Tax Day on April 15 has come and gone. Were you hit hard this year? Don’t give up or lose hope. According to Toby Mathis and Jeff Webb of Anderson Advisors, there’s still time, and things, you can do to recover. Do you have a tax question? Submit it to taxtuesday@andersonadvisors.
Highlights/Topics:
- I am an S Corp and ordained minister. Can I take housing allowance? Minister’s housing/parsonage is excludable from gross income, but not self-employment taxes
- Do you have to pay back home office depreciation when you sell the house? Yes, unless accountable plan is in place for reimbursement
- To report installment income on Form 6252, do you also need to submit Form 4797? Yes, along with Schedule D
- Are there any advantages to moving software business into designated opportunity zone? Not really, if you have an existing business
- Did Tax Cutting Jobs Act (TCJA) help big businesses more than small businesses? Yes, it cut corporate taxes almost in half, but only gave small businesses a 20% deduction
- What’s the difference between big and small business? Big business does at least $100 million in revenue and has multiple owners
- Should I use my tax refund toward paying estimated quarterly taxes for 2019? If I overpay the estimate, will I have to pay taxes on future refunds? Never hurts to overpay estimates; include first-quarter payment when making extension payment
- What’s the Rollover for Business Startups (ROBS) structure for investment property construction? Partnering with your own retirement plan has to be a C Corp; don’t use with investment property
- Can you defer taxes on capital gains on the sale of property, if you put it toward an existing residential mortgage? No; only way to defer capital gains is via 1031 exchange
- When I record an expense, maybe an office desk for S Corp, do I need to record the sales tax? If you buy a desk for your business, you’re paying sales tax on it
- Can you depreciate a property used for short-term rentals, like AirBNB? No, if average rental is seven days or less; yes, if more than seven days
- Can LLC owned by spouses be a disregarded entity? Yes, if in a community property state; both spouses can be owners, and it’s treated as a disregarded entity
- Can we take unreimbursed accountable plan expenses, office space against W2 income? No, TCJA removed unreimbursed business expenses on Schedule A
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Resources
Ministers’ Compensation & Housing Allowance
Net Investment Income Tax (NIIT)
Partner’s Instructions for Schedule K-1 (Form 1065)
Full Episode Transcript:
Toby: Hey guys, this is Toby Mathis.
Jeff: And Jeff Webb.
Toby: And you’re listening to Tax Tuesday. First off, welcome, glad you’re here with us. I’m going to pull over some question and answer stuff over here, see if anybody is out there. Let’s jump into this thing. Obviously, yesterday was a tax day so I’m going to go over a couple things that you could still do to recover from any tax hits that you received. There are some things you can do, actually, we were chatting about those earlier.
Send in questions to Tax Tuesday at andersonadvisors.com, you can always ask questions that way. If you need a detailed response, you’ll need to become a platinum or tax client. But if you’re just asking basic questions, we throw them into this thing and we answer them. This is fast, fun, and educational. We want to give back and help educate. As always, we do not charge for answering tax questions on Tax Tuesday. You can always go and listen to our podcast too.
The new stuff, we like to talk about the podcast. You can go to andersonadvisors.com/podcast, you can go to iTunes and type in Anderson Business Advisors, you can go to Google Play and type in Anderson and Business Advisors and get our podcast. We break these into two pieces. If you like podcasts, you can always just listen to them that way. Archive recordings are always available in the platinum area as well. Let’s just dive in.
“Hey, April 15th has come and gone. What moves can I make to still impact our 2018 taxes?” This is that you didn’t expect to get hit with as big a tax bill, we’re hearing about this more and more all over the country. In some polls, people were paying extra taxes in 70% some up of the time. Then, somebody comes in and says, “That’s not true. You actually didn’t have to pay as much tax.” How about this? I had to pay more tax at tax time than I’m used to, even if they didn’t do enough withholding or whatever, I still got hit.
In the case of many people, I don’t want to call them blue or red tapes, but let’s say the New Yorks or the Californias of the world, they got a pretty good sized tax increase. A lot of our clients got hit, not because of anything that they did other than they happen to live in a place where their deduction was limited and they hadn’t taken any action to offset it.
Jeff: We saw a lot of that, especially those people in some of those taxing states, that between the laws of personal exemptions and the reduction in deductible states and local taxes, they paid for […].
Toby: How many people do you see really getting hit where it was a big shocker? Thus far, because we’re pretty early in the tax season.
Jeff: I don’t want to say it’s a large number, primarily because a lot of these people that have larger incomes, we haven’t seen their returns yet. But we have seen quite a few people that maybe deducted $40,000 or $50,000 in state local taxes in previous years, and they were only able to deduct $10,000 this year.
Toby: Yup. So what do you do with those situations? What do you do, Jeff?
Jeff: There’s a couple of things that we have to keep in mind with those state and local taxes in particular is can we use them elsewhere? Do we have a home office where we can deduct a portion of them?
Toby: What Jeff’s talking about is that a company, if you have an S Corp or a C Corp—it has to be an S or a C Corp—or an LLC taxed as an S or C Corp, in theory, in some cases, if it was your only primary place, it would have to be possibly a sole proprietor. Then, you have depreciation, I don’t like those.
I’m going to just refer to a straight out mechanical plan where the company is reimbursing an employee and the employee does not have to recognize that reimbursement as taxable income. A company can reimburse you for a chunk of your home, including the real estate taxes. Jeff is basically saying–I don’t want to put words in your mouth, but–the company is now paying you back and it’s writing it off, so you can’t deduct it, but the company can.
Jeff: Correct. I may be losing some of those taxes just by the fact that I’m being reimbursed for them, but if I’m already losing $10,000, $15,000 of taxes, then I don’t mind being reimbursed for those.
Toby: Absolutely. It’s just a fancy way of saying hey, I’m getting some money.
Somebody just said,, when I see something that’s particularly relevant… “I am an S Corp, and also an ordained minister. Is there any conflict of interest if I’m taking minister’s housing allowance and taking home office?” What you’re doing is getting the personage… what is that, 26 USC 105. It’s a parsonage allowance for a minister where they don’t have to pay tax on it. Can you get reimbursed as well?
Jeff: I don’t think you can, because it’s already almost like a reimbursement. With the parsonage allowances, you’re not paying income tax on it but you’re still paying self employment tax on it. Yeah, I’m pretty sure you’re paying self employment tax on those parsonages.
Toby: The parsonage is I’m providing you with housing, but then there’s all the utilities and everything else that you’re covering up.
Jeff: Right, so there’s certain deductions from that.
Toby: Right. I guess the way I would answer this is I would look at your actual expenses. If you’re being reimbursed, you can’t double debt, otherwise it’s taxable income. But the parsonage allowance, I’m just trying to think of how they allocate it. I haven’t read that section in a while, I just know it’s not included in the taxable income of the minister.
Jeff: Correct. They usually provide you a form saying how it’s allocated, what part of it is for the house, what’s for utilities, and so on.
Toby: So we’re talking about just the actual heavy cost of the house. Anything that’s coming out of your pocket, so if you’re a minister and you’re coming out of pocket for utilities, it could be that you have people meeting you there so you’re coming out of pocket for upkeep on the outside even if you have a landscaper. It’s going to be whatever percentage of that home that office represents. You know me, I like to use the number of room instead of the square footage. You might be able to get 17%, 20%, maybe 22%, 23% of the house where any of those expenses you’re able to reimburse. But I don’t think you can get to–if it’s not something you’re incurring, if it’s not a rent you’re paying, if it’s not a mortgage you’re paying, if it’s not an actual expense out of your pocket, I don’t think you can reimburse for it.
