COVER STORY
LAWRENCE YUN
real estate investments if those gains are “rolled” into an investment similar to the previous one. Real estate investors and self-directed investors use these exchanges to legally avoid paying high percentages of their profits in capital gains taxes when they sell off assets, and, Yun noted, the loss of access to such a strategy would certainly negatively affect investors’ ability to engage actively in the real estate market. “We contributed to preserving that investment strategy and, as a result, contributed to community stability,” he said. Yun also pointed to the mortgage interest deduction (MID) as a tax-reform change that will likely affect real estate investors in some sectors and markets. While MID was not eliminated as part of tax reform (something many policy- makers viewed as a source of great concern), it was adjusted. Yun believes that this adjustment makes things slightly less stable in certain markets. “Because the traditional home-buying incentive of the mortgage interest and property tax deductions were diminished as part of the reform, it could lead, over the long-term to more households being renters for a longer period. For investors specifically, this could be a positive or a negative result. For households that truly wish to buy [and cannot], the outcome is certainly negative.” Yun added that the NAR works hard to make it easy for members and non-members to join with other real estate professionals when they believe an issue is important to their business. “We know people in this industry are very busy, so we try to make it very simple to click a button [online] and send a message to the right member of Congress,” he said, noting that while NAR members may receive more information and updates on these types of policy and legislative issues, non-
members can also participate.
A SHORT INTRODUCTION TO 1031 EXCHANGES
WHAT TOWATCH IN 2018 In 2018, Yun said, he expects the main housing issues affecting real estate investors to be inventory shortages and the emerging effects of late 2017’s tax reform bill (see sidebar on p. 27). “Of course, there are two indicators that drive every housing market: the jobs market and mortgage rates. My job is to determine how other factors will influence these two indicators and, by extension, consumer confidence and real estate activity,” he explained. “For example, rising interest rates lead to an eventual slow-down in home sales, and an increase in available jobs tends to lead to an increased need for housing. The other factors essentially operate on the margins of these two main issues and, depending on how they interact with each other, allow us to better understand trends and make predictions. For example,
1 031 exchanges are a common topic of discussion among real estate investors and self-directed investors (these two populations regularly overlap), but many investors do not really understand what a 1031 transaction entails. A 1031 exchange is a transaction in which you swap one investment for another in such a way as to push the tax “consequenc- es,” which is to say the capital gains taxes you would normally pay on the profits from the transaction,
but strict guidelines, buy $100,000 worth of real estate investments and skip the capital gains taxes entire- ly. You get to leverage your entire $100,000 toward new, profitable investments in real estate and you don’t have to shell out $25,000 (or more) in taxes. Many inves- tors repeat this process for years, meaning that over time you might turn that $100,000 into $200,000, then $400,000, and on indefinitely, never paying capital gains as long as you use your 1031 exchange correctly simple explanation affords. You should consult tax and legal pro- fessionals before attempting such a transaction. Real estate inves- tors in particular are very fond of these exchanges because real estate returns often come in large sums accompanied by heavy tax costs. Furthermore, although the IRS is constantly updating the rules on 1031 exchanges, in general, most types of real estate are considered interchangeable. This means that you could probably use the prof- its from flipping a 1940s home in Dallas to purchase two turnkey rentals in Birmingham, for example, assuming you followed all other guidelines and parameters. and are not actually cashing out of your investments. Of course, there is a lot more to 1031 exchanges than this
into the future by imme- diately leveraging your profits into another investment vehicle considered by the IRS to be like the first. For example, if you sell off an invest- ment property and
make a $100,000 profit and then simply deposit that $100,000 into your bank account, you will owe capital gains taxes that could cost you nearly 40 percent of your earnings. Assume that you end up paying a relatively “conservative” 25 percent in capital gains: That still leaves you with $75,000 instead of $100,000 to use on a future investment. Not a small sum, but wouldn’t it have been nicer to have the whole thing? That’s where the 1031 exchange comes in. By using a 1031 exchange while doing your deal, you can sell off your initial real estate investment for the $100,000 in profits and then, by following some fairly simple
CAPITAL GAINS TAX: A tax levied on the profit from the sale of a property or investments. These taxes may be nearly 30 percent or more of the total profits on the investment. 1031 EXCHANGE: An IRS structure intended to help investors avoid capital gains taxes by quickly leveraging the profits from the sale of one investment into the purchase of another, similar investment. MORTGAGE INTEREST DEDUCTION (MID): This IRS policy allows homeowners who meet certain requirements to deduct the cost of the interest on their mortgage loans from their taxable income. This can lower the amount of taxes an individual owes on their income and, indirectly, make owning a home more affordable since the home loan diminishes taxable income. 2017’s tax reform act limits the amount of mortgage interest that may be deducted and may make the purchase of relatively expensive homes more financially difficult.
(Above) This bookshelf in Lawrence Yun's office demonstrates his wide array of interests and deep love of family, art, and history. On the top shelf, a Korean figurine, masks used in the Korean Opera, and a Navajo dancer rest. His family takes a central place on the middle shelf, and at the bottom sit a thermal tile from the Columbia Space Shuttle, various globes, and a door hinge from the Texas Capitol Building.
24 | think realty magazine :: april 2018
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