How are you doing, really? Just don’t watch or listen to the news because it’s tough living in paradise—whether it’s California, Hawaii, or Iceland. However, Toby Mathis and Jeff Webb of Anderson Advisors are still here to offer answers to your tax questions with a side of awesome sauce. Do you have a tax question? Submit it to taxtuesday@andersonadvisors.
Highlights/Topics:
- How much can you give to charity and receive a full credit, even if filing a standard deduction? Choose between taking a standard deduction or an itemized deduction on Schedule A to give a cash donation to charity and write-off 100 percent of it against your adjusted gross income (AGI)
- What is Section 1202? Can a corporation managing real estate qualify for 26 U.S. Code Section 1202? Section 1202 refers to partial exclusion(s) for gain from certain small business stock and designed to get people to invest in manufacturing-type companies
- The recently passed California Proposition 19 will allow California to reassess any non-primary residence properties transferred to heirs at market rate? Yes, starting Feb. 16, 2021; for more information, visit the state’s Board of Equalization
- I’m trying to meet my goal of $50K for Infinity investing. I have about $30K that I could use to buy stocks, ETF, etc. Could I use all $30K to purchase stocks without violating the annual $6,000 contribution limit? Learn how to be a stock market landlord, buy assets, settle liabilities, and systematically make passive income to not work again
For all questions/answers discussed, sign up to be a Platinum member to view the replay!
Go to iTunes to leave a review of the Tax Tuesday podcast.
Resources:
Real Estate Professional Requirements
Form 1023 – Application for Recognition of Exemption
Form 1024 – Application for Recognition of Exemption
Internal Revenue Code Section 1202
California State Board of Equalization – Proposition 19
Social Security Administration
Individual Retirement Arrangements (IRAs)
Alternative/Renewable Energy Tax Credits
Unrelated Debt-Financed Income (UDFI)
Tax-Wise Business Ownership by Toby Mathis
Full Episode Transcript:
Toby: Hey, guys. This is Toby Mathis.
Jeff: And Jeff Webb.
Toby: You’re listening to Tax Tuesdays, where we are bringing tax knowledge to the masses. First off, let’s get everybody in here—in the question and answer feature. Just let me know how you guys are doing. Somebody says, “I’m in Cancun heading to dinner so we’ll listen to the replay.” Have fun. That’s just like rubbing sand in our pants. Hope you have a good time.
Everybody’s doing good. When was the last time somebody said, how are you really doing? I say that to everybody. Just don’t watch the news. Not as good as the Cancun folks. Cancun could be horrible. We’ll just say that because maybe you drink too much, might have too much fun, and get sunburned.
Jeff: You get sunburned.
Toby: Yeah, you get sunburned. Awesome sauce. “Weather in Florida is cool.” Cold in Florida, everybody says it’s cold. Got a lot of folks from all over the place. Thank goodness. Look at that, here in Wyoming. We usually ask the other ones where everybody’s from, but they usually have like 10,000 people registered for these ones. By the way, it’s snowing in Alaska. Look at that, kind of jealous of that.
“Aloha from Maui.” No, I’m jealous of that. Los Gatos, you’re locked down. Don’t leave the house. They’ll come to get you. Honolulu. Man, I’d like to be in Honolulu. I’d like to be in Maui.
Jeff: Did you see Hawaii is offering free airfare if you work there remotely for at least 30 days?
Toby: There’s a catch to that. I was like, oh, I’ll go. They were like, you have to apply for it. They’re going to do 100. It is mean. “Seattle’s raining.” I hear you. I lived there for 25 years. Somebody says, “Maui, that’s overrated too.” There’s Mark from Hawaii. “Iceland is allowing you to work there for six months.” Don’t be hating on Hawaii people, by the way. It’s tough living in paradise.
It’s chilly in Slidell. Do you live in Slidell? My brother and his wife live in Pompano Beach, Slidell, Louisiana. He always goes to Mississippi. I know.
Look at this. Now everybody’s asking me, “As a real estate professional, can my capital gain from a sale of a rental avoid that investment income tax?” If you’re a real estate professional, I don’t think it’s going to impact your income, but not 100% certain.
Jeff: If you sell that rental, it’s still going to be capital gain. The real estate professional doesn’t change the nature of the gain or loss when you sell.
Toby: Right, not on the sale, but on your real estate loss and allow it to be ordinary on your income. It’s still considered passive. Certain types, I think S-Corp income, when it comes through there you’re not going to be subject to it. I don’t think that you get to avoid that.
Somebody says, “Net investment income taxes, the extra 3.8% on passive income sources, rents, royalties, dividends, interest, capital gains.” That comes after you’re above $200,000 single to $250,000. Gosh, my brain’s already hurting.
Jeff: Yeah, it’s like a two-factor calculation. You can fall into that in a couple of different ways.
Toby: Look at this, my PowerPoint’s deciding it doesn’t want to work.
Jeff: Let’s call it a day.
Toby: I know, this is weird. My computer’s been doing weird things. It doesn’t want to work. I may have to come out of this and restart it. I’m going to ask Patty. I can’t even see you guys. I’m going to have to crash my computer and restart it.
Patty: Well, guys, we can talk about it next year. Can’t we, Susan? Why don’t we tell them about next year’s landing page for them?
Susan: Next year, as of January 2021, we are going to be moving this webinar over to the Zoom platform so we can accommodate more people on our calls because we’ve pretty much reached capacity with GoToWebinar. Keep an eye out for an email closer to the end of the year, probably about a week or two before the first episode of January for a new registration link. We hope you guys will continue to join us.
Patty: Yes. You have to make sure you have to register for the new link or else you will not get one. Make sure you see that in your inbox and to register that way, correct, Susan?
Susan: Absolutely. That’s correct.
Toby: I’m enjoying listening to you guys. Are we back? I’m going to write Bill a thank you letter for giving me this wonderful—whatever this thing has been doing for the last few days. It’s been absolutely joyous. There we go. I think it’s working again. I’m going to blame it on PowerPoint.
We have a lot of questions to go through. I’m not going to pontificate anymore because hopefully, my PowerPoint is now working. There we go. It’s always fun when things crash. Sorry, guys, and thanks to the team for jumping in and saving that one. I did not want to cancel this thing out. I didn’t want to accidentally turn everybody off. Let’s get back in.
“Zoom is much better.” We are going to Zoom so that we don’t have these sorts of wonderful things happen. I can’t blame GoToMeeting for this, but let’s just blame GoToMeeting.
Tax Tuesday Rules, ask live and we will answer before the end of the webinar. Send in questions at taxtuesday@andersonadvisors.com. If you need a detailed response, we’ll give you one. If you want a detailed response that pertains to you, you need to become a client. This is fast, fun, and educational. We want to help give back and educate.
A bunch of questions are coming through. Let’s see. “I guess we will agree to disagree then. I think that it should follow the rental income as being active, not passive.” Well, yeah. The rental income. We’re talking about capital gains. Wayne, they were discussing the capital gains on it. Net investment income taxes, I don’t think it’s going to be on rents necessarily.
Jeff: Yeah, I think it’s on rents.
Toby: It is on rent? Even if you’re a real estate professional it’s not going to—
Jeff: Oh, no. I’m sorry. For real estate professionals, the net does not apply.
Toby: All right. Let’s be very, very clear. We have two types of income that you’re going to be looking at. You’re going to have capital gains and you’re going to have a rental ordinary income. The rents that you receive as ordinary income—when you’re a real estate professional—are not subject to the net investment income tax. The capital gains that you receive will be subject to the net investment income tax, according to Jeff extraordinaire.
Now, we can always look at that. Somebody says the dominion code crashed my computer. These people are having fun with this.
“In trading stocks and options, do long-term gains offset both short-term and long-term losses?” Well, yes. It’s really the opposite. Your long-term losses offset both short-term gain and long-term gain.
“Which is why you need to hire […] for your IT department.” It’s just my computer guys. I overuse it. I take it with me everywhere and then it just does bad things sometimes.
“How much can you give to charity and receive a full credit even if filing a standard deduction?” David, this year you can give 100% cash donations to charity and write-off 100% of it against your adjusted gross income. You always choose between the standard deduction and taking a Schedule A deduction, which is what a charity is—the itemized deductions. Yes, you can decide.
Let’s keep jumping in. We have so many questions popping in. I can’t resist. It’s like a moth to the flame. I want to just answer them.
“Can a corporation managing real estate qualify for Section 1202? What is Section 1202?” Just so you know, that is Jeff’s favorite question today so he can answer it.
“The investment property held the title as an LLC and was kept in the deceased father’s living trust. The heir is a minor child. If I transfer it to the child’s name, will it affect property taxes?” Very good question.
“The recently passed California Proposition 19 will allow California to re-access any non-primary residence properties transferred to heirs at a market rate starting February 21, 2021?” We will absolutely go into that.
“I am trying to meet my goal of $50,000 for Infinity Investing.” Congratulations. That’s awesome, by the way. “Let’s say I have $30,000 that I could use to buy stocks, ETFs, et cetera. Could I use all $30,000 to purchase stocks without violating the annual $6000 IRA contributions or am I bound to the $6000 contribution limit?” We’ll break that down for you.
