Unlike capital gains created through selling (where an investor purchases a property, improves it for resale at a higher price, and then purchases additional properties with gains from the sale), Cash Out Refinancing is based on keeping all properties acquired. By not selling, the investor is constantly increasing the refinancing base while avoiding capital gains taxes.
Cash Out Refinancing begins with the purchase of one property. If more than one property can be purchased to start the plan, then the refinancing base will be enhanced at the outset. The type of property to be purchased should be improved income property that has the ability to generate enough cash flow to cover all costs and mortgage payments.
It is in the best interests of the investor to purchase better properties in stable or growing areas. Avoid older properties in declining neighborhoods where rents and values of such buildings are unstable and may decrease and thus ruin the refinancing cycle.
Advantages of Cash Out Refinancing
With the appropriate deductions and allowances, most, if not all, of the net income earned during the years of ownership could be sheltered, while capital gain, taxes could be avoided through the refinancing process. The estate could then be left for the investor’s heirs, at the stepped-up values determined at the date of death, without the investor ever having to pay capital gains tax on any profits derived from ownership of the property.
Although Cash Out Refinancing to avoid capital gains taxes is a practical strategy, sometimes the sale of a property is unavoidable. As indicated, any gains made in such a sale: are subject to income tax.