tax. It is determined using the discrepancy between the property’s sale price and its initial acquisition price.

How is Capital Gains Tax on commercial real estate calculated?

The amount of Capital Gains Tax owed on commercial real estate is determined by subtracting the property’s adjusted basis from its selling price. The adjusted basis is the original purchase price plus any capital improvements or other expenses that can be added to the property’s cost basis.

Are there any exclusions or deductions for Capital Gains Tax on commercial real estate?

It is true that a few exemptions and deductions can lower the amount of capital gains tax due on business real estate. For instance, the proprietor might be eligible for a long-term capital gains tax rate, which is typically lower than the short-term rate, if the property is kept for at least a year before it is sold. Additionally, the owner may be able to postpone paying capital gains tax through a 1031 exchange if they reinvest the selling profits into another business property within a specific time period.

Who is responsible for paying Capital Gains Tax on commercial real estate?

When business real estate is sold or otherwise disposed of, capital gains tax is the owner’s responsibility to pay.

What is the current Capital Gains Tax rate for commercial real estate?

Depending on the owner’s salary level and the length of time the land has been owned, different rates of capital gains tax apply to commercial real estate. The short-term capital gains tax rate is usually equal to the owner’s ordinary income tax rate, whereas the long-term capital gains tax rate varies from 0% to 20%.