“My elderly mother has her house in a trust/living will,” probably a living trust, “with the fair market value today at approximately $700,000 and a cost basis for property taxes at $289,000. The current tax assessment is $341,000 (protected under California’s Proposition 13).” If you guys aren’t familiar with Proposition 13, it’s so that you can’t hike up property taxes on people who’ve been living in the house for a long time. Especially, protecting our elders so that they don’t have a nasty surprise of reassessments as values go up, just limits it. “Is there a federal tax liability if the property is deeded/transferred as a gift to a child to avoid the implications for property taxes, assuming the mother is living after February 16, 2021?” We will go over that too.
“I have a single-member LLC that owns a single-family home with a tenant and also is used to book my real estate bookkeeping side hustle,” I love side hustles. It’s my favorite words for some reason when you hear it or do side hustle. “How do I segregate the reporting on the tax return between Schedule C and E? I am also assuming only the service revenue is subject to self-employment tax. Can you please confirm?” I’m going to rely on Jeff on that.
“I have two self-directed IRAs for real estate. One property is a single-family residence that produces IRA income and incurs IRA expenses. The other property is some land where apartments will be built with a partner. Hence, only expenses incurred in 2020. Question: what kind of tax reporting needs to be done on these properties?” We’ll go through that too.
“I was displaced from a corporate job last April and had to execute several years of company stock options. Not having the cash to purchase the equivalent shares, the options were executed and sold for short-term capital gain. This short-term gain is taxed as ordinary income and reflected on my W-2. Outside of retirement contributions and charitable donations, are there any other vehicles to reduce a six-figure liability?”
“I am an Airbnb host who has been invited to participate in their directed share program, which lets me buy a limited number of shares at the IPO price. What words of wisdom do you have? I own the properties personally. They are not yet in land trusts. My management company runs Airbnb.” We’ll go over all that. Congratulations, by the way. That’s fantastic. They should do well. Even right now, Airbnb is not doing horrible.
“Can you explain how passive activity losses from depreciation are used against the tax liability on the sale of the same passive income asset?” I know that Jeff is chomping at the bit on that. He loves explaining dispositions and stuff. We’ll go over that.
“I did a 1031 Exchange to buy a condo, which I rented out for two years. This March, I moved into it due to COVID (easier to rent the single-family home we were in than the condo). It’s now my primary residence and I want to put it in a revocable living trust. What are the tax implications of doing this? When I go to sell, will it still be treated as a rental and I’ll pay capital gains? Or will my years of living there impact the ratio (2 out of the last 5 years for primary residence)? We’ll go through that too.
“My employer sent back a portion of the previous year’s 401(k) contributions to comply with the IRS rules for highly compensated employees. Can the return balance be applied to a separate QRP against last year’s tax-deferred contribution limits?” We’ll break that one down. That one gets a little bit weird when you’re talking about highly compensated employees and having to refund, but we’ll get with what all that stuff is.
“Home sells for a profit of $500,000 after two years. I’m splitting the profits 50/50. How do I avoid paying taxes on the entire profit?” We’ll get into that one.
Then, mea culpa. All right. Last Tax Tuesday, somebody gave me good advice in the chat, in the question, and I rebuffed it. I think it was Wendy. We were talking about Californians specifically how you could […]. There’s something called community property with the right of survivorship. In my world, what I tend to do with everything is trust. She was absolutely 100% correct, and I was absolutely 100% incorrect. I said, I’d look, and this is me doing a mea culpa saying I screwed up, then I should have listened. She was smart, and I was being dumb. There’s me being a dummy.
Hey, you guys are oftentimes putting stuff into that question and answer and I should listen more. There are joint tenants with rights of survivorship. It’s what we’re used to tenants in common and owning things and trust. Apparently, there are a few states that allow you to own things as community property so you can make sure you don’t lose the step-up in basis.
The bigger issue in California—just so you guys understand where we come from—is the cost of probating a house in your name can be extraordinarily high. One of the things that you get around that is by putting in a living trust. That’s what I usually tell people. At some point, we’re going to want to have trust around the property, partially because I don’t want to just give things to people because sometimes they’re not prepared for it. Plus, unintended consequences.
Number two is the cost of probate is so high in case it is not covered under joint ownership. But what Wendy pointed out quite correctly is that if you’re owning something with a right of survivorship, you avoid the probate completely. Quite often you’ll have a husband or wife owning things as joint tenants, more likely than not with the right of survivorship. Meaning, the first spouse passes, the second spouse gets it. If he only has community property with the right of survivorship, the same thing.
The bigger issue there is on the step-up in basis, making sure that there are no issues that the community property rights of survivorship puts it to bed quite easily. The same thing is if you’re putting it in trust. But in either case, they don’t like seeing things owned as tenants in common, especially in your name or without the right of survivorship because now you’re guaranteed to go through a probate. Probate is very expensive in California, specifically because it’s based on asset value.
You have a $1 million house, you’re looking at about $26,000 or thereabouts probate. Somewhere over $20,000, which is just too much, even if you have a big old loan against it. We don’t like that. Anyway, that was me being bad. Sometimes I do that. Jeff, you have to deal with me.
Jeff: I know.
Toby: I’ve never wanted it to be said that I don’t eat crow and I make a mistake. That was the mistake. All right.
“Can a corporation managing real estate qualify for Section 1202? What is Section 1202?”
Jeff: I like this question because they asked if they could qualify for it and then they asked what it was.
Toby: Here’s the code section. It’s a partial exclusion for gain from certain small business stock. What it’s meant to do is if I invest in certain types of companies and small capitalized—like less than $10 million I think is what the number is—then I sell it. I hold it for a period of time and I sell it. Hold it for five years or more and I sell it. Then I have to pay tax and all the gain.
Then there are these little things called exclusions. They exclude a whole bunch of stuff including things that are involving banking, insurance, finance leasing, investing, or similar businesses—any business involving the production and extraction of products with respect to what deduction is allowable. I don’t even know what that is.
Hotels, motels, and similar businesses. Any trade involving the performance of services in the fields of health, law, engineering, architectural accounting, actuary—there’s a laundry list. The big ones are financial services, brokerage services, and any trade or business where the principal asset of such trade or business is their reputation or skill or one or more of its employees. I think we’re out of it. We’re not going to get it.
Jeff: Yeah, 1202 is designed to get people to invest, specifically, in manufacturing-type companies. They could exempt some of their gains that they later sold that stock. Right now, it’s 100% exclusion of, I believe, $1 million of gain. It’s really nice, but it’s very difficult to qualify for this.
Toby: Somebody is asking, “Can I see things?” Can you guys see my screen? I think you guys can. Hopefully, you can. Patty or somebody, maybe just give me a heads up. Yes. There’s a couple of people as they can. I think that it’s GoTo meeting was naughty today. We’re going to put it on the naughty list so we’re not going to give them anything for Christmas.
Jeff: They know we’re not going to use our platform anymore, so they’re giving us that.
Toby: Maybe that’s it. We’ll still use them. Somebody has a really good question about owning a qualified opportunity zone fund or a qualified opportunity fund in their 401(k). I would just say this makes absolutely no sense because you have to have tax-deferred. You have to have a tax, you have to have capital gains. It’s exempt from tax so you’re not going to be able to invest in it. You could invest in an opportunity zone. You could absolutely, it’s just you get no tax benefit from it.
Jeff: Similarly, I’ve seen people invest their retirement plans and tax-exempt income, municipal bonds. It doesn’t really serve your purpose.
Toby: It does the opposite. You just invested in something that you wouldn’t have to pay tax on that now you have to pay tax on. It’s horrible, right?
Jeff: Yeah, I agree.
Toby: Everybody’s saying Zoom is king. Zoom causes me a little bit of consternation once in a while too. I think this is technology in general.
Somebody says, “The investment property held the title as an LLC and was kept in the deceased father’s living trust.” This sounds like it’s a piece of real estate and an LLC. The LLC is owned by the living trust. “The heir is a minor child. If I transfer it out to the child’s name, will it affect the property taxes?”
The answer is it depends on your county and your jurisdiction. In a lot of places, yes. If you change more than 50% of beneficial interest, you’re going to have an impact on property taxes. You’re going to be dealing with transfer taxes. Will it impact federal capital gains or anything like that, more often than not, no. Most importantly here, if this was an investment property and it was in a living trust, there’s a basis step-up on the father passing—assuming that the beneficiary, the living trust is that minor child.
Let’s assume that it’s not and it’s to a spouse or somebody else, then chances are no. We have the issue of the minor child. It is transferred to the minor child’s name. Can a minor child own an interest in an LLC? Actually, they can. It’s just the question of whether they would have the capacity to sign any documents. No, they probably have a guardian. In this particular case, it would be the LLC that’s actually being transferred.
If the LLC becomes owned by the child, then how is that child actually going to hold a title? Is there a manager on it? Is there a trustee? Is it sitting in trust? Is Jeff the beneficiary of the trust? Jeff says, hey, I actually want this just to go to my child now. The question is, for gifting purposes, is it being used against Jeff’s lifetime gift, or is Jeff just claiming and the child is the next beneficiary? You have a few issues, but without getting too deep into it.
Jeff: If the child is the direct beneficiary of the decedent, would it be better to leave it in the trust that results from…?