Jeff: Yeah. Interesting question, I’m not aware of any exceptions for that. Possible, it could be.
Toby: Switching gears, we’re still talking about what can we do for last year. A lot of you guys are used to the April 15 deadline for IRAs and things like that. If you’re a small business, you don’t have to worry about those deadlines, so long as you have a retirement plan. I think that just ended on April 15, but if you have a solo 401k, profit sharing plan, any of those, defined benefit plan, anything that the company has that sponsors. Your deadline is when you actually file your return and the company actually files its return. You still have time.
We still have a lot of clients, I talked to one last night that was freaking out about the amount of tax that they owe, they didn’t realize how big their tax bill was. I said relax, you have a defined benefit plan, how much were you able to put in there? They said close to $200,000, that’s two people. I said well, you could put $400,000 in as long as you do it before you file your returns, September for these guys in the S-Corp. Again, if it’s going to save them in that particular situation at least 37%…
Jeff: That could save $140,000, $150,000.
Toby: Yeah, at least. Sometimes, that’s what you look at. You want to look at those.
Here’s another one, Jeff and I were just talking about that before we got on. This is a huge one, you’ve heard me talk about cost segregation. Anybody who’s listened to Tax Tuesday already knows what that is. I’ve written about it, I’ve spoken about it, I’m all over the internet talking about cost segregation.
Cost segregation is a fancy way of saying breaking your house, instead of using the straight line depreciation method which is 27.5 years for residential or 39 years for commercial, we break out components of the building into things like the carpeting, the paint, the door handles, everything that you can think of. It gives a time frame that it can be depreciated over. It’s not all a 39-year property, a lot of it is 5 years, 7 years, 15 years. If that’s the case, then we use a second punch which is the bonus depreciation, which is 100%. You can choose to write that portion off 100% in whatever year, the year you put it into service or if we’re sitting here now, we can actually grab previous years that we didn’t depreciate.
Why this is important is because that’s called a change of accounting election when you do that. It’s a Form 31-15 I believe.
Jeff: That is correct.
Toby: You can file that all the way until you file your return this year.
Jeff: Right. As a matter of fact, if you amend your return, you can even file that.
Toby: Oh, so even if they did do that, you can still go back?
Jeff: Yeah.
Toby: So if you filed your return and you’re like oh crap, I paid too much tax, you can go back and do the 31-15 on your property?
Jeff: If you have your accountant tell you that you can’t do a 31-15, you can’t do the change of asset, that’s just because they don’t want to. The form’s a real pain, but it’s something you need to do at times.
Toby: Here’s what’s relevant. If you have a bunch of income coming off of rental properties, you have income hitting you from rental activities, I think we saw some syndication deals, you have somebody there and you have rental income, and you get hit with some things that you didn’t anticipate having so much. I’ve had that conversation with several people over the last few weeks where they said, “I didn’t realize that’s how much I made. Now, what do I do?”
We just accelerate the depreciation. You’re going to get about a 20% of the improved value, immediate tax relief. If we just want to be pigs about it, frankly, you go back to the men last year and get some of that money back if you feel like it. We can’t carry your losses back, but if we change the accounting method, we can go back two years so we can literally take the big chunk of the deduction, imply it to 2017 and 2018. Again, we have options here. You get the choice, and people don’t realize that they actually have that option, they have that choice.
If you’re a real estate professional, now we can really dig into this thing. Even if you’re not making money in your rentals, we can create more loss. If you’re a real estate professional, we can make that statement on your returns, and we can take that and offset your W2 income and your other profits. I don’t really want anybody to ever feel like they’re just completely out of luck. There are some things you can do.
Other things you can do, you go into the business and you look at all the expenses. You make sure that if you had a choice on when to expense something, maybe you’re accelerating it. Maybe you’re being too conservative and you decide now that you have a stronger incentive, maybe it’s time to take a little more aggressive position on certain expenses. This is so I can make Jeff’s hair fall out, you love it when we talk about aggressive positions. No, you gotta do it within the realm of the law. It’s like allocation of how much personal use I have on things.
What it comes down to is what kind of record keeping I have, and did I take the very conservative position because I didn’t think it was worth it being aggressive, and now all of a sudden I have extra income, it’s all in the 37% tax bracket, maybe I have an incentive now to take a more aggressive position.
Jeff: That whole allocation discussion of how much you may allocate for expenses, keep in mind, that’s kind of a year by year calculation. If you may be deducted 40% of some kind of cost as a current year spend, the past year that’s not necessarily what that expense is going to be for this year. We kind of look at it each year and maybe in certain years we do have a reason to be more aggressive.
Toby: I’ve done this many, many times that even in my own businesses, you go through and you say alright, we kept books, now let’s go book the back and really start taking a critical look at what some of the expenses were and let’s see if we missed anything. It’s not worth it if you don’t have much of a tax liability, it is worth it if you’re facing a big tax liability.
Sometimes, you have the choice. Do I take an expense now or am I going to allocate it over five years? Do I have a choice? Can I accelerate it? Can I 179 something? I may not have been aware of those certain expenses I can take, or in a greater phase, faster phase.
Couple of questions. Somebody asked two things that are very relevant to this. Number one, “Hello, I’m new to this type of planning. Aside from the $5500 IRA, $3500 HSA, are there any other allowed? I just opened my HSA.” As an individual, first off, you can’t do anymore on the IRA. Some of the planning, you can. If you have real estate, then yeah, we have some options. If you have a small business, that’s an S Corp or a C Corp or an LLC taxed as an S or C Corp, yeah there are some things we could do.
As an individual, you’re out of luck right now. We can affect the business, which might affect the personal.
Jeff: But you have IRA and HSA or both shut down.
Toby: Yeah, that was as of yesterday.
Somebody asked about the house. A lot of people, what people do is let’s say you have a home and an office, the typical accountant will say how big is your house, it’s 2000 square feet. How big is the office, it’s 100 square feet. They’ll measure it out, then they’ll say okay we can write off that proportion, 1/20, which is 5%. That’s not going to get me very excited. Frankly, that’s the IRS’s approved method because it’s the worst for the taxpayer.
You can use any method that’s a reasonable method, I think there’s 9 or 10 of them. You can exclude all the non-usable square footage in your house. When you use the 2,000, that’s like hey we’re adding everything up together. You have hallways and stuff, closets, what else could we throw in there?
Jeff: Stairways.
Toby: At a minimum, you can immediately go and say let’s measure those out and remove them, so now instead of 2,000 square feet, you might get down to 1,500. Now, you have 1/15th, which I don’t know what that percentage is but it’s more. It’s close to 7%. That’s still not very exciting.
One of the methods that the better practitioners use–in my personal opinion–is you count the number of rooms. If you have the same number of rooms, let’s say six or seven rooms, whatever, of fairly equal size, then you just take 1/6 and you’re going to get a lot more bang for your buck immediately. That’s an approved method.
If the IRS wants to come in, they’re not going to be…
Jeff: I’ve never seen them come in with tape measurers…
Toby: Nope. The only thing they really care about is that used for your business exclusively. They used to say the computers, do they have games on them? We’re going to deny you. Well, here’s the thing. The traditional home office is what a sole proprietor does, and you’d have to recapture that for depreciation and all this fun stuff. That sucks, we don’t do that. What we do is we do an accountable plan employer reimbursement where you don’t have to pay tax on it, and the company can write it off. That’s something very different, and there’s four different categories of a home office in that case that can be reimbursed.
