Investors Facing Foreclosure: Defer Capital Gains Tax

Investors Facing Foreclosure:  Defer Capital Gains Tax

Investors Facing Foreclosure can Defer Capital Gains Tax

If you are an investor facing foreclosure, there is a way to defer the capital gains tax – opt instead for a zero-income property exchange.

While this strategy isn’t new, let’s try and determine if it is right for you.

If you are a savvy investor, then you know about the 1031 Exchange which allows you to sell one or more properties and purchase another while deferring the capital gains tax.  If you are newer to investing, then take the time to read about this tax deferring loophole for investors.

Let’s say that you took the gamble of investing and, due to this economy where rents are not being paid and large commercial spaces are sitting empty, you’re now about to be foreclosed upon.  While there is nothing you can do to save this particular investment, you may look into a zero-income property exchange. 

First, figure out how much in capital gains tax the foreclosure will generate.  Even if the value of the property is less than the debt, you may still owe. I will quote from NAR here:  “If a property is financed with a nonrecourse mortgage and then foreclosed or deeded back to the bank, the debt amount is treated as the sales price, and the owner’s gain is equal to the excess of the debt over the tax basis”. 

Then, look into the zero-income property exchange.  This is an investment and will need to be purchased for the same amount as the loan.  Because there will not be any cash from the foreclosure, this investment will be highly leveraged (as high as 90% Loan to Value) and will have no positive or negative cash flow.  All of the income will go to paying off the debt. 

Tenants will have to be leased on a long term, triple net status.  This means that the lessee pays for all of the maintenance, taxes and insurance expenses on the property. 

If you are a corporation, this will work best for you because you don’t receive the capital gains benefit. 

I hope this will help some investors save some money on deferring the capital gains tax, while also being able to reinvest.