Toby: It might be. It depends on the trust.
Jeff: Because the trust and the child are in the same tax brackets, so there’s no tax advantage there.
Toby: There’s none.
Jeff: I’m thinking maybe now you have a trustee to oversee for that child.
Toby: Again, it depends on what the rules are. Most of the time, a trustee is going to be directed not to distribute principles, especially to under 18 beneficiaries. Usually, you increase that and you say that they don’t have a right to it. The trustee will sit on it. Let’s just say that the trustee is supposed to distribute all assets to beneficiaries. Then you might end up distributing that LLC to that underage beneficiary. Which again, it’s not unheard of, but usually, you’re going to have a component of a guardian.
Somebody else had to handle it, obviously. It depends on the type of income. This is weird. I hadn’t thought about this. “What if that’s a minor child and it’s kiddie tax?” They’re receiving income from the trust. It’s passive income—kiddie tax income. Then, that would be assessed to the parent of the child, correct?
Jeff: What would the new tax brackets—the kids now have their own tax brackets, which are the same as the estate taxes or as the trust taxes. They are no longer taxable.
Toby: I still think of the kiddie tax. Kiddie tax is completely gone now. Interesting. All right, more questions for you guys.
“I have a client who wants to sell their primary residence. Both husband and wife lived there for 20 years. They want to downsize to a smaller single-family home purchased for $449,000 and now worth $1.5 million. They have tax-exempt for $500,000. They’re going to pay or buy a smaller house for $650,000. Overall, how much would they pay on the gain? Is there any other way to avoid capital gains tax? By the way, the house they’re going to purchase will have to be under their daughter because they don’t have enough income.”
Okay, so here’s the question, how much debt do they have? It sounds like if they’re selling the house for $1.5 million, they should have close to a million dollars of that gain. And then on that same question, assuming this was never used, it says they lived there for 20 years. If it’s never been used as a rental, there’s no depreciation recapture.
Assuming that they didn’t use it as a rental, what we have is they bought it for $449,000. We’re going to assume that’s the basis. There might be some adjustments if they did improvements on the property. What they’re going to have is a step up. Husband and wife, assuming that they haven’t sold another house. If this is the only house they’ve been living in so they haven’t sold one within two years, they meet the other requirements of 121, they would have $500,000 that they do not have to pay gains on. They would have $5 million that they would have capital gains on.
Depending on their tax bracket, they’re going to be 0%, 15%, 20% plus they’re over the $250,000 mark. They’re going to have a net investment income tax and they’re going to have state income tax depending on where they live.
If you wanted to avoid that entirely, what you would do is you take the house that’s worth $1.5 million and you rent it. You rent it for a period of time. There’s no hard and fast rule, but you’d convert it into a rental and then you would sell it. What that allows you to do is 1031 Exchange into other properties. But then you would have to buy real estate that is worth at least $1.5 million. You have to do a real hard search on this.
You’re looking at somewhere in the neighborhood of $100,000 of tax to determine whether it’s worth it. It might be something they want to contemplate.
The other thing is it’s capital gains. If they have $500,000 of capital gains, that’s when you start looking for an unrealized loss, any other capital losses, or if there are any carryforwards. If they’re voracious givers, maybe you’re looking at this is the year you’re selling the property, maybe they’re going to give. This year they made a big gift. We look at those things. I hope that helps. Anything else I’m missing on that one?
Jumping forward. I know I grabbed a lot of questions for today. Jeff, I couldn’t help it. It’s the last one of the year. “The recently passed California Proposition 19 will allow California to re-access any non-primary residence properties transferred to heirs at a market rate starting February 21, 2021?” Yes, it does. They’re asking with a question mark.
I actually took a screenshot, Jeff, five minutes before we started. We’re like, hey, let’s take a screenshot of this. This is from the Franchise Tax Board or the Board of Equalization.
Jeff: Board of Equalization.
Toby: The Board of Equalization in California. This is from their site, you could just go to Prop 19 and look at it. It breaks down what all the differences are.
It used to be that a parent could leave their kids their primary residence and it wouldn’t be reassessed. What they found is that lots of kids were inheriting big properties. Imagine that you get the great Malibu property and then they just turn it into a rental. They’re not getting a reassessment, and that’s not fair.
People said, hey, they’re not really using it. The question becomes, what’s a fair way to handle it? They said, well, if you live in it, fine. Then what’s the value limit? They put a value limit on the current taxable value plus $1 million. I don’t know how they’re going to calculate that. If I’m gifting things—whether I’m going to be able to give a very large amount of money—we have a current taxable value.
Let’s assume that mom or dad had a property. They paid $200,000 and it’s now worth $2 million. Its taxable value for the assessment is like that earlier example we have, it’s $400,000. Then, the amount that you can protect is $1.4 million. It’s not the full value of that property. What you’re going to do is you’re going to have lots of reassessments on properties especially.
Somebody says, “Free and clear property on that,” that one we were talking about earlier about selling the property. Sasha, you may want to look and see whether it makes sense to turn that into a 1031 Exchange. Otherwise, you’re looking at a little bit of an issue. They would have to buy other real estates with a debt ceiling problem. But I love real estate, so I wouldn’t be worried about that.
Going back to Prop 19—I’m sorry I lost my train of thought there. Prop 19, the big thing is it’s only one child and it is the principal residence. I should say it’s only one property. If you leave it to two kids, I think they’re both going to have to live there. It’s kind of wacky.
Jeff: I got the impression that this was directed at San Francisco, Sonoma, Napa County, and in San Jose, where you have a lot of low-tax properties that are worth a lot of money.
Toby: Yup. “Are you grandfathered in until February 15?” I think it’s many transfers after that point, otherwise, you’re fine. I know what you’re saying. Julie’s written and saying, “Prop 19 was a trade-off to allow the elderly to transfer their tax bases to a new residence in different counties, especially relevant for fire victims.”
What Julie is referring to is under current law, you could sell a house and replace it. Let’s say you had a house that was decimated in a fire and you get a replacement property. You have to be in the same county. You could do that once, I believe. Now, we can do it up to three times and it’s statewide. But I’m not an expert in Prop 19. You’d have to take a peek at it. It was intended to get more money realistically and stop an equitable problem of the people who were forced out of their homes because of fires.
Jeff: Yeah, I agree with what they said that’s what the purpose was—to help the elderly. That’s actually the title for the elderly and disabled. I don’t see it changing that much for those particular people involved.
Toby: Yeah. Somebody says they want to erode Prop 13. Of course, they do. There’s a ton of value in their real estate. They basically stopped it from being able to hammer away on folks. Did you have the old broken one?
Jeff: I’ve got the broken one. I’m playing with my broken chair.
Toby: I love that. “I am trying to meet my goal of $50,000 for Infinity Investing.” For those of you guys who are unfamiliar with Infinity Investing, we are teaching another workshop on December 19. We weren’t going to do it, but then they did all these lockdowns.
Patty’s worst nightmare is always, we have an open weekend. There’s nothing on it and people are stuck at home. This is horrible so let’s make it a learning opportunity. Then, they realize, captive audience. That’s exactly right. People are sitting here. They’re going to be so annoyed. We weren’t going to do it. Then I said, let’s do it. Infinity investing is fun. It’s free. Somebody says, “Shout-out to Infinity Investing.” Absolutely. Our guys are killing it. Absolutely killing it.
They were scared to say this is the last Tax Tuesday of the year. I said, well, aren’t there more Tuesdays? They go no. “What is Infinity Investing?” It’s really easy. We buy assets and settle liabilities. We look at things very differently. We narrow the stock market down to about 60 companies, then we rate them, and we buy […].
Infinity just means you don’t have to work anymore because you have enough passive income coming in. You could live an infinite number of days without working. Then, when you work, it’s gravy. We go through a very, very precise, and systematic growth of our income. We start off with dividend-paying companies that we sell options on, which we call being a stock market landlord. You start by trying to generate $50,000. This individual is working it out and they’re starting to build up their money. Somebody says, “It changed my life. Thank you.” You’re very welcome.
It’s not rocket science. It’s just very systematic. Jeff, we do over 6000 returns a year. We know who makes money and who doesn’t. We know who consistently makes money. You can see the same things over and over and over again.
We just go and say, let’s take the gambling out of this. Let’s make it very consistent, make the world very simple. Quit trying to reinvent the wheel and being Mr. Smarty Pants on everything. Let’s just go and here are the things we should invest in.
In Infinity Investing, it’s free. The basic membership we’ve now made free forever. Anybody that joins, it’s not going to be at cost. We have trading rooms open on Wednesdays—the basic trading room—and you can join us for free. There’s not going to be a cost to it. You can go in there and learn how to invest without fear and without a huge price tag to get learning. Bring anybody who is a young person before they get into debt, especially because we’ll show them the other way.
“Let’s say I have $30,000 that we could use to buy stocks, ETFs, et cetera. Could I use all $30,000?” First off, we want to separate these things from each other.
For young people, especially adults, I tell them all to invest originally through a Roth IRA. The reason we say that is because the math goes like this: if your current tax bracket is below what you will be at when you retire—when I retire, if I’m going to have a higher tax bracket than I am right now, then you should do a Roth IRA or a Roth 401(k), depending on how much money I want to get into it.
