COST COMPONENTS OF BUYING REAL ESTATE
Purchasing investment real estate anywhere on the surface certainly seems easy. I mean how hard can it be, find an agent, tell them what you want and then buy it right? Well before you hire that agent at home or abroad here’s a breakdown of items you will need to consider the extent of which will vary by location.
REAL ESTATE TAXES also known as PROPERTY TAXES
Real Estate Taxes (or Property Taxes) are calculated on the assessed value (some states or municipalities have tax abatement programs for specific building types that can reduce taxes for up to 20 years.
MORTGAGE
If the owner decides to obtain a mortgage, then he or she will have a monthly expense that includes both interest and principal. Due to the nature of mortgage calculations, in the early years, the buyer will be paying mostly interest, which is deductible for US tax purposes. In the later years, the buyer will be paying mostly principal.
Over time, as the principal of the loan is paid off, the amount of tax-deductible interest will decline. In the beginning years, however, it is a very large expense to offset rental income.
INSURANCE
Owners should always obtain insurance on the property itself & liability insurance. In the US landlords often require tenants to obtain insurance to mitigate risk.
In specific areas like Florida, flood and hurricane insurance is often required.
BROKERAGE FEES
In the US, sellers always pay the commission in a purchase transaction. The seller generally pays a commission of 6% of the purchase price, which is divided equally between the buyer’s broker and the seller’s broker.
OPERATING AND MAINTENANCE COSTS
Operating expenses include the costs of running and maintaining the building, including insurance premiums, legal fees, utilities, property taxes, repair costs, and janitorial fees
DEPRECIATION
The US government allows the owners of investment property to depreciate the purchase price and the non-financing related closing costs over 27.5 years.
AMORTIZATION
The US government also allows an owner of an investment property to deduct the amortization of the financing portion of the closing costs over the term of the loan. This is also a non-cash expense that can be deducted from rental income.
NEGATIVE TAXABLE INCOME
Ultimately, with all the deductions (both cash and non-cash noted above) that the US government allows, in the beginning years, an investor who finances their real estate purchase will have negative taxable income (or tax losses). These tax losses can be carried forward to years when the property is making income for tax purposes, offsetting such income, and eliminating taxes for those years. Over time, however, cash income will grow as will the value of the property.
