Tax Benefits and Cash-Flow
In an earlier blog I discussed rental properties and cash-flows. Real Estate Investments. So what things affect the cash flow? For the most part it is quite simple the cash in and outs of the business. However, there is one cash flow item that should be investigated and that’s income tax.
Income tax is paid on net income of the business. This is not exactly cash flow. There can be a number of differences between net income and cash flow. One of the main differences, as a personal investor, is depreciation and asset purchase/sale. Depreciation is the consumption of a long lived asset over the life of the asset. A simple example is a piece of machinery that lasts 5 years is expensed over the 5 years in a systematic fashion. When an asset is purchased 100% of the cost is a cash out flow at time of purchase and can not be normally used as an expense in the business when purchased. However, the cost of the asset can be deducted/expensed over the life of the asset and in the example above this is realized over the 5 years as depreciation. You won’t pay tax on that deducted amount every year.
What does this mean to your cash flow? Well, in the year(s) after your purchase you can have positive cash flow and not pay income taxes. As an Accountant this is where I can get a little excited because tax planning then takes over and a good accountant can help you avoid taxes in a number of different ways in this area and at the very least defer income taxes to a later year for example in a low income year (lower tax bracket) or to the year in which you sell your property and experience a huge cash-in-flow that you can use to pay the taxes previously deferred, if any. However, as a Realtor this is where I say to you and my clients to contact your Public Accountant to review the options you have and decide on a course of action that best suits your needs and your personal tax situation.