Purchase Estate Blog

My constant and frequent encouragement—and even admonishing— to real estate investors never to sell, often seems to fall on either deaf ears or disbelieving ears. For the most part, these investors are seduced by the temptation of a quick profit. It is just one more example of how people tend to think in the short term, rather than the long term. In fact, their thinking is often on such a short time frame that they relish the thought of the profit without fully realizing the imminent tax implications of having made the sale—the ensuing capital gains tax and depreciation recapture tax that must be paid for that financial year.

Unless you live in a country that imposes an unrealized capital gains tax on real estate,1 then so long as you never sell, you never have to face this tax. Similarly, a depreciation recapture tax is only imposed upon the sale of an asset that has been depreciated.

Those two reasons alone are compelling enough for me, but there is an even more compelling reason not to sell. When you sell a property, you will no longer receive any rent from the property, and you will no longer benefit from the inevitable future capital growth. This reality—that all income from the property will cease the day you sell it—should be a major reason for people not to sell their real estate.

Here is another situation that some claim justifies selling. Imagine you bought a property for $10 million with a 10 percent return. Assume further that market cap rates have gone down from 10 percent to 5 percent. In this case, the property is now worth $20 million. The argument goes that you should now sell the property, and put the proceeds into another property that may be returning closer to 10 percent again.

The downside of this argument is that cap rates will have gone down if the market has determined that this area has better prospects in terms of rental growth, capital growth, and quality of tenants. By selling this property, and buying one where cap rates are higher—around 10 percent—you are effectively exchanging a property with a great location (hence the 5 percent cap rate) for one with a mediocre location (hence the 10 percent cap rate). Once again, I would say, refinance the existing property and use the proceeds to buy a second one as well.