BEACH PROPERTY OWNERSHIP 101
This article is for those of you unfamiliar or inexperienced with resort property ownership. I hope it will help you in deciding if and what to buy. For a more detailed study, please see our Buying Seminar page.
The definition of beach property can be very broad, but for our purposes, it refers to houses or condominiums located on the beach directly facing the Gulf of Mexico. One of the biggest advantages of investing in beach property is that unlike CDs, stocks, or mutual funds, you can visit your investment. You clearly should enjoy coming to the beach. That’s what makes resort property investing fun. You can have your cake and eat it too.
The ideal way to own resort property is to place it in a good rental program and treat it as investment property with the IRS. While there are disadvantages to this, the advantages more than outweigh them. This method of ownership allows all expenses associated with your property’s operation and maintenance to be classified as business expenses. The only portion of your cost not treated as a deductible expense is the principal portion of the mortgage payment.
Most property is purchased with a 20% to 25% down payment and an 80% or 75% loan. This mortgage payment will be the largest of your expenses. Others will include: utilities (power & telephone), property tax, rental management fees, and contents insurance. The association fees usually include maintenance of the building, grounds, pool and elevators, reserve funding, water, trash pickup, sewer fees, and cable TV. Your gross rental income will most likely not cover all of your ongoing costs of ownership. Your property may show a negative cash flow typically ranging between $5,000 and $15,000 per year or more. The good news is that you can depreciate your furnishings (double declining 7-years), appliances (double declining 5-years), heating and cooling system (double declining 5-years), and the building is depreciated on a straight line basis over 39 years.
When the depreciation is added to the expenses and applied to your tax rate, you want to find that the actual tax savings will approximate the actual out-of-pocket expenses (negative cash flow). Your rental income will not usually carry the property for you but will show a modest loss after taxes. It will however, help considerably, and in most all cases the property will increase in value each year.
The downside to this type of ownership is the limited usage of the property. Since this is a business investment, the IRS will not allow you to use it at will. Your use is limited to 10% of the number of days the property rents per year, or 14 days, whichever is the least. The 14 days will apply. This restriction creates a problem but one which can be overcome. As a business investment, you are allowed to make trips to the property for maintenance and work on the property. The days spent in this fashion do not count towards your 14-day use allowance. And the trip itself is a business deduction. With maintenance trips of say, once a quarter, you can add another 10 or 15 days to your usage. For even more usage you may rent the property through the property rental manager. While you are paying full price, all but the manager’s fee will be returned to you.
The above described ownership techniques are a driving force behind many beach property purchases. They may be applied to beach houses as well as beach condominiums. These techniques allow you significant use of your beach property while still providing you with maximum tax benefits. If you have questions regarding this type of ownership please contact me and I will do my best to answer them. And always remember to consult your C.P.A. or tax attorney regarding your rental property.
Tom O'Rorke/Ron Stewart