Last updated on January 31st, 2020 at 07:07 pm
That’s it! You have decided to perform a 1031 exchange in order to postpone paying capital gains taxes and depreciation recapture. In other words, you are purchasing a property with the profit generated on the sale of the another property. As an expert investor, you already know you can take advantage of this 1031 tax-deferred exchange to buy a more valuable property. By utilizing the money you would have paid to the IRS in taxes, you can improve your overall buying power. This way you can purchase a more expensive replacement property, or multiple replacement properties.
What would you say now if you could buy the new property at 98% of what it is actually worth?
To understand that concept, we first need to disclose the #1 lie of real estate brokers: “My services as a buyer’s brokers are totally free for you, because seller is paying for it.” This common lie is told non-stop in NYC and CT by agents to prospective buyers. The purchaser does not pay their buyer’s agent as the seller is paying for it. Indeed the seller pays 5 to 6% of the sale price in total broker commission, split evenly between the listing agent and buyer agent (2.5% to 3% each).
However, since the seller is required to pay 5 to 6% regardless of whether there is a buyer agent or not, the broker commission is already built into the price. Therefore while you may not pay your buyer agent directly, you are paying for it through a higher purchase price. In other words, since the buyer’s broker is paid for by the seller, agents suggest that their services are “free”. If an intermediary like a real estate broker is being paid a fee during your property transaction, it obviously affects your price as a buyer.
This brings the issue: if a buyer’s broker is getting paid 2.5 to 3% of the deal, what if you could receive a commission rebate from that broker working for you?
In essence, in a deal where the brokerage commission is 6%, the listing agent gets paid 3% and the buyer’s agent gets 3%. Then, it is easy to ask the buyer’s agent for 2% out of the total 3%.
Is that even legal?
Absolutely! Unfortunately for most home buyers, their real estate agent or “so-called” friends will never mention to them the option of receiving cash back via a buyer agent commission rebate. Getting a buyer a cash back rebate is now legal in 40 out of 50 states (as determined by the DOJ). In New York for instance, the New York State A.G. even issued a press release back in 2015 urging “Brokers And Home Buyers In New York To Take Advantage Of Law Allowing Lower Commissions.” It is not a surprise that the 40,000 real estate agents in NYC have decided to ignore this statement.
No matter what the law says, it’s tough for the Attorney General to get the word out if 40,000 salespeople running around are challenging the legality of providing a commission rebate. For the record, the states that have not yet made legal the concept are:
- Iowa, Kansas
Commission Rebates in NYC – A Smart, New-Fashioned Approach
This new approach enables buyers to get money back when they buy a home. The buyer’s broker gives a portion of that commission back to the home buyer in the form of a “ commission rebate” or refund. In NYC and CT, the concept of offering rebates has not been widely adopted yet but the start-up NestApple is surfing on this wave. This firm saw a business opportunity and made a business model off giving cash back. Traditional real estate brokers are stuck in the past with how they run their business. They do not pass savings to home buyers. NestApple which do provide rebates gives 1.5 to 2% of the purchase price back to home buyers in the form of commission rebates.
Are those rebates taxable?
I can’t provide any tax guidance or specific accounting advice and I encourage all buyers to speak to their accountant or tax professional as their individual tax situations may vary. That said, the Internal Revenue Service (IRS) ruled on commission rebates and explained that such a rebate is not taxable as income to the buyer and the rebate is generally treated as a reduction in the cost basis for accounting purposes. Also there is no 1099 required to be issued by the real estate broker to the buyer.
Let’s take an example and keep the math easy. Let’s say you purchased an apartment in NYC for $1,000,000 and received a commission rebate of $20,000. Your accountant would likely advise you to reduce your purchase price ($1,000,000) by the amount of the commission rebate ($20,000) in order to get an adjusted cost basis ($980,000). For the buyers who benefit from the “2 out of 5” rule and a capital gain tax deductibility of $250,000, (and $500,000 for married couple) this rebate becomes tax free as it is likely to be lower than the $250,000/$500,000 threshold.
Some home buyers may choose to go the traditional route in selecting a buyer’s agent or just pick a friend. However, it’s important that homebuyers are aware that buyer commission rebates are legal! Not only that, they’re tax-free and that you can save money during your home buying process. Then, prospective buyers can make an informed decision when selecting a real estate broker. Getting money back from your broker is even better than “free!”