If I am less than $50,000, the amount that I can put in this year, but if it’s $6000—I always want to say $65,000 but it’s $6000. If I am over $50,000, I can put $7000 into a traditional or a Roth IRA. On the traditional, we have to use it with a little bit of analysis. If you’re below $50,000, we don’t have to worry about it. You can actually put it into these things.
If you’re below $100,000, I think you’re pretty safe. It’s when you get above that, that we have to look to see whether you have another 401(k), things like that, because the traditional may become an issue.
Let’s say I’m a young person. My daughter graduated from college last year. She’s applying for med school and working at the time. She’s been taking small classes. She’s doing all the applications. Let’s just hope that she gets in and she can go help people. That’s the way I look at it.
We put money into an IRA or a Roth IRA. Those are both fantastic. If we put money into the IRA, you have to pay tax on it. On her income, it comes off the top. We put it into the Roth, she doesn’t get a tax deduction, but she’ll never pay tax ever again on that money. It’s an absolutely fantastic vehicle.
Now, let’s say that a year from now, she needs that money. On the Roth, she can always pull out the $6000 she put in. No penalty, no nothing. On the traditional, it depends on what she pulls it out for, but she’s going to have tax on it, perhaps a penalty. I hope that makes sense. Then on Roth, if she tries to take out the growth on it within a five-year period, there could be a penalty.
But no, there’s never going to be a situation where she’s going to get hit with penalties and taxes on a Roth. The only one is if she took a deduction.
Somebody says, “Where’s the whiteboard?” We’re going to go to Zoom so we can do all that stuff. I could draw all over this thing, too. I think that’s what killed us last time. That’s what I was trying to do. I could do this. There, you see I’m drawing.
You have the traditional IRA and you have the Roth. If you have $30,000 in the Roth, you could make $1 million and it’s still 0% tax when it comes out. In the traditional, if we put $30,000 in, in theory, we got the tax benefit by deducting those payments—the $30,000 over a number of years. By deducting the $30,000, as a result, when we make $1 million, it is taxable at some point.
When you’re over the age of 72+, you have what’s called a required minimum distribution. You pay tax over time. That could be a really small amount or it could be a big amount, depending on where you’re at.
To answer your question then, assuming that you haven’t already put those moneys in, you just have the annual limits. You could put the $6000 into your Roth, which is what I would do, and I would keep the other $24,000 in your name or in an entity—depending on whether you have a bunch of deductions you could do. But anyway, these are things that could absolutely take place.
Somebody else said, “Well, what about if your kids are going to school? What are the things you could do?” There’s a 529 Plan. The other big one is having your kids work for your company. Even if you have a small little company, management company, whatever it is, make sure that your kid is working for it instead of you just paying for their college. If you pay for their college, it comes out of your tax bracket, whatever you might be. Your child, if they start making money, the first $12,800 is not taxable. It gets really cool.
“Is your trading class every Wednesday?” It’s a trading room, and yes, it’s every Wednesday. Erik Dodds is a fiduciary who’s in there showing you guys how to trade. It’s absolutely no cost. It’s what we call free.
Patty can send you over. Patty, I told her that I might mention Infinity and she’s probably ready to punch me in my nose.
“Can I contribute $6000 to a Roth IRA and also $6000 to a Roth TSP (Thrift Savings Plan)? I don’t know if there was a ROTH Thrift Savings Plan, is it?
Jeff: The TSP, that’s the government plan.
Toby: Do they have a Roth component?
Jeff: I’m pretty sure they do now, but it’s just like a 401(k) plan. I think you can actually do much more than $6000 in the TSP.
Toby: If it’s the TSP, then you have $19,500? I’ve never seen that. If they do, then you have a $19,500 limit. If you are over the age of 50, you have a catch-up. That catch-up is $6000 this year, which means you could put up to—what would that be?
Jeff: It’s $25,500.
Toby: $25,500. I thought they may have jumped it to $6500.
Jeff: No, the $6000 catch up is not adjusted ever.
Toby: Yeah, that’s not adjusted. The limit is $12,500 and the catch-up is $6500. I think it’s $6500. I was just looking at a sheet and I think it’s $6500 because I think it’s $26,000 that you can put and defer. Yes, you can do multiple contributions. It’s just, the question is I’m limited. Somebody said, “$26,000 too.” I think you’re right. I thought they adjusted that once. I know it’s not a tab. I can’t remember where I saw that.
Jeff: You’re thinking maybe it’s a one-time adjustment.
Toby: I think it was a one-time adjustment. I know it’s not inflation, but I think they made it $6500. I’m just looking at a cheat sheet. I think the cheat sheet is not correct, but who knows. Whatever it is, we’ll verify it.
Somebody else is saying $6500 too. I think that’s right. In the recesses of my brain, Thrift Savings Plan, yes. Then, you could put it in there.
Here’s a fun one. You could put the money in, and that’s the employee deferral portion. Then, there’s the employer participation where they can put money on your behalf. The employer can contribute up to your salary into your buckets inside the 401(k) or the retirement plan up to $57,000. That includes the deferral portion.
It can only deduct 25% of that. The portion that it doesn’t deduct, you can actually roll into your Roth bucket during the year, so you don’t get a deduction for it. It’s a huge amount that’s now sitting in a Roth portion.
Somebody’s saying, “All I see is a Q&A screen here.” You’re correct, that’s all I have up right now.
Somebody says, “How long is it?” Oh, the office hours or the trading room is open for two hours. We’ll take a look at this stuff.
Somebody says, “There’s a whole bunch of questions coming in on that.” Let me see. We are recording this. You can send that over.
Somebody says, “The 2021 limit is $19,500 the elective and then a $6600 catch up. That’s for next year.” Yeah, absolutely. Somebody says, “This year it’s $6500.” So everybody’s saying it’s $6500.
Let’s jump into more questions. “My elderly mother has her house in a trust,” she says it’s a living will but it’s not a will, it’s a living trust. “With the fair market value today at approximately $700,000 and a cost basis for property taxes at $289,000. Their current tax assessment is $341,000. Is there a federal tax liability if the property is deeded/transferred as a gift to a child assuming the mother is living after February 16, 2021?”
If you gift a property to a child, you have to be wary of Prop 13. Right now, not a big deal because you can give it to children. You’re not going to have to worry about reassessing, in my understanding. After February, then you have to worry about it no matter what.
From a federal tax standpoint—just ignoring California taxes—the way it works is I can gift up to $11.8 million per spouse. I can give those to somebody else and not pay tax on that transfer. That’s my estate and gift tax exclusion. I can use all that up, giving the property away.
The fair market value of $700,000, first off, I can give that, not pay tax on it, and I can take it against my lifetime exclusion—this big, huge $11.8 million. We don’t know what is going to happen to it in the years to come. It’s set to go back down to $5.4 million for both spouses. Get it?
There’s something called portability meaning they use both. You have a huge amount of $22 million or $23.6 million that you can give away.
The problem is when you do that, then you get the basis of that individual. You would get the same cost basis as an elderly mother. You could gift it to a child and you’re just giving up the step-up in basis, which may or may not be something that you’re worried about.
You could do a tax analysis on it and say, if you’re going to keep it in the family, it might be wise to do this now because then your grandfather did under Prop 13. You’re not going to have to pay a huge bunch of tax.
Jeff: But the child will now have to make that their primary residence, correct?
Toby: I think if you did it prior to February, I think that you’re grandfathered in. I think that was the point. Somebody said that was the point. They want to get it out of their name.
“What forms do you have to fill out the gift tax?” I always forget whether that’s Form 706 or Form 709.
Jeff: Form 709 is the gift tax.
Toby: Form 709, right. You’re filling out and you’re letting the IRS know, the Treasury know, that you’re using up part of your lifetime gift. The one that you don’t have to report is if it’s $15,000 or less per recipient. Then you don’t have to worry.
Jeff: Now, if they made this gift would still be subject to the lookback period from Medicare or Medicaid.
Toby: If you give it, then when they start talking about whether you qualify for Medicaid, then what is it, a five-year look back?
Jeff: A five-year look back, yeah.
Toby: Next question, I know we’re getting long here. “I have a single-member LLC that owns my…” basically a house with a tenant, “and I also use it to book my real estate bookkeeping side hustle.” There are two businesses here. One’s a rental business. One is bookkeeping. Then, their question is, “What forms would I use? Would I report all of that income on one form, or am I going to put the rental income on E and my active income on C?” The other question is, “If it goes on to C, do I have to pay self-employment tax on it?” Which are old-age disability, survivor’s insurance, and Medicare, which is 15.3% on active income.
Jeff, what do you say?
Jeff: What goes on Schedule E would only be your rental income and expenses, everything else would go on Schedule C. It would be subject to self-employment tax if it was income. As far as segregating them, the best way to do that—if you’re using QuickBooks—is to use a classified profit and loss statement where you’re classifying each transaction as a Schedule C or Schedule E transaction.
Toby: Now, depending on how much you’re making on your side hustle, the fact that we have two schedules here kind of begs the question. You should separate those two businesses out because that Schedule C income with the self-employment income, you may want to make that into an S-Corp for purposes of avoiding a portion of the self-employment tax.
