Principle pay down on your mortgage is taxed as income…. you better be prepared for it! Let’s review at what it could look like.
Real Estate Proforma Hidden Cost Example
$๐๐๐/๐ฆ ๐ข๐ฌ ๐ก๐จ๐ฐ ๐ฆ๐ฎ๐๐ก ๐ฒ๐จ๐ฎ ๐ฐ๐จ๐ฎ๐ฅ๐ ๐ฅ๐ข๐ค๐๐ฅ๐ฒ ๐ฉ๐๐ฒ ๐ข๐ง ๐ญ๐ก๐ ๐ฌ๐๐๐ง๐๐ซ๐ข๐จ ๐๐๐ฅ๐จ๐ฐ (๐ฒ๐จ๐ฎ๐ซ ๐๐ข๐ซ๐ฌ๐ญ ๐ฒ๐๐๐ซ, ๐ญ๐ก๐ ๐ง๐ฎ๐ฆ๐๐๐ซ ๐ ๐๐ญ๐ฌ ๐๐ข๐ ๐ ๐๐ซ ๐๐ฏ๐๐ซ๐ฒ ๐ฒ๐๐๐ซ ๐๐๐ญ๐๐ซ
If you owned a $1,000,000 property in a holding company and put 20% down you would have an $800,000 mortgage. If the mortgage was at 6% with a 30 year amortization you would make $57,556 in mortgage payments and pay down $9824 of principle your first year (surprising eh?!).
In a holding company filing in British Columbia income from real estate is taxed at 50.67%. Your first year that would mean owing $4977.88 in taxes on your principle pay down. Monthly this breaks down to $414.8.
It is important to note that this cost will grow every year. Your 5th year of ownership you would pay down $13,251 in principle which would break down to $559.53 per month.
Your 20th year you would pay down $32,519 in principle which would cost $1373 per month in income taxes.
How to Offset Rising Real Estate Costs
1) Re amortize your mortgages over time
This can keep your principle pay down lower (which is not necessarily a good thing) and lower your annual income tax costs for the property.
2) Work with a good accountant and discuss methods of reducing your annual income taxes.
An example would be depreciating your property. This has benefits and disadvantages and should be considered cautiously and with professional guidance.
Remember, when you are paying taxes on principle pay down you are paying taxes on profit! This is a good thing so donโt lose sight of making money! The challenge is that paying off your mortgage creates equity in your property. Outside of niche mortgage products you generally cannot access your equity without refinancing (which can often be expensive) or selling.
**The example above is for a holding company which has the highest tax rate on income generated from real estate. For investors owning in their personal name your principle pay down will be taxed at your marginal tax rate.
