Predicting the effects of weather is difficult. We can be sure that a storm is coming, but we don’t know if it will be Hurricane Hillary or the San Diego Hurricane of 1858. It’s similar to predicting the effects of political trends on San Diego rental owners.

I tried to do that last week when I spoke to the Apartment Owners Association. I felt a lot like a weather forecaster. I could describe what was happening and even share some guesses about what would come next, but I knew there was no way to make an accurate forecast.

Let’s face it: if you’re a rental owner, you’ve been thinking about these things, and maybe you’ll never do anything. Some investors claim they don’t give a flip or that the heirs can figure it out. Some allege they are too old, uncomfortable making those choices, or lazy. Others just don’t care. Understood. Maybe investors hope they will be the last frog to hop out of the boiling water.

Don’t drift. The current may take you somewhere you don’t like at all. I suggest that you pick your strategy. Whatever you choose, this is uncomfortable. I get it. That doesn’t mean it’s not important.

What options should you consider if and when you feel your wealth may stop growing or your cash flow could shrink? What can you do to minimize the impact of government policy trends? Here are the common options.

Sell and pay the taxes.
Sell and move the equity to another property with a 1031 exchange.
Sell and invest the proceeds in a Delaware Statutory Trust.
Drift.

Here are a few details. Chapters could be written about each one.

Sell and Pay the Taxes.

Between the IRS and California Franchise Tax Board, you’ll give the state and federal government about a third of your profit. The IRS collects ordinary income on the depreciation you have taken while you owned the asset. There are capital gains on the difference between your purchase value and your net sales value, after brokerage fees, title, escrow, etc.

Also, you’ll probably pay 3.8% tax on the “unearned income” for Obamacare/health program. Plus, California will charge ordinary income tax rates on your profit. Roughly speaking, you’ll give up a third of your profit, not your net proceeds. If you re-financed and pulled cash out, the impact could be huge. You might have “mortgage over basis,” which could mean you keep little, if any, cash.

Sell and Move the Equity to Another Property With a 1031 Exchange.

IRS section 1031 allows investors to move all their proceeds into another property and to defer the taxes. You probably know a lot about that. You can defer taxes if you buy a property of equal or greater value with equal or greater debt. You may have done that, maybe more than once.

In effect, you keep all your equity working for you.

You could buy apartments, office, industrial or retail anywhere in the US. If you dislike California policies, you could invest in the 49 other states with 87% of the national income properties.

An extremely low-risk strategy is to buy a single-tenant, triple-net (NNN) asset, say a building with a long-term lease with a Fortune 500 or bond-rated company. It is the safest type of income property. Safest does not mean risk-free.

Perhaps a million former apartment owners now own this type of investment. It provides steady, low-risk cash flow and defers taxes.

Sell and Invest the Proceeds in a Delaware Statutory Trust, as a 1031 Exchange.

Stockbrokers are keen on selling group investments, like tenant-in-common. You throw your equity into a pool with hundreds of other investors and own some tiny percentage of a large portfolio. You have no control. The transaction costs and fees are roughly twice as high as buying or selling commercial / income property. Your investment is illiquid, yet it offers convenience and prestige. Many rental owners have enjoyed control and hate being passive investors in income property.

Drift

Doing nothing is a choice, but it’s often an unconscious choice. If you’re not ready to pursue one of the available options, decide what might spur you to action.

On a different note, if you don’t like the political trends, consider an organization that will present your case to legislators and other government decision-makers. The Southern California Rental Association has lobbied on behalf of rental owners for more than 100 years.

~

Now it’s your turn. What options are you considering?

-o0o-

Terry Moore, CCIM, is the author of Building Legacy Wealth: How to Build Wealth and Live a Life Worth Imitating. Read his “Welcome to My Blog.”

Click here and find out how Terry and his team can help you make the most important financial decision of your next decade.