It depends on how much you’re making. If this is a side hustle where you’re making $5000 or $6000, don’t worry about it. If it’s a side hustle where you’re making $50,000, we should worry about it because it’s going to pay off just to switch that over to an S-Corp.
Somebody says, “Can I rent out the LLC to the S-Corp? No. In this particular case, you have a rental property that’s separate. You can always have your side hustle S-Corp or C-Corp, depending on what your situation is.
You can always have that—be the manager of that LLC. You can move money from the rents up to it if there’s a reason to do it. We’re always going to kind of look it out and say, what’s the reality of the situation and how do we avoid it? Would you pay yourself rent to reduce your […] tax? Rents aren’t subject to the self-employment tax, so you don’t have to worry about that. The way that it sounds is a single-member LLC is probably being ignored for tax purposes. As far as the IRS is concerned, this is all just you. It sounds like they’re a bookkeeper. They understand the class system.
Some more questions are coming in. Somebody says, “Yes, the point is not having it as a primary residence. I’m in Washington state. I want to keep that as my primary residence and not worry about the Medicare implications.” They want to gift it to somebody and just want to keep it in the house. I probably wouldn’t give it.
There are some ways to maintain it as a primary residence. It’s called a Qualified Personal Residence Trust or QPRT. What you can do is you can give it to the trust that goes to your heirs. You get to live there as long as you’re able and then it goes to your kids. That way it’s not a life estate. That’s another option for you. That way you don’t have to worry about anything that you do and any liabilities that you incur. They could never take the property.
“I did pay for the LLC. Should I take a loss?” I’m not sure. “I made an LLC for a deal that fell through and I’ve not done anything.” Oh, no need to pay taxes. Correct. You would want the loss to fall through. At a minimum, if you set up an LLC for a deal that fell through, you have the organizational expenses and the startup expenses. You’d want to capture those and take them as a loss.
“I have two self-directed IRAs for real estate.” For those of you guys who are not familiar, not a QRP, a Qualified Personal Residence Trust, which is different from a QRP. Sorry guys. They have two IRAs—the whole property. “One property is a single-family residence that produces IRA income and incurs IRA expenses.” So there’s probably one of the IRAs paying the expense. “The other property is some land that’s just sitting there. It’s going to eventually be built, hence, only expenses incurred in 2020. The question is what kind of tax reporting?” I don’t think you have any.
Jeff: Well, on the first one, the single-family home, there is no reporting at all, zero.
Toby: You’re doing a disclosure—I forget what the form is—where you’re saying I have real estate in an IRA but I can’t remember. Do you know what that form is? I have to look at that. I know it’s at the tip of my tongue. I’ll look it up when you’re answering.
Jeff: The other property that will be built with a partner, as soon as you have a partner and you’re incurring expenses, you’re going to have to file a partnership return even if the other partner is a QRP or an IRA. You’ll get a K-1 that you’re going to stick in a file cabinet and not do anything with at the IRA level. You still will have a filing requirement for the partnership.
Toby: I told you I would look at this. There’s a disclosure statement. What is that disclosure statement? It’s in 26 CFR 1.4086, but what’s the form? Where’s my disclosure form? Where is my disclosure? I’m just trying to figure out what the form number is. It’s all these other things other than the form. Anyway, somebody may know. No, it’s not 6600. It’s actually got a number. The custodian sends it in. I’m just going to see. I’m doing the old google thing here. I’ll recognize it when I see it. It’s like a 12 something.
It’s not the 5500, and it’s not the other one. Anyway, I’m going to make you guys wait while I look it up. 5498, I think, it might be it. You fill out a form then the custodian sends them. I think it’s a 5498 if I’m not mistaken. All right. What kind of tax reporting? That’s it. You don’t have to do much else other than what Jeff was describing as if you’re partners. The partnership itself has to do with the reporting.
Here’s one, “I was displaced from a corporate job last April and had to execute (or forfeit) several years of company stock options.” They had to execute them. “Not having the cash to purchase the equivalent shares, the options were executed and sold for short-term capital gain.” In other words, I either buy all the stocks or cash out my option, which is going to be a huge chunk of change. “This short-term gain is taxed as ordinary income and reflected on my W-2. Outside of retirement contributions and charitable donations, are there any other vehicles to reduce a six-figure liability?”
Jeff, what do you think?
Jeff: Well, if this was earlier in the year, I would say maybe just investing in the investment property, cost segregating them, since he’s not an employee, he can claim to be a real estate professional.
Toby: If you met the requirements. Jeff’s saying there are some things you could have done if you hit the 750-hour requirement, and it was more than anything else you did.
Jeff: Yeah, this late in the game, the only thing I have that works is harvesting any losses you may have. You’re talking about having quite a bit of capital gain.
Toby: Yeah, if you have short-term capital gains, so long-term capital losses and short-term capital losses would offset it. Ordinary losses would also offset it. The way to get those—if you felt like it—is you go oil and gas intangible. Again, I don’t know how much they’d be able to incur before the end of the year.
Jeff: It’s very little.
Toby: There are conservation easements that you can look at. You can look at doing something that might give you a solar credit on your house. Every little dollar that comes off the top—if it’s a sizable amount—you said six-figure tax liability, which means your seven figures of income, every dollar is a huge saving, so we’re just going to be looking.
When you’re looking at charitable donations, also consider that it could be your charity that you still control. Even though you give the money away or you give assets away, it doesn’t mean that it’s gone outside your realm. You’re still directing those for charitable purposes, and there are a lot of different charitable purposes. My personal favorite is housing—moderate-income housing, low-income housing, veterans housing, transitional housing, autistic housing, all those things qualify as a charitable activity. You could do this.
“Why would this be short-term instead of long-term?” It depends on how long they had the option. He says sold for short-term capital gains, which means it’s less than a year.
Jeff: What occurred here—and you see this a lot—is in order to purchase the options he had to sell some of the options.
Toby: What he said is he had company stock options. I guess you’re right. He’s looking at it saying how long did he actually hold it? It depends on how they reported it. He says it’s taxed as ordinary income on their W-2. So it would have been the vesting of the stock, I imagine. But David, you’re right. Sometimes we get these questions. It’s usually you want to dig into it, and you want to see whether there are any other things available to them. My guess is that he vested and sold the option.
Jeff: I’m guessing their incentives (ISOs) so there are no tax consequences in the year purchase for that, except for any of the stock he resold to pay for them.
Toby: Is there any way to make it long-term? Because he would have had to have vested in, there would have been a taxable event back when it vested, right?
Jeff: Correct.
Toby: He had to basically sell it because he couldn’t buy it. We’d have to dig into it.
Jeff: I think even if he makes the E1B election, that still doesn’t make it long-term.
Toby: No. All it’s doing is you’re being taxed on the value of previous as opposed to what it’s fair market value is now. If I was vesting on something at $26 and it’s worth $35, that’s all they’re doing. It’s avoiding that extra tax right now. We’d have to look at it.
“What are the maximum contributions for self-directed IRAs?” It’s the same as any other IRAs. Self-directed just means that the custodian is basically allowing you to invest in alternative investments. Because usually, if I set up an IRA through Schwab or TD Ameritrade, they’re going to make you buy things that they sell that they’re in the revenue stream on, which is they’re going to make you be in the stock market.
If you want to buy real estate, it’s going to have to be self-directed. Usually, I’m going to push people towards a 401(k) if they’re doing real estate, and the reason being is because you don’t have a custodian. You can do it yourself, and you don’t have something called unrelated debt-financed income. You want to make sure that you are avoiding that issue.
The person who wrote this question about their short-term, it would be worthwhile to sit down with an accountant. It doesn’t have to be us, but have somebody go through, and really dissect what you have, what your options are. You’re sitting in December, you may have other options, even if you’re doing conservation easements and things like that.
They have a bad name right now because they’re on the IRS’ […] transaction list if it’s too high a return. But there are actually valid conservation easements. And the easement gets audited, not you because they’re looking at the promoter to make sure that they’re actually giving away that’s actually a gift and not some pretend gift.
Somebody says, “Can you talk more about the housing charity?” Yeah, 501(c)(3) is really misunderstood. Just about every hospital, all major universities are charities or 501(c)(3). The NFL was a charity for a long time. Amateur sports leagues are charities. Major League Baseball is a charity.
Ikea is a charity. That always throws people off. Good luck figuring that one out. It always has been. It’s primarily owned by charitable organizations. It kept the kids from being able to destroy Ikea. He made it so the board can’t implode itself and that it can’t be sold off. He wanted Ikea to exist for a long time, so he made it really, really, really tough for them to ever tear that thing apart.
I’m trying to think of any other good ones, but the point is that the profits aren’t going to the shareholders. It’s doing a public benefit. That said, you could still run it as a business and get all the business benefits including salaries. I have an operating charity and a charitable activity can be—and it’s already qualified and there’s a safe harbor for it—moderate housing. Housing for regular people under HUD.
A lot of people immediately think of low-income housing, it’s slumlords, and things like that. No, it’s housing for regular families that would meet HUD requirements, which means that it’s not what you think. It’s probably $50,000-, $60,000-dollar families in most places—low to middle class. We need low-income housing horrifically. It’s probably the biggest area that we’re missing. We need senior housing, it qualifies.
