Maximizing Your Yields in Commercial Real Estate: The Impact of State Income Tax

As a potential commercial real estate investor, there are many factors to consider when evaluating the profitability of an investment. From property location and market trends to rental rates and vacancy rates, each aspect plays a crucial role in determining the success of your investment.

However, one often overlooked factor that can significantly impact your returns is state income tax. Each state has its own unique tax laws, and understanding how much you will have to pay in taxes can make a significant difference in your overall yield.

The Impact of State Income Tax on Yields

Most states impose an income tax on individuals and corporations, and this tax is calculated based on their taxable income.

For commercial real estate investors, this means that any NET income generated from their property will be subject to state income tax. Depending on the state in which the property is located, this can have a significant impact on your overall yield.

For example, states like Alaska, Florida, Nevada, South Dakota, Texas, Washington, and Wyoming do not have an individual income tax. Therefore, the yields in these states may be higher compared to states with a higher income tax rate.

On the other hand, states like California, Hawaii, New Jersey, and Oregon have some of the highest individual income tax rates in the country. This means that commercial real estate investors in these states may see a lower yield on their investment due to the higher taxes they have to pay.

Caution: Depending on the state in which you live, similar to California, you MAY still have to pay state income taxes even though your property is situated in a “no state income tax state.” California’s “clawback tax” provisions are an example. Be sure to check with your tax advisor in the state in which you’re living.

How to Minimize the Impact of State Income Tax

While state income tax is something that you cannot avoid entirely, there are ways to minimize its impact on your yields. The most common strategy used by investors is to purchase properties in states with lower income tax rates.

Additionally, it’s crucial to consult with a professional when evaluating potential investments. They can provide valuable advice and help you navigate the complicated world of tax laws to optimize your returns.

Case Scenarios of The Impact of State Income Tax on Yields

Scenario 1: Positive Impact (Good Case Scenario)

Consider John, a savvy commercial real estate investor. John decides to invest in a commercial property in Texas, a state with no individual income tax. The property’s rental income is $120,000 per year, and his operating expenses are $20,000. This leaves him with a net income of $100,000. Since Texas does not levy an individual income tax, John does not need to pay any state income tax on his net income, maximizing his yield.

Scenario 2: Negative Impact (Bad Case Scenario)

Now consider Jane, another commercial real estate investor. Jane purchases a similar commercial property with the same rental income and operating expenses as John’s property, but in California, which has one of the highest state income tax rates in the country. After all her expenses, Jane’s net income is also $100,000. However, because she has to pay California’s state income tax on her net income, she ends up paying roughly $13,300 in state income tax (assuming a 13.3% tax rate for the highest bracket). This reduces her net yield significantly.

These scenarios underscore the importance of considering the impact of state income tax when investing in commercial real estate. By choosing to invest in states with lower or no income tax, you can potentially increase your yields and make more profitable investment decisions.

So, if you’re considering venturing into commercial real estate investment, don’t let the complexities of state income tax deter you. Reach out to Coldwell Banker Capital Advisors today. Our experienced team can help you navigate these challenges, ensuring you make the most of your investments. They’re equipped to provide valuable insights that can help you maximize your yields while minimizing tax impacts.

For the past 40+ years it has been our honor and pleasure to help clients achieve their investment goals through commercial real estate investing through…

  • Our Exclusive Nationwide Investment Network
  • Off-Market Commercial Real Estate Opportunities – Nationwide
  • and Saving Taxes with 1031 Exchanges

To Learn More, Give CBC Capital Advisors a Call at (806) 793-0888

In addition, you can learn all about our exclusive nationwide investing network and capabilities by watching Rick Canup’s short investment presentation below.