The easiest one is an administrative office where you do your administrative services for your business, and it doesn’t even have to be the principal office of the business. It’s where you do your administrative services, that is treated as a home office. Whereas when you’re doing the home office deduction, it has to be the principal place of business. We don’t play that game so we go straight to where we can get it, we don’t have to pay tax on it, we love it, and let’s just say you got 1/6th. You’re going to get to write off–if you got a $12,000 property tax bill, you’re going to get 1/6th. You can reimburse yourself $2,000. Now, you’re not crying because you didn’t get to write off. It was over $10,000, you lost the $2,000. Here, you just got the $2,000 back to your business. Yay, we win.
Somebody says about 2018, we’re talking about going back in the last year, talking about the net investment income tax. You got surprised by a net investment income tax, we need to take a look at it. The way I always look at it is anytime you get hit by something you didn’t expect, then you should have a second set of eyeballs to take a look at it and see if there’s any way around it.
Net investment income tax is when you’re over $250,000 and it’s passive income.
Jeff: Portfolio income.
Toby: Well, yeah, that’s right.
Jeff: Capital gains.
Toby: I was going to do a section on the three different types of income. They always say passive and active, but it’s actually passive, active, and portfolio. I was literally…
Jeff: I have people say estimates when they mean extensions and that makes me crazy. I’m an accountant.
Toby: Passive is real estate or activity which you don’t participate in, portfolio is royalties, interest, dividends, and capital gains.
The net investment income tax is on those passive and portfolio income. So if you can reduce it, guess what happens? There goes your net investment income tax. We just talked about a way to reduce that income, which is the cost segregation and rapidly depreciating in other ways to do it too.
Jeff: One of the biggest surprises I see, especially with capital gains, is when somebody has a large capital gain and they’re expecting 15% tax and instead it turns out that the 23.9% tax because they got the 20% capital gains tax plus that net investment income tax where it all just balanced…
Toby: Plus the state tax.
Jeff: Plus the state tax.
Toby: It can be a little sneaky. Other ways to lower your income. Obviously, we prefer to be doing this stuff during the tax year which all this stuff is going on. But you’re never completely out of luck until you file that final return. Even if you file that final return, sometimes you can go back and amend it, and get it back anyway.
I don’t want you to lose hope, they generally ask a question. Do you have to pay back the home office depreciation when you sell the house? On a home office, yes. Unless it’s an accountant plan and you’re being reimbursed, then no. The home office for a sole proprietor, different animal. We don’t like it.
Jeff: Here’s the whole crazy side of that. My company can reimburse me for depreciation but I don’t have to recapture that depreciation.
Toby: In fact, you literally capture it. If you guys have ever seen my cheat sheet, come to Tax Wise if you love to get into this stuff, you want to geek out with me. We actually go through and say here’s the depreciation that we’d be allowed to take, the IRS gives us the calculator. That’s how comical it is. You can reimburse.
Here’s how weird it is. I have an S Corp and it’s going to make $100,000. Oh, nuts. I don’t get to write off my SALT deduction, I don’t get to do all these things. That same S Corp could say Hey Toby, I’m going to reimburse you for 1/6 of the property taxes, 1/6 of the depreciation on your house. This is one room out of six, I’m going to reimburse you all the expenses including your cleaner, including your utilities, including anything that’s associated with that house and I’m going to write you a check for it. It’s going to lower that $100,000 down to $85,000. I don’t have to report that anywhere, I just lowered my taxable income to $85,000. That’s how it works. The answer is when you’re doing the accountable plan, you do not have to recapture that depreciation.
Somebody said, “If you have two bedrooms, work in one and the other for administration, does that count?” He’s talking about a two-bedroom property, I’d probably say you’re going to have to call the rooms a room. I’d probably say take a look, if you’re in a small apartment, then yeah. We have it where it’s a standalone house, it works. We have clients with two houses, one that’s business, one that’s personal.
Jeff: Yeah, you’re still going to have to count that living area, your kitchen, bathrooms I think are out, correct? Not included in that.
Toby: Yup, bathrooms are not included. Only the usable space. Frankly, we don’t really know because the IRS doesn’t have a definition for it.
Jeff: That’s right.
Toby: We have other ones we could use up our sleeve.
Jeff: Yeah I think that was one of the IRS’s ‘we’ll get back to you’.
Toby: Somebody says, “Does the accountable plan require the business to be a corporation?” There has to be a separate party which you can be an employee, you cannot be an employee of your own partnership or sole proprietor, so yes, you need to be an S or C Corp. It could be an LLC taxed as an S or C Corp.
Somebody asked a really technical question here. “If we’re reporting installment income on 62-52,” are you familiar?
Jeff: Mhm.
Toby: You also need to submit 47-87.
Jeff: 47-97.
Toby: Sorry about that.
Jeff: Yes, so 62-52 ends up feeding into the 47-97, which probably feeds into the schedule B instead of a 10-40.
Toby: That’s your gain, right?
Jeff: That’s right. The 62-52, that’s your installment sale form. 47-97 sale of business property, schedule D capital gains, and then everybody hopefully knows what a 10-40 is.
Toby: Somebody else asked–oh, you guys really love this home office. I talk about the home office deduction so often, nobody ever shoots me. Now, I got 20 questions.
Here’s some cool ones. “Is that accountable plan part of any […] creates, especially if I did one in 2013?” Yes, if it’s a corporation. If it’s an S or C or an LLC taxed as an S or C, you have that. Technically, accountable plans don’t have to be in writing, though we always suggest that they are. You’re not completely out of luck if you don’t have it.
“When you have an accountable plan and you use the room method for the home office, can you also include your homeowner’s insurance?” Yes, along with property taxes, yes. Mortgage, yes. Utilities, yes. Landscaper can be included as well? I did talk about the landscaper being included, but the only time you’re allowed to do the landscaper is if it’s a meeting office for your clients, that’s the only time. If you have people coming there, I think the minister is probably having people coming into his home, then yes. If you have people meeting at your house, then you can write off the landscape. Otherwise, no.
We got a whole bunch of stuff we got to jump into. I love the questions. Alright, here’s the questions we’re going to go over today. Somebody asked about improvements like a bathroom renovation, no, unless it’s specifically for your business. If you have people meeting you in your home, and you have a bathroom that’s used exclusively for your clients, then possibly. Otherwise, I would just say no.
“Are there advantages to moving our software into an opportunity zone?” The second one is, “I borrowed $100,000 from my cash value life insurance policy at 5%, I loaned it to my Wyoming Holding LLC at 8%, and then I loaned that back out at 12%. How do I deduct the 5%?” We’ll go into that. “Do the new Tax Cuts and Jobs Act help big businesses more than small businesses?” The answer is yes, but we’ll get into the reasons why. “Should I use my tax refund towards estimated quarterly taxes from 2019?” “If I overpay the estimate, will I have to pay taxes on future refunds?” We’ll answer that. “Are distributions from a limited partnership positioned in apartment syndication taxed?” “If you pay all estimated taxes due before year end, fine-tune for yearend’s earning, will there be a penalty if you do not pay quarterly estimated taxes?”