We need housing for autistic adults. There’s close to 800,000 right now living at home with parents, and the parents are freaking out obviously. What happens to their child? Who’s going to take care of them if something happens to the parents? They need to put them into a situation where they’re okay. It’s estimated to be upward of one million people, and that’s just of working-age autistic children. Jim Richardson’s interesting. That’s actually his lifeblood right now. He’s been spending a lot of time doing that research.
There’s a ton of need out there, and yes you could do it. If you put a property into a housing charity and you’ve owned that property for more than a year, the donation value is actually the fair market value. It’s actually really interesting. The people that do these things, they’re putting them together. Again, it’s not your profit. It’s not like you just can take the money out, but you can absolutely operate these things and your family can be regular. You’re giving them a job. As I always say, instead of giving them money, give them a job and a purpose.
“How do you set up a 501(c) for college students?” Depending on what it is, you could look and see what’s the activity and whether it qualifies. It’s something we do here. We’ve set up over somewhere 3000–4000 at this point. It’s over 4000 successfully. We work with Mark Del Guercio and Tricia Del Guercio. They’re absolutely awesome.
Somebody says biketothebeach.org. Sometimes you guys see me. I put the Veterans Associations up here so […] Veteran’s, which is the service animals for veterans prevention of suicide. Operations […] is another great one where […] podcast, where they do a lot of good work with wounded veterans and help them.
For needy college kids, absolutely you could do it. If you’re setting it up with the state as a normal organization and then you go through a 1023 application or 1024 application, depending on what your organization is being set up for and it relates back to the date that you set it up. You still have time this year. Technically, to set up a charity, donate to it, take the deduction this year. The charity you have to get is an exemption within 27 months, I think that’s what it is. It relates back to the date you set it up.
Get away from that, we’re answering a bunch of questions. Let’s see, this is the question that comes here, “OZ could defer and earn money for six years before you have to pay the taxes?” Correct. When you’re doing an opportunity zone, I have a capital gain event that I need to pay tax on. And within 180 days of the recognition of that event—either that date or January 1 of the year after it was done. If you have a capital gain event this year, your 180 days start operating on January 1, which gives you 180 days from that date which is June 28 or whatever it is. You’d have to put it into a fund. That fund needs to invest in opportunity zone property within 180 days there.
Basically, you’d have to invest in something that invests in the opportunity zone within a year, it could be longer. The benefit of doing it is you defer your capital gains until what comes down to is December 31, 2026. You’re going to have a capital gains recognition event. You’re going to have a 10% step-up in the basis, so you’re only recognizing 90% on the capital gains that you put into the opportunity zone.
Assuming that you hold that opportunity zone property for 10 years, you’re not going to pay tax on any of that growth. They get a little convoluted. People think that they’re better than they really are, in my opinion, because you have to have capital gains, you’re still going to pay tax on it, you’re just deferring it, and there’s some other fun stuff.
Somebody says, “Solar tax credit.” Absolutely. Right now, it’s 26%. If you’re a landlord, you can stick it on your property. Not only can you get the tax credit, but you can also depreciate.
Jeff: 87%?
Toby: 87% of the value, even if you’re not out of pocket yet. It’s absolutely fantastic.
“I’m an Airbnb host who has been invited to participate in their directed share program, which lets me buy a limited number of shares at the IPO price. What words of wisdom do you have?” He says, “I own the properties personally. They are not yet in a land trust, and my management company runs the Airbnb.”
Jeff: The Airbnb IPO has nothing to do with your properties.
Toby: They’re two separate issues. You’re being […] to buy the shares at the IPO price. You’re probably buying restricted shares, by the way. Which means you’re not going to be able to sell them for six months. That’s my guess. But let’s assume that you get to buy the share at $1 and it goes to $100. You have this huge amount of gain. That’s short-term capital gains unless you hold it for more than a year.
My words of wisdom are to wait on those. If it goes public and you’re worried about it diving, buy a put. If you’re worried, buy a put. But you have a capital asset. A lot of people don’t realize that that wonderful capital asset can be used to secure a loan and the loan is not taxable. A lot of these guys get this huge amount of stock and you think that they’re going to pay tax when they sell it, they’re not. They’re waiting to die at some point and step up their bases. They’re just going to keep this thing rolling forward.
They’re going to pay the federal estate tax or they’re going to give it away into an irrevocable trust that’s non-self-settled so that they can get it out of their estate. There’s a lot of things that you can do so you don’t get shellacked with tax. But at the end of the day, what they’re probably going to do is they’re going to borrow against those. It’s called a security backed line of credit, it has to be LLC. You don’t pay any tax on that.
When you do sell it, it’s a long-term capital gain, capped at 20% plus the 3.8 plus your state. It keeps your taxes pretty well. The properties themselves, you want to go over that?
Jeff: The properties themselves, we’re talking about putting them in a land trust and I assume LLCs. I think you do want to accomplish that. I’m assuming these properties are exclusively used for Airbnb. It’s a little more convoluted when it’s a private personal residence that’s also an Airbnb.
Toby: It sounds like the management company is a separate company. That’s usually going to be a corp LLC taxes—a corp S or C. The reason you do that is because if you rent a property and the average rental is seven days or less, then it’s active income. It’s a hotel. You’d get self-employment tax, you’d have ordinary tax treatment.
What you’d ended up doing is having the properties themselves, […] in LLC that you list to your Airbnb and Airbnb host business. The Airbnb host business is an active business. and now you’re keeping those other properties as passive. Which allows you to get some passive income, number one. And number two, you’re going to offset that passive income with your depreciation on those properties.
Now, your active business, your corporation can do an accountable plan. It could pay you a salary, push money into a 401(k). You have a lot of options if you do it that way. But my words of wisdom, as far as your shares are, congratulations. I know there are some investment bankers that are involved in that. Airbnb should be fantastic. Hopefully, you make a ton of money, just you don’t have to sell. Even when it goes up and you think I’m scared to death that it’s going to come back down, buy a put on it. There are ways to ensure the value of your stock and then use it. If you’re worried, call Erik Dodds.
Erik’s pretty good. What do you guys think of Erik? Anybody out there that’s dealt with Erik? He teaches the Wednesday trading room with Infinity and a really nice guy. Sometimes people say nice things. If you guys say mean things, I won’t repeat it. Erik is awesome. I probably make fun of him a whole bunch and say, look, everybody’s trashing you. They said, “exceptional guy. Erik is the man.” Somebody should say something mean so I can repeat it to him. Anyway, “Eric is the best.”
“Can you explain how to actually use the 14 day rental of your residence to be accountable?” Yeah. If we have time. I’ll get into it. We teach that stuff all the time. I’m going to give you an opportunity, by the way, to do a whole bunch of tax stuff. We do have the Tax Toolbox that came out and what I just taught TaxWise one week ago today, which is recorded and we’ll give you that recording if you do the Tax Toolbox. I’ll give you guys the link to that here before the end and you’ll get all the TaxWise Workshops. I’m going to do two next year.
Usually, early in the year and then at the end of the year. Once we have a chance to digest what’s going to happen in the presidential election and all the changes, we’ll have that TaxWise, and you guys will get that and its recording. I just did a quick search and I found Infinity Investing. The Infinity Investing Workshop is what I teach on the 19th, and if you become a basic member, which is free, you get the trading room. I’ll let Patty give you all that information.
“It’s called a Mary put. Erik is very informative.” See, you guys are learning stuff that I don’t know.
“Can you explain how passive activity losses from depreciation are used against the tax liability on the sale of the same passive income asset?”
Jeff: I’m going to take that depreciation out of it. Because your passive activity losses come from all your expenses against your income.
Toby: Plus depreciation.
Jeff: Plus depreciation. When you sell a property, even though that property may generate passive income or passive losses, the sale of the property releases all of those suspended losses, all those passive suspended losses. The other thing it does is if you have a gain on the sale of that property, that gain is also considered to be passive. Let’s say you have two properties they both have losses suspended in and just sitting there. You sell one of the properties at a gain, you can actually offset the losses of the other property with the gain from the property you sold.
Toby: You say it well. I knew you wanted to, but you’re so concise. Can you say that in 10 minutes? That’s perfect. It’s actually perfect. The big thing to remember is that passive losses offset passive gains. There are a few exceptions, the exceptions are active participation, real estate, real estate professional status, or when you get rid of the asset like Jeff just said.
Jeff: The only thing depreciation does, since we talk about depreciation recapture, that’s not additional income. That just changes how the capital gain is taxed. Rather than at the lower rates that might be at a higher 28% rate.
Toby: Yup. A bunch of questions. You guys are questions. “Carryback net operating losses under the CARES Act. The CARES Act allows a five-year carryback yada, yada, yada. Will 2020 passive investor K1 loss from multi-family investment be able to be used to offset 2017, 2020 gains?” No, because it’s passive. It’s not an operating loss. The net operating loss means active loss. The only way that your passive loss—this could be a net operating loss—is if you’re a real estate professional?
