Property Taxes on Investment Property: Switching rental and primary residences

Property Taxes on Investment Property: What happens when you switch your primary residence for your investment property?

Q: We read your column Real Estate Matters in our local paper and it has really helped us. We live in the Washington, D.C. area. Here’s our problem. We have owned a duplex since 1989. We live on one side and rent out the other. Our plans are to sell our side and move into the side that has been rented. There are a number of reasons to make this move.

My question is regarding the property taxes for this investment property. The property taxes are calculated and differ in amount based on whether it is an investment property or your main residence. The investment property taxes are almost twice as high as our residential property. When we move to the rental side and can claim it as our residence, will the property taxes revert to a lower rate and decrease substantially? Thank you so much!

Switching your primary and investment properties can raise your property taxes overall

A: Interesting question, particularly since you didn’t include what state you live in. Without more specifics, we know you own this duplex but don’t know if you receive one or two real estate tax bills. Given the way you phrased the question, we’re going to assume that you receive two real estate tax bills. You receive one for the unit you live in and you receive another tax bill for the rental unit you own next door.

Given this scenario, when you move out of your current home and move next door, the property you currently live in will lose its status as your primary residence and the neighboring property will pick up the status as your primary residence. The tax bills, ideally, should switch.

Call the office that levies or collects property taxes

Saying that is much easier than the reality, however. You should call the local taxing body office — the tax assessor or tax collector, depending on the local convention — to figure out how they handle the manner in which they compute the real estate taxes. You should also find out what reductions to the amount of real estate taxes owed are offered if the home is a primary residence.

In some locations, the tax break for an owner-occupied residence flows annually. This means that for the current year, you’d get the benefit on the home you live in but wouldn’t get the benefit on the other unit until the following tax year.

One interesting situation you could face: in some locations, your assessment (or value given to your property) by the local taxing authority may increase substantially when you move to the other unit.

You may pay more in property taxes if you switch your residences

Let’s say your current home’s real estate taxes have increased a little. You might have noticed that the real estate taxes on the other unit you own have risen far higher. Once you move from one property to the other, you might get a reduction due to your homeownership but not to the amount you pay today. The new tax bill may be much higher.

In some states, you can transfer the benefit of your lower real estate taxes from one primary residence to another. You’ll have to find out whether you can do that with your duplex in your local county or state.

Make sure you take the correct property tax exemption or deduction

You mentioned that the taxes on your investment unit are about double what you pay for your residence. It’s worth the trouble to contact the local taxing body where you live to understand their process and what you’ll need to do if you do decide to switch units. For example, in the District of Columbia, you get a significant break on the value of the property if you own the home and use it as your primary residence. The homestead deduction in the D.C. is $84,000 and you also may get an annual benefit of a limit on the increases on your real estate tax bill.

We urge you to investigate your situation with the local taxing authority to make sure you get the full benefit of any tax reductions for which you’re eligible. But also, spend the time necessary to understand the process so that you can maximize any benefits. Even if you pay more in real estate taxes to switch units, that switch might make sense. Your accountant or tax preparer should be able to help you understand any impact on your income tax bills as well.