The last question we’re going to go over today is, “Investor owns 20 single-family homes and 8-unit complex in Florida, all rented out. Can we use accelerated depreciation such as new roof, AC, kitchen, bathroom? What’s the percentage and time frame?” We’ll go over all of those. We gotta jump into the first one. I apologize, I have about a thousand… I’ll make sure that we get to all your questions, I’ll just have to sort through a little bit.
“Are there any advantages to moving our software business into a designated opportunity zone?” Jeff, what do you think?
Jeff: I don’t think there is. If you’re an existing business, you’re not going to get any advantage from moving into an opportunity zone.
Toby: Let’s go back and break this into little pieces, first off. Opportunity zones, they are a creature of the Tax Cuts and Jobs Act, they came about the end of 2017 and first showed up in 2018. All states designated certain zip codes as economically disadvantaged areas that need investment. That’s what an opportunity zone is. If you actually go read about it, there’s 26 USC, 1400 Z.
The opportunity zone is economically disadvantaged areas where the government wants investment. The way it works is if you invest in one of those areas and you hold the investment, and what it really comes down to is you invest in something called a fund, an opportunity zone fund, and it invests 90% of its capital into opportunity zone property… It could be a business, it could be real estate there under certain circumstances, and you hold it for 10 years, any gain on that property, you don’t have to pay tax on. You hold it for 20 years, zero gain, no capital gain. Business, investment of business, it’s worth a million dollars, and it goes up to $10 million, I pay nothing on all that gain.
Certain real estate will work if you double the improved value of that, but you have to invest as much cash as the improvement’s worth. We always use examples like if you put a million dollars into the opportunity zone, you buy a property at $600,000–$200,000 is the land, $400,000 is the improved value, you just need to put $400,000 into that the first 31 months. It works.
What’s kind of weird is there’s two pieces to this. There’s that side, and then there’s also a deferral side. The deferral side says if you had a capital gain event in as long as you take those gains and invest it into the opportunity zone within 180 days, then you do not have to pay tax on that for up to 7 years. When you do pay tax on it, you only pay tax on 85%. If you wait at least five years, you only pay 90%. After 7 years, you get what’s called a step-up at 15% so you only pay tax from 85% of it.
That’s why people do opportunity zones. You get deferral for seven years, you get a reduction in the amount that you end up having to pay that’s equivalent to about 15%, and then you pay nothing on any of the gain.
Let’s go back to your question. If you have a software business and whether it be an advantage to move into the opportunity zone, there could be if you’re acquiring real estate in that area, if you’re acquiring another property, another software business, or if you’re seeking investment. If I moved my business into the opportunity zone and then said I want to raise money, now you have a pretty good reason why somebody would want to give you money. You couldn’t be the one who gets the real benefit, because you already own it so you’re disqualified. You can’t do it on your own business. Someone asked me that, revision was 26 USC 1400Z.
“I borrowed $100,000 from my cash value life insurance policy at 5%, I loaned it to my Wyoming Holding LLC at 8%, and then I loaned that back out at 12%. How do I deduct the 5%?” I would probably collapse that. What do you think, Jeff?
Jeff: I agree, I would collapse that. Actually, it’s a loan to the LLC, not to you.
Toby: That’s how I would treat it. I’d say it’s an investment expense if it’s the partnership’s.
Jeff: I’m not sure if there’s any advantage to generating income on one side and then having to find a place to deduct the 5% personally.
Toby: I would ignore this thing from a personal standpoint, I would just treat it all as part of the partnership. I would say really what it is is that partnership has an expense ratio at 5%, so I would just have it grabbing the 7% as the income. I’d be deducting the 5%. You don’t need to do the three pieces, because you really can’t loan it to your own holding entity, unless you have other partners. I guess if they have a third party, even then that would be weird. Really what you did is you have a contribution.
Jeff: Maybe if they had one entity loan to another entity. If the first entity was in the business of financing.
Toby: Yes, that’s the big issue. You and me, it’s hard for us to be a business lender. An entity, yes it can. The entity here definitely is doing bridge loans. Just take the 5%, that’s the easiest path, that’s called the path of least resistance. You write it off, you’d have zero and it would just offset the income that it brings in by the 5%. You’re going to get to the same point of getting to write it off.
Jeff: Right.
Toby: “Does the new Tax Cut and Jobs Act help big businesses more than small businesses?” Heck yeah. That was the whole point of it, is that hey, we’re going to cut corporate taxes from the high of 39% down to 21%, they knocked it almost in half. That would be like if we took the highest tax back from 37%, it would drop down to 22%. Yes, that’s a huge benefit.
What they did is they gave small businesses a 199-A deduction which is the 20% haircut on your business. If you’re a corporation, you get almost a 50% tax cut. As an individual, I’ll give you 20%. Tell me which one’s better.
Jeff: The one I like to talk about is the small corporation has taxable income between $0 and $50,000 a year. They’re actually paying more tax under the new tax code because prior to the new tax code, $50,000 or less of corporate income was taxed at 15%, now everything’s taxed at 21%.
Toby: Somebody’s asking the difference between big and small business.
Jeff: If you’re IRS or a Big 4 CPA Firm, a large business is probably a $100 million to $500 million is your bottom side of that. I think when I was in large business at IRS, we considered large businesses over $100 million in revenue.
Toby: I would just say it’s any big business that has multiple owners. Any small business is just really you and maybe a small group.
Jeff: The corporate tax rate, the highest tax rate really kicked in at a low level right around the $100,000 you’re already paying 35%. That aspect, I think there’s other things done that have affected the large companies that don’t affect the small companies.
Toby: We’ll actually see the big impact. We’ll be able to see once we have the IRS data book which should come out a year and a half from now. It’s going to take us a while to really see the impact. I already have my hunch because I’ve done a bunch of polls in different groups and asked where do your income go up or go down, what we’ll see is how much revenue they’re generating and from whom. My guess is audit rates on big businesses have been going down. Frankly, they’ve gone down on individuals too a little bit, I think we’re at a total audit rate of about .7%, which is less than 1%. We’ve seen the corporate audit rates drop and the amount of revenue generated continue to go down. The vast majority comes from individuals. I have a feeling that’s going to be exacerbated under this Tax Cuts and Jobs Act.
Jeff: The information the IRS has provided on refunds is they do say refunds have gone down about 2%. The data they don’t keep is taxes owed.
Toby: We will see that in the…
Jeff: We’ll see that in the year and a half, but we don’t know what that is right now.
Toby: Nope. It’s always frustrating. You’re going to have this big delay on the returns, almost a year. When we’re filling our individual returns in October, they’ll be giving us the data from 2017 sometime in the fall. It’s like the 2018 databook was for 2016. We’re really not going to have a good idea on this one for another year and a half. But again, everybody knows just by looking at the tea leaves, I think that if you’re in a blue state you got hammered. I think that especially for high income earners, that’s going to force people to do something. If you’re a big company with a C Corp, you got a big kiss from the government.
“Should I use my tax refund towards paying estimated quarterly taxes for 2019? If I overpay the estimate, will I have to pay taxes on future refunds?”
Jeff: One of our suggestions is that when you’re making extension payments, you go ahead and include that first quarter’s payment with your extension. Since you’re not able to deduct several taxes, you never have to pay taxes on refunds from IRS. It never hurts to overpay the estimates, it only hurts to underpay the estimates.
Toby: You’re not going to be hurt…
Jeff: No.
Toby: You’re not going to pay taxes in future refunds. Yeah, should you apply it? It depends how much your quarterly taxes are.
