Real Estate Tax Mistakes That Could Cost You Thousands (and How to Avoid Them)
- Justin Brennan
- Jun 19
- 4 min read
Investing in multifamily real estate is one of the smartest ways to build lasting wealth, but if you’re not careful, taxes can quietly drain your profits faster than you realize. The tax code is complex and ever-changing, and many investors—new and seasoned alike—make mistakes that cost them thousands, sometimes tens of thousands, every year.
The good news? Most of these costly errors are avoidable once you know where the traps lie.
Let’s walk through the top tax mistakes multifamily investors make, and, more importantly, how to keep those hard-earned dollars in your pocket.
1. Not Taking Full Advantage of Depreciation
Why it matters:Depreciation is like a stealthy tax shield that lowers your taxable income by spreading out the cost of your property over 27.5 years for residential multifamily. Many investors either don’t claim it correctly or fail to maximize it using advanced methods.
What often goes wrong:
Treating depreciation as a simple checkbox without strategic planning
Overlooking cost segregation studies that accelerate depreciation on components like HVAC, flooring, or roofing, allowing larger write-offs in the early years
How to fix it:
Work with a CPA or tax advisor who specializes in real estate. Ask about cost segregation — it can boost cash flow significantly by front-loading depreciation deductions. Even if it costs a few thousand to perform the study, the tax savings typically more than pay for themselves.
2. Missing Out on 1031 Exchange Benefits
Why it matters:Selling a property can trigger a big capital gains tax hit. A 1031 exchange lets you defer that tax by reinvesting the proceeds into a similar (“like-kind”) property.
Common pitfalls:
Trying to navigate a 1031 exchange without professional help
Missing strict deadlines: You have 45 days to identify replacement properties and 180 days to close the deal
Failing to use a qualified intermediary (QI), which is a must for the IRS
How to fix it: Plan your 1031 exchange early. Hire a reputable QI and work with experienced professionals to keep your exchange IRS-compliant and smooth. This strategy can save you tens or hundreds of thousands in taxes—money you can reinvest into growing your portfolio.
3. Blurring the Lines Between Personal and Business Expenses
Why it matters:
Mixing personal expenses with your real estate business opens the door to IRS audits and lost deductions.
Typical mistakes:
Using personal credit cards or bank accounts for investment expenses
Deducting non-qualifying expenses accidentally (e.g., personal internet, meals without a business purpose)
Poor record-keeping that makes it hard to justify deductions
How to fix it: Open dedicated bank accounts and credit cards strictly for your rental business. Use property management software or accounting tools like QuickBooks to track expenses. Keep detailed receipts and logs. This makes tax time easier and keeps you audit-ready.
4. Overlooking the Qualified Business Income (QBI) Deduction
Why it matters: Introduced in the 2017 tax reform, the QBI deduction lets eligible investors deduct up to 20% of their rental income—potentially lowering your tax bill substantially.
The catch: Not every rental activity qualifies as a "trade or business," especially if you’re a passive investor with minimal involvement.
What to do: Talk to your tax professional about how you can qualify. It may involve demonstrating active participation or electing to treat your rental activity as a business. Don’t miss out on this powerful deduction by assuming you’re ineligible.
5. Underestimating Passive Activity Loss (PAL) Rules
Why it matters: You might assume you can write off rental losses against your regular income—but the IRS limits this under PAL rules.
How it trips up investors:
Passive investors can only deduct losses up to $25,000 per year, and only if their income is below certain thresholds
Many don’t realize they might qualify as a "real estate professional," which can unlock unlimited deductions, but the rules are strict
How to fix it: Learn how PAL rules apply to your situation. If you’re actively involved enough, you might qualify as a real estate professional. Keep careful records of your time spent managing properties and consult your tax advisor about structuring your investments to maximize deductions.
6. Forgetting to Plan for State and Local Taxes
Why it matters: Federal taxes get all the attention, but state and local taxes can significantly impact your returns.
What to watch for:
Some states have high income or property taxes that eat into your cash flow
Local transfer taxes and filing requirements vary widely
Nexus rules can create tax obligations in states where you own property but don’t live
How to fix it: Research tax rates and regulations in every market you invest in. Factor these costs into your underwriting. Consider working with local accountants who know the nuances.
Investor Takeaway
Taxes are complicated, but they don’t have to be your investment Achilles’ heel. By understanding depreciation, leveraging 1031 exchanges, keeping your finances clean, and taking advantage of deductions like QBI, you can keep more of your profits working for you. A smart tax strategy isn’t just about avoiding mistakes—it’s about actively planning to maximize returns and grow your multifamily portfolio smarter and faster.
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