“Can it offset capital gains?” A net operating loss can. “Can it offset passive rental gain?” Again, you’re using passive rental gain in conjunction with passive income. Gain is capital gain; loss is passive, active, or ordinary. We’re using some terms of art. What I think you mean is if I have rental losses or rental income, can I use operating losses against those? Yes, you can use passive loss against those. If I have one property that makes gain or income—I have two rentals, one that turns a profit and one that loses money. I can use the loss from the rental against the gain of the other rental or the income from the other rental. That always got me doing […].
Jeff: Really simply, if you have a net operating loss, you have to carry it back five years. If it’s in 2020, you have to carry it back first to 2015.
Toby: You don’t have to. Operating loss? I could choose to carry it forward.
Jeff: Sure. But if you did want to carry it back, you have to carry it back five years. It can offset any kind of income that you have.
Toby: Somebody says, “Is there a limit to how many years the net operating loss can be carried forward?”
Jeff: Yeah. It’s indefinite now.
Toby: It’s indefinite. No limitation.
Jeff: I believe after 2020, any losses generated in 2021 going forward go back to the 80% limitation that your taxable income can only be offset by the 80% of the […]. I didn’t say that quite right.
Toby: Was that CARES Act?
Jeff: CARES Act, yeah. That was a TCJA change.
Toby: Some of you guys are trying to get in the mastermind portal. You have to sign up first before you can sign in. I’ve never had so many people just try to go and do the Infinity. We weren’t going to talk about it today, guys. We will absolutely carry forward change under the Biden tax laws. They have all sorts of proposals out there that Biden has that would change things including this one, by the way. He wants to get rid of 1031 exchanges.
“I did a 1031 exchange to buy a condo, which I rented for two years. This March I moved into it. Easier to rent the single-family home we were in than the condo. It’s now my primary residence. I want to put it in at an irrevocable trust. What are the tax implications of doing this?” There are none. In fact, under the Garn-St. Germain Act, they can’t call the note due, and there are no tax consequences. Except in Pennsylvania, and it depends on the type of living trust. That’s the only exception because Pennsylvania is evil. And I grew up there so I’m allowed to say that.
Look at this, somebody just wrote us a book that took up the entire screen. Don’t write us a book, we can’t read it. Somebody wrote a thing that took up half the page. I love it.
Jeff: I have to use the elderly font then that gets them three pages long.
Toby: I can’t read it. It’s all about this stuff. This is fun. I’m not going to get in this. “What are the tax implications of doing this?” There are none. “When I go to sell, will it still be treated as a rental and I’ll pay capital gains, or will my years of living there impact the ratio?” The years of living there are going to impact your ratio, assuming that you live in it for two of the five years. And as your primary residence, then the proportion of the time that you live there would dictate what portion of either $250,000 or $500,000 capital gains exclusion will you get.
I wish there was an easy answer. What they have is non-qualified use and qualified use. In the unqualified portion, we’d have to look at the proportionality as to how much of the capital gain exclusion you’d get. If you have a capital gain exclusion of $500,000 and half of the time was qualified use, it’s $250,000. If you have $200,000 of gain, you don’t pay any gain. There’s also if you moved before the two years and there’s a reason that qualifies, you might get a portion.
“What if you lived there for five years?” It doesn’t matter. They look at two years versus five years. It gets poopy when you have rental properties that become primaries. You’ll also have depreciation recapture. Because the 121 exclusion only offsets capital gains. Good questions guys. Sometimes I worry about them, sometimes I’m sure. I’m reading three or four things at the same time.
“How long is the Infinity Event?” It’s 9:00 AM–5:00 PM. By the way, you will love it. I love the Infinity Event because we get to just dive into making money. Erik usually comes on, Aaron usually comes on, sometimes Travis, sometimes Hans. If you haven’t had Hans yet, he’s hilarious. I’ve known him for 20 years. He kicks butt. We always bring up a bunch of cool people on and there’s nothing […]. It used to be that the basic membership was $9.95 a year, then we went to $9.95 a month, and now we’ve gotten them down to 0. Which is our goal four years ago when we started out.
“My employer sent back a portion of the previous year’s 401(k) contribution to comply with IRS rules for highly compensated employees.” In other words, they don’t have a safe harbor in their plan […] match. You can’t have an out of balance plan. The people that make too much money—$120,000 and above are owners. I think that’s a rule. Is it $120,000?
Jeff: It might be higher now, but yeah. Just as a top-heavy plan, obviously.
Toby: Yeah. They return the balance. The way the return of the balance works is it’s income in the year received, not a sneaky way of having you get hit with tax for last year. If this was for 2019 and they said we were top-heavy, so we’re going to return some of the money to you. And they did that in 2020, you’re paying tax in 2020 on that, and you have the opportunity to offset it to other things. Does that make sense?
Jeff: They actually have to return your excess contribution plus any gains. It won’t profit.
Toby: Yup. It is kind of weird, but they have to give you that money.
Jeff: And it’s all taxable.
Toby: It’s ordinary income too. They just say you have to pay tax on this. Let’s say that you put in $15,000, and then they say too much. We have to give you back $3000, plus we’re going to give you ⅕ of the gain that was made and it made $300 that we’re going to add to it. We’re going to give you back whatever amount it is, and you’re going to pay tax the year you received that back. When they send it back the previous years, don’t worry, you’re not getting nailed. But also, you can’t just put that into your QRP. What you could do is contribute that, assuming you meet the requirements and do an IRA. But you’re not going to be able to protect that gain.
Jeff: Being a high-compensated employee, you’re not going to be able to put it in a traditional IRA.
Toby: Yeah, you’re above that. Time to think of other things. There’s a lot of other things. I’m not going to go through all these questions. There are so many and they’re so long. “How is deferred income compensation treated when you leave employment?” Deferred income. When you leave employment, you have to check your deferral agreement because a lot of them require that you stay with your employer that at least you have a non-compete. If it’s non compete, then it should be treated underneath the plan, whatever it is, normal.
A lot of deferred income, like California employees for example. California taxes that in California when you receive it even if you move to Texas. People are going to learn that next year and the year after because they all fled. They either went here to Vegas or they went to Montana, Idaho, or Texas apparently.
Jeff: Yeah. Most often I see the nonqualified deferred compensation. It’s reported on Form W-2 like your wages would have been. There’s no old age, survivor, disability taken out of it. But that would be taxed as ordinary income, much like your W-2 wages were.
Toby: Somebody just asked a good question too. “To calculate expenses associated with an administrative office in a residence,” so that your employer or your management company is going to reimburse you a percentage of the usable square feet. She says, “To calculate the expenses associated with the administrative office, is it appropriate to calculate the percentage of space my office occupies within the house of liveable space?” Yeah. “I don’t need to worry about hallways, stairs, and closets. Not sure to include bathrooms.”
It’s usable square footage, and it’s a net square footage type thing. I’d include bathrooms. I think you exclude all the hallways and the closets, those types of things. Stairways, I’d exclude. Somebody keeps telling me to use the whiteboard. No.
Jeff: Don’t tell him to use the whiteboard.
Toby: I’ll start doing it. “Home sells for a profit of $500,000 after two years. I’m splitting the profits 50-50. How do I avoid paying tax on the entire profit?”
Jeff: There’s a couple of ways of going about this. One way is to actually have it paid out to whoever the other 50% is getting right at closing.
Toby: Yeah. In which case, it would be ordinary income to them and you would deduct it against your profit. It’s just like paying somebody interest, in essence.
Jeff: You’re most likely going to have to report it. You put it Schedule D or Form 8949 that goes with Schedule D. You will actually say who got the other 50%, what their social security number was.
Toby: Yup. If this is a house that you lived in, let’s say that this is your personal residence and you’re looking for the capital gains exclusions, you have to live in it for two years and you have to be on title. With a few exceptions like when somebody passes or in divorce. Less to say that you’re there with your partner, your best friend, or somebody else. You’re always like, hey, I bought it, but we’ll split the profit 50-50. You may have a capital gain exclusion of $250,000. You’re giving them $250,000, they don’t. You don’t pay tax on it, but they may pay tax on their portion.
Jeff: For significant others—unmarried significant others—does that person have its own problems if they’re both living there but one person is on the title?
Toby: Yes. The same holds true for married couples. When you get married, they’re going to assume that one’s files can relate to the other. But if you’re not married and it’s just cohabitation, then it adds to the problem. They’re going to lose out on the capital gain exclusion. It has to be after they do get married. The period of non-marriage doesn’t count towards the two years. Each person has to qualify. People always think I’ll get married and then we get a $500,000 exclusion. It doesn’t work that way. You had to have lived there for two years.
Somebody says on that previous question about the administrative office in the home, “What about the number of room methodology?” Yes. You could use any reasonable basis for getting that percentage.
Somebody says, “What should I have my kids do to join?” If they’re going to do Infinity, have them jump on in, Patty will give you the link. By the way, I’ve done the Infinity teachings to under 25. We have a lot of teenagers in there. We have a few that crush it. The Infinity stuff, again, is a lot of fun. It’s easy. But for the guys that are techno-savvy, it’s like a video game. Erik’s good on the charts. They’re good at this. They tend to get it.
Actions you may want to take in before the end of the year. Just so you know, if you have any losses, then you’re going to harvest some gain. If you’re married filing jointly, listen very carefully to what I’m about to tell you guys. If you’re married filing jointly and you’re below $80,000—and I will use the little whiteboard on this one so you guys like that. If you’re $80,000 or below—by the way, I’m going to say $80,000 of taxable income because this is after your deduction. Your standard deduction for example, if you’re married filing jointly is $24,800.