Jeff: Right. If I have a client with an overpayment that has to make quarterly estimates anyway, I actually like to apply some of that overpayment.
Toby: Yeah, it’s easy, rather than writing them a cheque.
Jeff: It goes through April and even June and not pay any taxes, and make your first payment September.
Toby: Yup. Easy answer.
“How are distributions from a limited partnership position apartment syndication taxes?” I love these, it seems like they’re really simple. I did the dance with somebody on this not so long ago, but they had an eight-year limited partner, which means you’re not participating and you’re not at risk. What happens in a lot of apartment syndications, they say you put in $100,000, we’re going to give you back not just your $100,000 within a year. We’re going to give you that plus a bunch of money. We’re not going to have any income. You got to figure that one out.
What they do is they go fix up the apartment, they refile it, and then they distribute a bunch of that cash. If you’ve done that, you always get your money back tax free. The way it works is I have a capital account. If I put money into a syndication, I can always get that money back tax free. If I get a loss, then I’m limited because I’m a limited partner, unless I’m at risk. I can’t use a lot of that loss. If I have income, it doesn’t matter what I have going on, I have to pay tax on that income if it’s issuing me a K1 with income on it.
If it gives me back more cash than I put in, and I don’t have bases, I don’t have risk, then I have to call that long term capital gains. This is what’s bizarre. What a typical situation is from owner of the apartment says hey, we’re going to fix this apartment up. We need $500,000 from the investment pool. We have financing on the rest, and we’re going to get a whole bunch of cash out of this thing right after we fix it. It’s the buy rehab rent refi model, and then you take the money and you go do it again.
The way they take the money out is they issue it to the owners. If you put in $100,000 and you got back $150,000, you’re going to pay tax on that $50,000 even if there’s no income, even if the depreciation is keeping there from any reportable income. That’s how it is. It’s something that looks so easy, from an accounting standpoint it could be a kick in the shit.
“If you pay all estimated taxes due before the year ends fine tuned to the year’s earning, will there be a penalty if you did not pay quarterly estimated taxes?” You pay all of your taxes before the end of the year, but you didn’t pay your quarterlies.
Jeff: You’re going to have what’s called the estimated tax penalty, because IRS wants you to pay this money quarterly. There are a few ways to get around this. Say you made your estimates December 31st or December 15th, but you earned all your money, you made a huge profit in December. What we can do is actually annualize your estimated taxes, that is saying that most of your income was earned during this specific period. The tax was due during that period instead of back early in the year. That’s one way to alleviate this, the estimated tax penalty.
Toby: Hire an accountant.
Jeff: One quick word on going back to the question about overpayments, the nice thing about an overpayment is it doesn’t quite count as an estimated tax payment, it’s counted more like withholding which means it’s sort of having been taken out throughout the year. Actually has a better chance of saving you from estimated tax penalties.
Toby: That’s good.
Jeff: Withholding is the same thing. Withholding is always a better result than estimated tax payments.
Toby: We have one that’s still related to that, somebody received a K1, and this is interesting. It has to do with the 199A deduction. They just had a note on their K1 that said this property is under triple net lease, it does not meet the definition of qualified trade or business under IRC Reg.199AB14. Does that mean they don’t get the 20% QBI deduction or something else? No, it means exactly that. It doesn’t qualify as qualified business income, and that’s the only type of rental activity that does not, is triple net leases and rental property.
If you get that to your LP, then you’re not going to get that 20% deduction. Otherwise you possibly can. It’s kind of weird.
Jeff: Because it has that real estate factor.
Toby: Yup. I’m going to jump to the next one. “Investor owns 20 single family homes in an eight-unit complex in Florida all rented out. Can we use accelerated depreciation? The things like new roof, AC, kitchen and bathroom remodels, what’s the percentage and time frame?” Let’s break that down. First off, you have 20 single family homes and 8-unit complex. You can use accelerated depreciation even if you don’t fix them up. If you fix them up, you can use accelerated depreciation but just remember what it is. You’re taking property that is less than 20 years in their bonus depreciation and taking it all in year 1. We’re breaking the property into those pieces.
Let’s take a look at the items you just mentioned. New roof, that is longer than 20 years. AC, that is going to be less than 20 years, we can write that off depending on what type of property it is. We may even be able to 179 that, but we don’t really care about that, we’re just going to bonus depreciate it. Kitchen and bathroom remodels, depending on what you’re putting into that bathroom and kitchen, yeah, think about this. You spend a whole bunch of money fixing up that kitchen and inside there’s appliances, inside there’s fixtures and things like that. All of that stuff, that’s not 27.5 year property. You can even write that off right away. The appliances, I do no matter what, because they’re easy to break up. But everything else that’s part of it, I’d be breaking up, I’d have somebody do it.
What’s the percentage and time frame? The average is about 20% to 40% in the first year that you’re grabbing and taking as bonus depreciation, which means what’s the average? Probably around 20% is less than 27.5 of your property. Anywhere from 20% to 40%. What’s the time frame? We talked about that, you can go back, you can grab depreciation you missed. You can actually do your 3115, change of accounting method, that allows you to do the accelerated depreciation. You can do that and you can carry it back two years, or you can do it the year of. That’s how it is. You can get a huge benefit. We love this. Did you see what that question was?
Jeff: I did. Diane asked, “In 2018, we had a personal rental property held in our own name, we created a new LLC to a disregarded entity. Just me and my spouse are on it but didn’t have the time to quit claim it into the LLC in 2018. It happened in early 2019.” In 2018, all the revenue came to them personally and 2019 for the first five months. It also came to them personally.
Toby: It’s not going to matter.
Jeff: Yeah, it’s not going to matter because keep in mind, I’m assuming that it’s still disregarded to you. For tax purposes, even accounting purposes, nothing has changed.
Toby: Nope, everything is going to come down to you. Diana, you’re good. It’s not going to matter, it’s blowing under your schedule no matter what. Somebody else asked, “If a disregarded subsidiary of a Wyoming holding partnership lends money, will it be considered business income?” No, if it’s anything that’s a loan, that’s not business income. If it’s a disregarded subsidiary, they’re treated as one entity for tax purposes. You can’t loan yourself money. You do not have to do much with that, they’re going to be on one return.
Just to give you an idea of how weird it is, you have a disregarded entity, you can have 30 disregarded entities underneath a single LLC and you still only file the one tax return for the parent LLC, unless that’s a disregarded entity to you in which case it all goes to you. Kinda cool.
Did you see what that question was, Jeff?
Jeff: Yeah, 59AE I believe applies specifically to corporations.
Toby: Here’s a question. They have a limited partnership and they have a GP that is a C Corp at 10%, only K1 for the corp. It shows box 20C in a statement on the LT return says gross receipts per section 59AE for $4800. That’s probably your 10%, right?
Jeff: Yeah. But I don’t think it’s going to apply to them because they’re a small corporation.
Toby: Right. It’s letting you know what portion of that income would be used in that calculation, you do not need to do anything, why are they doing it, because they have huge corporations all the time and they’re going to be checking that just so be safe so that that company knows that that’s what they’re doing.
