New York Property Tax Strategies
Posted by Wei Min Tan on June 23, 2022
In this article, I am interviewing Tsi Yang Lung, CPA, who is owner of Centre Tax and Accounting. Tsi has over 16 years of experience in both financial reporting and tax services. He founded Centre Tax and Accounting in 2017 and currently serves over 800 clients and files taxes for 17+ states in the US.
Tsi has worked at Goldman Sachs as a financial controller for the GSAM Hedge Fund Strategies Group. Prior to Goldman, Tsi started his career at KPMG where he performed audit and tax preparation for financial services clients. Tsi is a Certified Public Accountant in New York.
What are tax benefits that make it better to own vs rent?
Tsi: The benefits are different for primary residence vs investor owners.
For primary residence owners who are married, at time of sale, up to $500,000 in capital gains is tax free. For singles, up to $250,000 in capital gains is tax free. In addition, the mortgage interest for principal of up to $750,000 in loan is tax deductible. Compare this to renting where the renter would not benefit from appreciation of the property, and there is no deductibility on the rent paid.
For investors, all expenses (common charges, property taxes, mortgage interest, repairs, administrative fees) are deductible. There is also a cashless expense called depreciation which is also deductible.
Deal example: Client’s lofty condo in top prewar building. Buy decision driven by proximity to World Trade Center and Brookfield Place, home to many Fortune 500 companies.
We often hear about 1031 Exchanges. Can you explain briefly?
Tsi: A 1031 Exchange is a tax strategy for investors. When the investor is selling the property, the investor can exchange the old property for a new “like-kind” property. This basically means if an investor is selling an investment property, he has to buy a new investment property. Doing this allows the investor to defer payment of the capital gains tax. Hence, funds that would otherwise be used to pay capital gains taxes can be used more productively to buy assets.
From a tax perspective, what is the difference between income from real estate investments vs salary income as an employee?
Tsi: The tax rate is the same whether the income is from salary or real estate. The difference lies in how each income category is treated. Salary income is treated as ordinary income, and there are no deductions for ordinary income.
Real estate income is treated as passive income, and the IRS allows real estate owners to depreciate their real estate. Depreciation is a cashless expense and it reduces taxable income. In addition, for individuals earning up to $150,000, losses from passive income can offset their ordinary income from salary.
Salary income also pays social security and medicare taxes which real estate income does not.
Is the tax rate for foreigners different from New York residents?
Tsi: Foreigners do not pay New York City taxes which locals do. This is because NYC taxes is only applicable for those living in NYC. New York State and Federal taxes apply to both locals and foreigners.
Deal example: Model at showroom of One Essex Crossing, where client invested in a pre-construction condo. Rented out in 1 week at super premium rents.
How much is the capital gains tax? Does it change depending on how long the property is held?
Tsi: Capital gains tax depends on how long the real estate is held. If the property is held less than 1 year, it would be considered short-term capital gains and the ordinary income tax rate applies. But if the property is held more than 1 year, it would be considered long term capital gains.
With title under the individual’s name or through a pass-through entity like an LLC, long term capital gains taxes are roughly 15 percent for Federal, 8 percent for New York State and 4 percent for New York City, with the total being about 27 percent. Since foreigners do not pay NYC taxes, the total for foreigners would be about 23 percent.
Ordinary income tax rate applies if the property is held less than 1 year. The rate depends on a person’s income level. Assuming the property owner is a local New Yorker and makes $250,000 a year, the Federal rate is 32 percent, New York State rate is 8 percent, and New York City rate is 4 percent, with the total being about 44 percent.
New Yorkers pay one of the highest taxes in the U.S. and high income salaried employees pay the most in taxes because there are minimal deductions and tax rates increase with income level.
What are ways that property can be owned?
Tsi: Real estate can be owned in a person’s individual name or through entities like an LLC, C-Corporation or S-Corporation. It depends on a person’s individual situation.
An LLC is a pass-through entity which means the taxes are the same as at the individual level. In addition, an LLC provides liability protection. A C-corporation also provides liability protection but will have double taxation – at the corporate dividend level and then again at the individual level. An S-Corporation would have double taxation at the NYC level because NYC doesn’t recognize S-corporations.
Central Park view from One 57. Investing in a Billionaire’s Row building is more to park funds than to rent out.
Any tax related issues that potential property investors (whether local or foreign) should be aware of?
Tsi: Foreign property owners should be aware of estate taxes because the U.S. allows very little exemption for foreign real estate owners who pass. This is a very important area necessitating proper planning before buying the real estate.
What is a step-up in basis?
Tsi: When a beneficiary inherits a property, the cost basis goes up to the market value at the date of death. Capital gains for the beneficiary is then based on the new stepped-up amount.
For example, A bought a property at $30,000 twenty years years ago and it’s worth $5 million at the time of A’s death. B is A’s daughter and inherits the property when the market value is $5 million. $5 million is the new cost basis for B who does not pay capital gains tax for the $4.95 million in appreciated value.
When B sells the property at $6 million a few years later, the capital gains tax rate will be applied to the $1 million ($6 million – $5 million) only.
What is FIRPTA?
Tsi: FIRPTA is a withholding amount applicable when a foreign owner sells the property. The U.S. government withholds 15 percent of the sale proceeds and upon ensuring that all taxes and capital gains taxes have been paid, the withheld amount is returned.
What is a US Blocker and its purpose?
Tsi: US Blocker Entities (“C” Corporation) – this eliminates some of the reporting complexity that is required if the property is held under the individual or an LLC. A common strategy applied by foreign investors is to hold real estate under an LLC but elect to be treated as an “C” Corp from a tax perspective.
By holding real estate under a New York LLC, when the investor sells the property, he/she will not be subject to withholding requirements (e.g. FIRPTA and NY capital gain tax). If there is rental activity during the year but the earnings are retained in the company, the individual investor will not be required to report an annual income tax (i.e. 1040-NR & IT-203). In any case, it’s imperative to have a discussion with your tax advisor to understand what organizational structure best suits your needs and situation.
Tsi Yang Lung, CPA, can be reached at:
Centre Tax and Accounting, 139 Centre St, Suite 815, New York, NY 10013.
What We Do
We focus on global investors buying Manhattan condos for portfolio diversification and long term return-on-investment.
1) Identify the right buy based on objectives
2) Manage the buy process
3) Rent out the property
4) Manage tenants
5) Market the property at the eventual sale