Without having to think about anything else, if you’re at $80,000 and you have the standard deduction, that means you have capital gains and I should say long-term capital gains, 0% for that $24,000. If you have gains and you want to recognize them this year, that will bring you up to that $80,000 limit. You could sell and buy it right back. You sell it and buy it right back. The reason that you do that is because there’s no such thing as a wash sale gain rule. It’s only on losses.
You go ahead and you immediately take your gain for the long-term and that will pump your basis up so that when you sell it later, your basis is now adjusted to the higher amount. The reason you do that is so you’re pushing that up and using up as much of your zero bracket.
What annoys the heck out of Jeff is when you have somebody who’s making $40,000 and they have unrealized gains of $30,000 sitting. They’re looking at it going why the hell didn’t you just sell it and buy it back. You’re going to be at zero tax and then they wait, in the next year, they’re making $70,000 and they sell the thing when they have $40,000 of gain. That now is all taxed at 15%. The capital gain itself is included in the $80,000 for the income level just for determining the long-term capital gains. But it doesn’t raise your tax level. It’s not going to push you up into a higher tax bracket.
The other thing is Roth conversions. This is misunderstood. If your tax bracket is going to go up in the future, Roth conversions make sense. If your tax bracket is going to go down in the future when you retire, they do not make sense. If you are in the 32+, even 24+ tax bracket, do not convert into a Roth. You’re causing yourself problems, that the math doesn’t work. Just telling you.
100% adjusted gross income is for cash donations. You can donate cash to your charity, to somebody else’s charity. This is a good year to donate. You don’t have a 60% adjusted gross income. You can get yourself to the end of zero. Remember, your net operating losses, you have the opportunity to carry them back five years, but if Biden gets in, that appears to be the case. Then without making any political statement, his proposals are to increase taxation, the top tax brackets to %39.6. Your top capital gains rates to %39.6, corporate taxes to 28% to increase, and add the old age, disability, and survivors insurance to folks over $100,000 again.
We want to make sure that we carry forward instead of doing the carryback. No carryback because your carryforwards are going to be worth more. You may want to wait on harvesting losses. If you have losses, you may want to wait until January in case capital gains go up. That way, it’ll offset a higher amount. We’re worried about losing the step-up in basis and you have a huge amount that you can give underneath the federal exclusion—the exclusion for estate tax exclusion and the gift tax exclusion. Maybe it’s time to consider giving those, especially if you’re in a sizable state. Because if you lose the ability, if you couldn’t give it away to $23 million and you lose that and it becomes $2 million, you’re going to be kicking yourself because that’s 40%.
You pass away, so you’re not going to be able to kick yourself. You’re going to be passed away. But your kids or whoever you live behind might be ticked off because they say, wait a second, I got to pay 40% on $20 million when we could’ve avoided it entirely? Mom, I know you’re passed, but I’m mad at you. Anyway, I’m not going to say anything distasteful, but that is pretty funny.
Last thing, just the value of Roths and traditionals over a regular taxable account. It’s always a good idea to get money into a tax-deferred vehicle. On the traditional and the Roth side, you can always make your contributions early next year. The charitable giving, this is all the rules on charitable giving. The only reason I throw that out there is the cash. The AGI limitation this year went from 60% to 100%. That’s the only portion. Corporations can give 25% of net income this year. It’s usually 10%. This is the time to give.
The last thing is the Tax Toolbox. If you do want to do the Tax Toolbox, there is the link. It’s $595. This will walk you through a lot of this. I cut a video for the end of the year—it’s about 25 minutes or so—just going through stuff for the end of the year. It’s $595, $495 if you want just the e-version, and then the bonus is TaxWise recording. The one we just did on 12-1 plus next year’s 2 TaxWise.
Anyway, the Tax Toolbox makes a wonderful Christmas gift. It makes a wonderful Festivus gift. For Festivus, for the rest of us.
Jeff: Festivus?
Toby: Yeah. Do you remember that? Festivus. Jeff, here is your Festivus gift. I am going to give you a Tax Toolbox.
Jeff: Thank you.
Toby: And there is your TaxWise. The recording was from 12-1. If you like the podcast, you like the Tax Tuesdays, you want to go—who’s giving me angry faces, or are those crying faces? Some of you guys remember Festivus. Good old Seinfeld. “How about all those already purchased, can we get gifted next year?” You are funny, Jim. I think you already got it. I think you got all these years and all the recordings. If you twist our arms, we probably will give it to you, Jim, because it’s the holiday season. As long as you go and use it.
By the way, I’ve been collecting the testimonials on TaxWise and the people that use it save a ton of money. I was pleasantly surprised that we had a lot of $50,000 and $60,000 savings in there from people that went to TaxWise. I always tell them, just pick three strategies every time you go through it and do little bite-size pieces. “Is TaxWise available in the Platinum portal?” No, it’s not. Somebody says, “It should be.” What are you talking about? TaxWise maybe, the Toolbox is not.
Somebody says, “I paid for TaxWise, can I just do the difference?” Yeah. You can do the difference, I don’t care. Somebody says, “Twisting really hard.” “Is there a difference between e version and non-e-version?” It’s just physical. That’s a really nice box, it’s got a nice workbook, and you get a USB. Otherwise, we’re just giving it all in the electronic format. There’s not a big difference. Some people like having this stuff and put it on their shelves.
Podcast going there, looking at all of our podcasts. There’s a lot of cool ones. We also put the Tax Tuesdays in there. Replays should be in your Platinum portal. That’s what it looks like in iTunes and that’s what it looks like in Google Play. And then if you have any other tax questions, by all means, send them in. We get hundreds per week. Our guys are good about answering them. I go through there and I always grab a handful of questions. I literally go through and grab ones that I haven’t seen or that seem cool, or I just grab 10 in a row, and then Jeff gets mad at me because that ends up being 20.
Jeff: I come in here and say, what the heck?
Toby: Yeah. Because we’re supposed to do this in an hour and we’re almost to the hour.
Jeff: Which one?
Toby: You didn’t say the first hour or second hour, we’re close. We’re 11 minutes early this hour. Guys, if we don’t hear from you, have a great holiday season. Happy Christmas, Happy Hanukkah, Kwanzaa, or whatever you’re celebrating. Just know that it’s been a heck of a year. We want to make sure that we are doing everything we can for those who are struggling during the holiday season. I know that you guys are giving people.
I will say this, it was Andrew Carnegie—and if you guys have been through Infinity, you know that I always give you guys the gospel of wealth—that millionaires are trustees of the poor. No time more than right now. Is it pretty serious that there are folks out there that are having food shortages, having all sorts of uncertainty during the holiday seasons? Do what you can to help out those people in your local community. We don’t need the government to do that. They suck at doing a lot of things. They’re good at some things, but there’s a lot of things.
One of those things was reaching people that we see on a daily basis that may be struggling. Just do what you can. Make as much money as you can because maybe you’re good at it. Other people are bad at it. And help those people out. It might just be a gift card, it might just be being nice to them. God knows it’s been a divisive year and hopefully, we can recover from it. From both of us or Jeff, you can say your own piece.
Jeff: No. It’s been a rough year for everybody and looking forward to next year.
Toby: Heck yeah. Hopefully, you’re getting the tax stuff settled where you realize that taxes aren’t a source of anxiety. They should be a source of interest and joy. It’s like a puzzle. When you start going into it, you start realizing wow, the tax code is pretty awesome. The things that it gives us opportunities to do and rewards are great. On the same token, it’s a big stick when it hits you.
We want to see it coming. We don’t want to be surprised by that stick. It’s a slow-moving stick. Usually, you have a chance to get out of the way if you know what you’re doing. There’s a lot of stuff. Some of you guys are still asking questions about the 14-day rental. I actually do—in the Tax Toolbox—go into it. We also do it in our Tax and Asset Protection Events.
We have one coming up on Saturday, on the 12th. You will hear about it there. I would suggest that if you want to dive into it, the best way is to go onto our website, go to YouTube, or go to the class on Saturday. I believe Michael and Karl are teaching it. It should be free. Patty might be able to get you that log in or that access code. It’ll be Zoom and you will.
Hope everybody has a great holiday season. Maybe Santa will bring your own copy of the tax code for Christmas. All right, guys, have a great one.
Thank you for listening to today’s podcast. Show notes for links to everything mentioned in this episode can be found on our website at andersonadvisors.com/podcast. Be sure you subscribe to our podcast, and if you are already a subscriber, please provide us a review of what you thought of this episode.
As always, take advantage of our free educational content and every other Tuesday we have Toby’s Tax Tuesday, a great educational series. Our Structure Implementation Series answers your questions about how to structure your business entities to protect you and your assets.
Additional Resources:
- Claim your FREE Strategy Session, and learn how Anderson Advisors can protect your assets.
- Join our next Tax & Asset Protection event to learn more advanced tax minimization & entity structuring strategies
- For all things investing, check out the Infinity Investing YouTube channel
- Subscribe to our YouTube channel to make sure you never miss the latest strategies & updates