Jeff: Yeah. If you had a corporation that gets a K1, this is not necessarily new. There were other codes that only applied to corporations and there’s codes that only apply to nonprofits. It was information that required…
Toby: The 10% is the $4800. It’s going to be about $48,000, and 10% automatically goes under the corp books. You don’t have to worry about it. Why do I see this in my LT corp, it’s just because they’re checking a box just in case. It’s not going to matter. A, you should be expensing that thing off pretty easy. Frankly, I’d probably make the whole $4800 disappear if you have a partnership there. I’m not gonna be too worried about it, but I can see… They’re just doing a safety check, you don’t have to worry about it. It’s almost like the gentlemen have the LP return where it said that this is not qualified business income, all they’re doing is letting you know this is corporate, this is C Corp income that would be used towards this calculation. You’re way underneath the calculation so I wouldn’t worry about it too much, unless I’m missing something here.
Somebody asked, “I’m entangled with a partner at 50% owner entitled in an apartment building where I put up 100% of the funds for initial investment. The mortgage is under my name. The partner performs the property management and receives the same monthly cash flow proceeds as I do. How do you suggest I divvy up for tax purposes?” Well, if they’re receiving a set amount–that’s called a guaranteed payment to partner–I would just call that… Actually, we’re going to have to break this into pieces.
If you are in a partnership, then you’re hopefully going to be controlled by a partnership agreement. If one partner is entitled to a certain dollar amount, then they would get that as a guaranteed payment no matter what. If you’re paying them for property management, that would reduce the amount of taxable income you then have that’s being split up amongst you. If what you’re saying is that they’re working and their portion–because they’re working they get 1/2 of the income, that’s something completely different. Then, they are receiving active income and you would be a passive investor in that. They would receive half of the income, you would receive half of the income, their half of the income would be active for tax purposes. You see anything I’m missing on that one?
Jeff: No, it’s really important when we create these partnership agreements that all of this is laid out. Profit and losses, who owns what. Because ultimately, that partnership agreement is going to determine much of this.
Toby: Hey guys, real quick, Tax Wise. If you guys like tax planning, if you like this sort of thing, join us for the next one in June, the Tax Wise workshop. You can always come in and attend live if you’re platinum, you could probably get tickets. If you don’t want to attend live, I can give you the recording from January of this year, and you’re going to get the live stream, the actual event, you can chat and get your questions answered and all that fun stuff, and get the recording. All that’s $197. andersonadvisors.com/341 is going to get you there if you like this sort of thing.
There’s two tax strategies that I’m going to be adding to the Tax Wise in much greater detail. One is Solar, I put a strategy on that one that I am 99.9% I’m going to have an opinion done on it one more time. This is really cool. On Solar, there’s a way that just by investing about $30,000, getting $18,000 in benefit back. Almost like you’re cutting the cost of doing that on rental properties and things like that by almost 70%, 80%. I can go into those things. There’s accountable plans and all that fun stuff.
Somebody says, “Unfortunately, there is no written agreement between the partners.” Cassandra, Cassandra, Cassandra. That’s going to be a tough one, you’re going to be falling underneath the state in which you entered into this agreement. Wherever the property is held, you’re going to be underneath those state laws. You’re going to want an attorney on this one. If it’s your cash and you’re tangled up in that, that’s a recipe for disaster. You’re almost better off just becoming a lender in that thing and getting the property back, or if you have any sort of writing back and forth then you’re going to want to make sure that you get this thing in a partnership agreement sooner than later.
As far as the profits, it’s any two parties getting together to make a profit, that’s a partnership as far as the IRS is concerned. You’re a partnership, it’s just making sure that you don’t get taken advantage of.
Somebody asked me about the ROBS. I’m hoping to address the ROBS structure for investment property construction. Things like what services you provide, and the pros and cons, payback, etc. What a ROBS is is a rollover as a business startup. What that is is you’re partnering with your own retirement plan, it has to be a C Corp. Immediately take investment property out of the mix, I would not use this with investment property. I would use this only if I’m going to run an active business.
And then what it basically says is hey, I’m a disqualified person for transactions but I’m not a disqualified person to partner with my retirement plan. The IRS gives us a ton of guidance on ROBS because they were so misused and abused. They say exactly how to do it. It is a one time funding. What you’re doing is you’re setting up a corporation with no stock yet, and you set up a retirement plan. The retirement plan is essentially rolling your plan into that retirement plan, then invest in the corporation. At the same time, you’re dumping money in as well. That’s how it works.
I say no more than I say yes on ROBS just because they are so right for problems, and because you can only fund once, you put yourself in a really bad situation if you run into capital dates. I cannot do it.
Jeff: Yeah, if you don’t do it exactly in the order you said, you can just step out of order and it’s not going to work.
Toby: And there’s some bad stats to back this up, we don’t like it. If you have questions, go to Tax Tuesday at Anderson Advisors, or visit us online at andersonadvisors.com. You can always come and listen, I still got some more questions to go over. I wanted to give these to you guys so you got an idea, you guys know what to do to answer questions. You can always subscribe to the podcast, we have a lot more than just the Tax Tuesday. We do a lot of interviews. I had a really cool one with a guy that was the producer, he does big show productions. He did parliament back in the day and now he’s done Paul McCartney and he runs a really cool charity called […] and it’s fun when you get those guys on, or Meg […] who was a traumatic head injury survivor who took that and created this fantastic non profit in the Midwest and does a fantastic job. Actually did a TED Talk, just a great, great story. I get those folks in and of course we do a lot on tax.
Let’s go back to your questions. “Do I need to be a platinum member to get my question answered?” No, if it’s a basic question. “When you can, can you guys answer this question? Can you defer taxes on capital gains on the sale of property if you put it toward an existing residential mortgage?” No, you cannot. The only way you can defer capital gains that I know of right now, we’re talking about wholesale deferral, is I’m doing a 10-31 exchange and I’m putting it into more property. I’m selling it and I’m putting it into an opportunity zone that’s going to defer me for seven years. Or, I’m breaking it up and I’m doing an installment sale, and I’m going to take it over a period of years.
I’m still going to recognize the capital gains return basis is zero, depreciation rate captured is 0% to 25% depending on my tax bracket, and then my interest income is my ordinary bracket. I break those into pieces. Or if it’s your residential home and you’re just refi-ing it, that’s not taxable to you. If you’re refi-ing your residential home and you’re using it for something other than improving your house, it’s not deductible under the new tax code as mortgage interest. If you’re taking the money out of your home and you’re investing it, we deduct that on your schedule for the investment property. If you’re selling your home and you lived in it two out of five years before selling, then you could exclude up to–as a married couple–$500,000 of capital gains. There’s some period of non-use if you used to use it as a rental. There’s a lot of rules there, those are the ways to do it. I just shot those out at you, sorry.
“When trading 12-56 contracts, what’s the best entity to go through?” Well, John, 12-56, you’re getting that long term gain or 60% short term gain… Is there a way that we classify… I can’t remember.
Jeff: Not that I’m aware of.
Toby: I think it’s 4X where you can say 9-88 or 12-56. The 12-56 contracts, I would have that go through a flow through entity. It’s either a limited partnership or an LLC. LLC taxed as a partnership if you have a partner, it depends on what you’re doing and whether you’re trying to get tax release. At a minimum, those are really good, by the way. 12-56 contracts, that’s really great. 60% long term capital gains, 40% short term. None of it is going to be subject to old age or medicare. It’s actually really good.
