Q: Three years ago, I bought an industrial property for $55,000 and made some major improvements to it. I plan to sell it in another three years for $1,500,000.

If I pay capital gains taxes on the property, will I still have to pay income taxes? And if I do have to pay income taxes, can I defer them by buying another property? I need cash so I can’t enter into a 1031 tax-free exchange.

A: Congratulations. It looks like you have made a great move on your real estate investment.

But you should know that real estate has a funny way of affecting federal income taxes. If your question refers to paying income taxes on the other money you receive in addition to the amount of your capital gain, you will have additional income taxes to pay.

But there are a variety of taxes you must pay when selling real estate. In simplest terms, if you have profit on the sale of the building and the profit was due to the ownership of real estate that you held for more than one year, the profit would be considered capital gains and taxed at about 15 percent (less for lower income tax brackets) plus state tax.

So if you have $500,000 in capital gains, you can expect to pay Uncle Sam about $75,000 plus any state capital gains tax due.

In addition to capital gains, you will also have to pay any recapture taxes on depreciation you have previously taken on the building. If you took $100,000 in depreciation over the time you owned the building, you will have to pay Uncle Sam $25,000.

Each property is different and your capital gains and depreciation number will differ, but you need to keep these numbers in mind.

Also, the gain will affect your ability to receive income tax credits and benefits that are lost due to your high income in the year you sell the property. You also may be affected by the Alternative Minimum Tax (AMT) and will probably have to pay more in state tax. Your Adjusted Gross Income (AGI) will certainly shoot up in the year of your sale and if your state uses this amount to compute your state tax, you’re going to be in for a shock.

If you sell without a 1031 tax deferred exchange, you will have a substantial tax to pay, even at the lower capital gains rates. A 1031 exchange is a provision in the Internal Revenue Code that permits an owner of an investment property to sell the investment property without paying any taxes on the sale. The condition on the sale is that the owner must buy a replacement property for equal or higher value within a certain time period after the sale of the original property.

You should probably sit down with a 1031 specialist in your area to figure out if you can obtain financing for the property. The financing would give you some cash now. When you sell the property, you then could buy a replacement property without paying taxes on the sale.

Before you do anything, talk to an accountant. It’ll be worth the time and money to look at both the 1031 and selling and cashing out scenarios side-by-side to see what looks best to you.

If you are absolutely intent on selling and cashing out, you should seek out a good accountant to help you work through what will undoubtedly be a headache of a tax season.