Refinancing can be an excellent tool for commercial property owners especially those looking to refinance a rental property. Cash-out refinances are particularly helpful to rental property owners to access the equity they own to get cash for other projects. But does refinancing a rental property affect your taxes? This article will look at the tax implications of refinancing and how you can use it to your benefit.
What is a cash-out refinance?
To understand how rental property taxes are affected by a cash-out refinance, we must first understand what it is. A cash-out refinance is a type of refinance in which you take on a loan greater than what you owe on the property. The difference between the two amounts goes to you in cash. Investors often use these funds for repairs, improvements, or other investment projects.
Tax laws for refinancing a rental property
The good news: The money you take out of your commercial property’s equity from a cash-out refinance is not considered taxable income by the IRS. So, when you go to file your taxes, you won’t have to worry about what you got out of refinancing. You will still pay interest on the new loan you took out, so these funds shouldn’t be viewed as “free money.”
The Tax Cuts and Jobs Act of 2017 had several implications for property owners looking to refinance. To the commercial property owner’s benefit, it raised the standard deduction for both single and married tax filers. However, it also gutted many previously allowed deductions, including lowering the interest deduction cap for most mortgage loans.
Refinance rental property and tax deductions
Rental properties especially are a gold mine for tax deductions. This is because any money you earn from the rental is taxed as personal or business income depending on how your tax. For a cash-out refinance, you can deduct the interest on the original loan balance regardless of the amount of equity you take out. This can only be done, however, if you use the funds to make capital improvements.
Capital improvements on a rental property include any renovation or addition that adds value to the commercial property. This can include:
- Building an office
- Adding a fence
- Making safety improvements to the roof
- Building a pool, spa, or jacuzzi
- Installing an HVAC system
- Building on the commercial property
- Upgrading windows and doors
- Building a storage
- Adding a security system
The bottom line: If it adds value to the commercial property, it can be deducted. Furthermore, rental property owners can deduct some closing costs from their refinance, including mortgage interest and certain mortgage points.
Repairs that may not qualify for deductions
The keyword for commercial property improvements and tax deductions here is “adds.” Making repairs to faulty elements, the aesthetics, functionality or anything that adds more value to the commercial property may qualify for deductions.
Cashing out on the equity you own on a rental property is a great way to get cash on hand. You can use this cash to fund a wide variety of commercial property improvements on your rental property that are tax-deductible. Not only can you get a better loan deal through refinancing, but these improvements can also help the property eventually sell for more.