“When leased most six bed residential care facility for the elderly are usually taxed as triple net. As they are all residences, does that make them qualified for the 20%?” No, a triple net lease is the exclusion for commercial. I think they’re going to treat you the same way even if it’s residential. I know you’re doing the assisted living. I have I think four units that are I think leased to people that run residential facilities. In my case, it’s for disabled folks, and they’re not triple nets. I’d take a look and just make sure, there’s some nuances as far as transferring all the responsibility on the tax to the other party. Don’t get hung up on that 20% qualified business income thing, it’s neat and all but you jump through some hoops and some phase outs depending on how things like how much you make.
“When I record an expense, maybe an office desk for our S Corp, service income, do I need to record the sales tax? I paid into a separate account in QuickBooks.” If you buy a desk for your business, you’re paying sales tax on it.
Jeff: Right, and that is included in the cost of that equipment.
Toby: You add it in, so you’re going to pay tax on it. The only time you don’t pay sales tax is–used to be you do the Amazon thing. You still have use tax and things, most states have a use tax so they’re going to get you either way. But you just added in to the cost of the item, you don’t have to separate list it. Unless you’re going to resell that desk, unless you’re buying furniture with the idea that you’re going to resell it, then you’re going to have to pay the sales tax.
Jeff: On the other side, if you’re selling stuff and you’re collecting sales tax, that’s not income to you and it’s not expense to you. When you’re collecting sales tax on sales that you made, it’s not income, it’s not expense.
Toby: You’re collecting on behalf of somebody else.
Jeff: Right.
Toby: You just have to pay that over. Unless you’re an Indian, this is going to sound horrible but I just think it’s so awesome that casino on hi-way 10 right before Palm Springs, I’m not going to say the name. They collect the California sales tax and they don’t rebate it to the state because they don’t have to. I think that’s funny.
“If I trade stocks in LLC structured as a C Corp, how can I be taxed on the quadrants instead of the S?” They’re using trade talk and I’m not getting it. I don’t know.
“Hey, when you have an LLC for your trading, the exchanges want to consider you professional. […] Here’s what you do. They are all going through this methodology where if you’re a business entity, they want to hit you as a professional because they don’t know. There’s so many LLCs that are lying, that are saying they’re trading it for their account and they had all these funds and everything else, and these guys are basically just trying to make some more revenue.
What I do is I ignore the LLC for the […] trade, I will open that up as a grantor trust, just as a regular trust, like you are the living trust. They’re going to say who’s the beneficiary, you’re going to say yourself. When they ask the tax ID, you use the tax ID of the LLC. That’s the easiest route, and then you assign the beneficiary. As soon as you open up the account, you sign the beneficial interest to the LLC. That way, they never know the LLC exists, they just think you’re just a regular old trust and they treat you really good.
Some of them are getting sticky. It can depend on the broker, it can depend on the company. I’ve seen that pop up and off over the last year where it seems to be a new trend, it’s annoying. Really, […] is called a personal property trust. It’s like a living trust. If they ask you, say it’s just like a living trust, it just holds my trading account. And then you just show them here’s what it is, it looks all good. And then we just make the beneficiary the LLC.
We have a few more questions here. Property solely used for AirBNB. Here’s the question, can you depreciate a property that is used for short term rentals like AirBNB? Here’s the issue. If your average rental is seven days or less, then the answer is no. They treat you like a hotel. If your average rental is greater than seven days, then the answer is yes. The problem with AirBNB is the average rental is about three days, unless yours is way different. Chances are you are going to be treated as a hotel, and you’ll get taxed, self employment tax, and you’ll lose depreciation, 10-31 exchanges, all that stuff.
There is a workaround. We have a bunch of videos out there in our YouTube channel that you can find on AirBNB, but the workaround in a nutshell is you lease it long to your own corporation so it’s usually I have an LLC and I lease it to my corporation. My corporation is now the host, and it does the smaller hosting. You get to treat it as a long term rental, even though the corporation is now the hotel.
“Can an LLC owned by spouses be a disregarded entity?” John, the answer is yes if you’re in a community property state. Both spouses can be owners of it, and it’s treated as a disregarded entity. Which means it doesn’t file the tax return, everything flows under your personal return.
If you’re in a separate property state, then you need to have a living trust. One spouse’s trustee could own it on behalf of the trust which you’re both beneficiaries of, and then from a tax standpoint the IRS treats that as a single taxpayer and it can be disregarded. If you’re in a separate property state and you do not have a living trust, then you would both be owners and you’d be treated as a partnership and file a 10-65. Hope that makes sense.
“For tax deed with redemption rights. Is it better to be a disregarded entity under a holding partnership, or to be a disregarded entity under an S Corp?” If I’m doing tax deeds and I’m going to redeem them, first off a tax deed is interesting. Chances are I’m going to have that floating through to me, I don’t want it to be in that C Corp because that’s portfolio income. It’s interesting. That’s good for me. Generally speaking, I would put that into a holding entity, an LLC in Wyoming is probably a good idea. If I want more tax benefits and I want to have centralized management, I’d probably have an S or C Corp managing that, I tend to like that structure.
“What if you have a C Corp and this year you did nothing with it? Do you still have to pay quarterly taxes?” No, in fact you don’t have to pay quarterly taxes if last year you didn’t pay any taxes. That’s always the case.
Jeff: No, that’s not true for corporations. There’s no prior […] for a corporation if your income was zero.
Toby: Oh okay, so what do we have?
Jeff: It can be based on prior year if you paid tax in the prior year.
Toby: But if you didn’t have any, if you didn’t pay tax, let’s say prior year you had taxes. This year, you have nothing going on. Do you still have to pay quarterly tax?
Jeff: No, not really.
Toby: Alright, so we’re in agreement on that one. But if you think you’re going to make a bunch of money this year and you didn’t have any taxes last year…
Jeff: Then you have to make estimates based on…
Toby: Just remember, this is a pay as you go system and then you’re going to retrieve for the most part when you first start. But once you’ve got a history, you need to be careful. If you think you’re not going to be paying anything and you didn’t pay anything, you don’t have to pay taxes if you’re not paying the money. Frankly, remember, your penalty is based on underpayment. If you don’t underpay, then there’s no penalty. If you don’t have any taxes, there’s no underpayment penalty if it’s just chilling there.
“Moved to Puerto Rico.” Somebody’s talking about paying less tax. You got to live in Puerto Rico if you’re going to do that 4% tax. That’s at 22% and 20%, you got to live there 183 days I think is what it is. You actually have to be physically there.
“I own three lands as an individual, I would like to sell my land to an LLC and then work with my partner to build homes. Those homes […] an LLC, what’s the tax ramification of doing this?” That’s a pretty good question. If you’re going to subdivide land into six or more lots, then you’re a dealer. Or if you’re going to develop the property, you’re going to sell land and then put a bunch of property on it, sell those, that’s also dealership activity. If you want to cut it into pieces, you sell the land to an S Corp or C Corp, that’s what you’re doing with your partner. That way, you get the long term capital gains on the sale of that point. That’s the entity that does the development.
The improved value above the value of the land is what would be subject to the active ordinary income. But since it’s going through a corporation, we can then control that. We’ve done a bunch of videos on those too, how to do those types of transactions. It’s not horrifically difficult, it’s just understanding that when you’re an investor, you want to make sure you remain an investor. And when you’re a developer, you want to make sure that you’re doing that to an S or C Corp.
“What if you don’t own the property on your short term rental? Is there any difference?” If you don’t own the property, let’s say you leased the property and then it’s just active income, you don’t have to worry about depreciation. If you are the owner of the property and you’re leasing it to somebody who then turns it into AirBNB, you can still depreciate it.
“What kind of trust do you guys need for a trading account to get her on the fees?” You would need a personal property trust. We do them all the time for our trading clients. We have literally more than a thousand traders I would guesstimate. How many returns are you doing on traders that have trading income right now?
Jeff: I really don’t have a number.
Toby: It’s hundreds. It works like a charm.
“Tax credit lost if you don’t file first year.” They maybe thinking…
Jeff: Startup costs?
Toby: Startup costs. That’s the only thing I could think of. When you have a startup cost, when you’re doing startup costs in a business, you have to elect the startup cost and the organizational cost in the first year.
Jeff: The startup cost definitely.
Toby: I think both you have to say I’m going to write this off, otherwise it’s added to the basis of the company. You have to do that.
Somebody said, “Is a disregarded LLC the best entity to put your kids to work?” There’s two rules. If I have kids that want to work for my company and I want to pay them a salary–a lot of you guys know that I did this with my daughter when she went to college, pay her a certain amount of money that she pays tax at her level as opposed to me paying her tuition out of my tax bracket. I’d have to run it through payroll. If you don’t want to run it through payroll, then the exception is you have sole proprietorship that’s owned by you and you employ your kids, then you don’t have to do the withholding and the self employment tax and all that fun stuff, you can just pay them.
You would set up a disregarded LLC and you’d both be working for it, or you have your child on their own LLC and have them do lots of work for other people too, and grow their business, you can do that too.
“Are we able to take unreimbursed accountable plan expenses, office space against W2 income?
Jeff: For 2018, no, that’s gone.
Toby: Yeah, we used to have unreimbursed business expenses that you take on your schedule A. Under the Tax Cuts and Jobs Act, they removed that. That is gone.
“Can you deduct a meal…”
Jeff: “Eaten at home if you are working on an out of town client?” No.
Toby: Thank you.
Jeff: You actually have to be out of town.
Toby: Yeah. When you’re traveling, you can write off meals, they’re 50% deductible, otherwise you got to be deducting business. If you had the out of town client with you and you’re eating, then the answer is yes.
“When you buy new real estate and do cost segregation, will the depreciation start new for the new asset without being affected from the prior depreciation?”
Jeff: I don’t think it would be prior depreciation.
Toby: Yeah, so let’s just assume, this is how it works. Depreciation, this is going to sound funny but you depreciate it and then whenever we want to re-depreciate it, you sell it to something else and you start your depreciation all anew. Generally speaking, we’re selling it while they’re doing a 10-31 exchange.
[…] doing a 10-31 exchange then the old depreciation flows through. I have never seen a cost segregation done on the old property that has been exchanged into the new.
Jeff: I don’t think they’ll be able to do that because you don’t own the property anymore.
Toby: Right, you’re rolling the old basis into the new one. I don’t think you can go back and redo it. Or you could…
Jeff: It’s not so much that you’re rolling the depreciation, you’re rolling the old basis. Well yeah, you can do that under […]. You can’t elect to roll the depreciation.
Toby: Yeah, you’d have to… that’s a noble concept. I’d have to look at that. I suppose that you could do it.
Jeff: I think that you would have to do the change of accounting method before you actually sell the property.
Toby: Yeah, I see what you’re saying. You do the…
Jeff: You can actually do that as of the day you sold the property. But once the property is sold, I don’t know that you can any longer do that.
Toby: Right. So you brought the new property and the basis rolled of the old property rolled into the new. I don’t know the answer on top of my head whether you’d be able to do the accelerated depreciation. Imagine you could but it would be on the old property. You probably have to do it before you bought the new property. It gets funky but it’s very interesting, that’s something I might look at and see if I can answer next time.
Jeff: If you’re buying a property that you’re considering doing a cost leg on, you’re going to have to have an appraisal anyway for the loan or whatever to buy this property. Do you find somebody who can do appraisals and cost legs at the same time?
Toby: The cost leg is going to be an engineer or it’s going to be software overseen by a tax professional. It’s not going to be the appraisal, it’s going to be very different. What I’m doing is I’m saying what items are what. They don’t really care about the value, they’re saying here’s the item. They may be valuing from a certain standpoint, I guess they wouldn’t be into a certain standpoint. What they’re really doing is breaking up which items in the property are less than…
Jeff: Yeah, I guess that’s true. […] price are sort of looking at an overall value of the property based on comparable…
Toby: And they have different methodologies for doing it.
“If you pay your 19 year old child to work for your LLC, would this be classified as a management fee?” No, because you’d be paying them for whatever service they provide.
“Do I need to recapture the depreciation?” No, on 10-31 exchange you don’t have to recapture depreciation in a 10-31 exchange until you sell it. When you do sell and you don’t 10-31 exchange, then you get to recapture.
If you die, the whole basis steps up and your kids can re-depreciate it, that sounds really horrible. That’s kind of the whole reason why you never sell the property if you want to hold on to them. Then if you do another exchange, you can exchange and exchange and exchange and exchange, and you’re never going to have depreciation recapture. The only time you’ll have depreciation recapture is if you quit 10-31 exchanging your sell up property, then you’re going to be recapturing all of it from day one.
“What is the qualified charitable distribution and why is that limited to $100,000?” That’s not of a retirement plan, I think that’s what he’s talking about. It goes like this. When I am over 70.5 and I have to take required minimum distributions, that required minimum distribution does two things: A, it’s taxable by ordinary brackets, it’s going to be taxed a lot. But it can also make my social security or other income taxed at a higher amount. Right now if I get social security, there’s a good chance I’m not going to pay tax on it. If I go over $40,000 or what not, now I’m going to be paying tax on 85% of it.
What some people do instead is they say I don’t need the money, I don’t want to pay extra tax on my social security and I don’t need the money coming out of my retirement plan. Frankly, they’re forcing me to take it. Rather than have me pay tax on it, I give it all to charity. Normally, my charitable donation is limited to 60% of my adjusted gross income. When you do it out of your IRA or 401k, then I don’t have to count that as income, I don’t need to report it.
Jeff: You just got to make sure the money goes straight from your IRA to the charity.
Toby: Yup, it does not go to you and then you donate it, it goes straight to the charity.
“Can the qualified charitable deduction exceed the required minimum distribution?” Yes, actually it can. If I have a whole bunch of my retirement plan and I want to start giving it out to the charity, could I start doing that now and depleting my retirement plan? Yeah. I think you can. You’re just limited on the dollar amount. You can’t give your whole retirement plan to the charity, they won’t let you do that but they will let you do $100,000 a year. Hope that makes sense.
In two weeks, we’ll be back again. Ask your questions at Tax Tuesdays at Anderson Advisors. We do have somebody looking at all of them and pushing it. If it’s a very extensive question, we kick it over to the advisors. If it’s a simple question, then we go over them on this. When I say simple, it doesn’t have your personal stuff all over it. It’s not like I don’t want to have you guys ask the question and then have your personal thing all over the internet. What I do is I try to keep those separate. But if it’s fairly simple, we grab them. We will make sure it does get answered. If it’s a very extensive question, then we may ask you to join the Platinum so that you can get a personalized answer which is much more detailed. Otherwise, do you have anything else?
Jeff: Nope. I’m going to go take a nap, see you all in two weeks.
Toby: We’ll see you guys in two weeks. Jeff is a trooper, finished his last night probably around midnight, done with the tax deadline, dealing with ultimately fun stuff. We’ll see you in two weeks.
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