While Congress is busy planning changes before the end of the year, such as taxing unrealized gains for the wealthy, Toby Mathis and Jeff Webb of Anderson Advisors talk about how to protect your Turo car rental business and other tax topics. Submit your tax question to taxtuesday@andersonadvisors.
Highlights/Topics:
If I invest in a Turo car sharing business, should I put the vehicle inside the business (cleanest) or own individually and let the business use it every weekend? If the business owns it, am I restricted from using the vehicle for personal use, or might it be covered by the 14-day rule? Keep track of the mileage because a Turo business is the rental of personal property where you lease out a vehicle you own to other people unrelated to you – it’s like Airbnb for cars
- During the pandemic, I have been using our boat as well as our house as an office. Would I be able to claim the time on the boat as a legitimate business expense? You are only allowed to have one admin office, and the boat does not meet the exclusive use test
- What is the difference between “Admin Office” and “Home Office” deduction? Home Office is reported on Schedule C, but the Admin Office follows different rules – for your business but not owned by your business
- I want to employ my daughter to help with my business, where do I start? I have an LLC, but do I need it to be an S Corp? No, any entity including a sole proprietorship can have a payroll
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Full Episode Transcript:
Toby: Hey, guys. This is Toby Mathis, and…
Jeff: Jeff Webb.
Toby: And you are watching Tax Tuesdays. I don’t know where our little video went. I can’t even see you now, but such is life, Mr. Webb.
If you guys are looking for a bunch of tax knowledge, you’re in the right spot. We’re going to do what we always do, which is answer a ton of questions on tax topics. There’s never been a better time. This is getting towards the end of the year. This is usually where Congress does something to make accountants lose their hair, which is usually where they like to throw some stuff out there.
Somebody says, “Hey, I missed the last couple.” It’s all right, you’re here today. This is the most important one.
We have a lot going on in Congress. Are you paying much attention to all the ways and means?
Jeff: Yeah. They’re paring down some of the things they have out there.
Toby: They want to do an unrealized gain tax on only the wealthy, but we’ve seen that before.
Jeff: We’re going to make them do mark to market.
Toby: No. What about unrealized losses? They don’t talk about that at all. No, we just want to tax you when we want to tax you. We just want to take some things from you.
Jeff: That doesn’t sound complicated at all.
Toby: No. It is not like they’ve ever done this before, creeped it, and got in the middle class, everybody else.
Anyway, hey, this is fast, fun, and educational. We’re going to go through a lot of questions here. If you have questions, go to the question and answer feature. There is a chat, and there is a question and answer. If you are using chat to ask your big questions, our staff will politely ask you to go put it in the Q&A because frankly, some of you guys leave books and novels of questions.
In the chat, you can respond. If I say right now, hey, where are you sitting right now (city and state), go ahead and throw it into chat. Somebody already did it. Ann Arbor.
We already had some books posted, holy-shmoly. LA, Concord. We have a bunch from California. Austin. From Maui. Aloha. There’s another Hawaii. […], San Jose, Chicago, Phoenix. You guys are all over the place. A couple from Chicago, Huntington. We’ve got Honolulu. I’m so jealous. Nashville, Connecticut, Anacortes. Up there Gig Harbor. We got some Washington in the house. Seattle. Fantastic. A lot of Seattle.
The other Maui person would be me, but I’m currently in LA. Tahoe, Sacramento. We got them all over the place. New York, San Antonio, San Francisco, Arlington, Philly, Minneapolis. I actually grew up in Philly. Boston. We have so many people. Tampa, they’re all rolling in. Cape Cod. We got them all over the place. This is fun. I always like doing these when we got good groups. We get to really hit on all the different topics.
Speaking of topics, let’s dive into what we’re going to be answering today.
“If I invest in a Turo car sharing business, should I put the vehicle inside the business (the cleanest), or own it individually and let the business use it every weekend? If the business owns it, am I restricted from using the vehicle for personal use, or might it be covered by the 14-day rule?” We’ll go over that.
Turo is Jeff’s favorite topic. He […], what is Turo?
“If we purchased our shared housing properties by obtaining the financing personally, putting them each into their own for-profit LLCs, and running them to the non-profit, is there a way to expense the travel and/or transaction costs when buying in different states?” We’ll go over that.
Fun questions today, Jeff. Are you already excited?
Jeff: I’m pumped.
Toby: All right. “We are selling an investment property using the 1031 exchange with more than $550,000 in capital gains. Can we use a replacement single-family residence as our primary residence, sell it after two years, and take the $500,000 gain exclusion?” Good question.
“During the pandemic, I’ve been using our boat as well as our house as an office. Would I be able to claim the time on the boat as a legitimate business expense?
“What is the difference between an admin office and home office deduction?”
“If I am a W-2 employee covered by a 401(k) but also have an LLC for my rental property business, can I contribute to a SEP IRA as well for the business?”
“Can a vacant lot acquired under 1031 and held eight years for appreciation be converted to private property prior to sale?”
“I want to employ my daughter to help with my business. Where do I start? I have an LLC, but do I need it to be an S-corp?” We’ll answer that one. Good questions.
And then the last couple. “Can you talk about monetized installment sale? Is it still legitimate? How does it work?”
Last one is, “My daughter is a pastor and receives a housing allowance. She also has a small business,” I blacked out the name of the business, “which is registered in Wyoming. This business is run out of her home. Would she be able to claim a home office deduction, or does the tax-free housing allowance disallow this type?” Really good questions. Are you ready?
Jeff: I’m ready.
Toby: Do you like these questions today?
Jeff: I do like these questions.
Toby: Yeah, this isn’t horrible. It’s always weird. Every week, it seems like there’s a little bit of a theme running through. We get probably 400 questions on a weekly basis. It’s a lot.
Crystal said, “Have any of my questions been received? I sent them.” Yes. You should be getting a response.
Somebody says, “Oh my God, Turo just totaled my Slingshot last week. Be careful.” They have a lot of insurance though, Jim, right? That’s pretty funny. I mean it’s not funny. It’s horrible. Hopefully, they’re okay, but it’s kind of funny that we’re talking about Turo.
Anyway, we’ll make sure that we get you. The team will be reaching out and all that fun stuff. That’s in the chat. I can already see the answers. I didn’t mention this, but we have a bookkeeper on. We have Eliot on as a tax attorney. […]
Jeff: I believe Christos is on. Ian is not on.
Toby: Ian is not on, but Piao is on, another CPA. We have a bunch of people there to help you. If you have questions, shoot them in. They’re going to be answering them. I can already see them answering. We have Dana. I see Eliot typing. We have Piao typing. I don’t see anybody typing, so that’s it. We are live on YouTube as well. Oh, cool. Hey, Patty, if they ask any questions on YouTube, by all means, throw them into the question and answer or into the chat, and we will answer it. Dana is there, and Trisha from bookkeeping.
Let’s talk about Turo. “Please be sure to explain how Turo works.” That’s good. All right.
“If I invest into a Turo car sharing business, should I put the vehicle inside the business (the cleanest), or own it individually and let the business use it every weekend? If the business owns it, am I restricted from using the vehicle for personal use, or might it be covered by the 14-day rule?” What say you?
Jeff: When I first read this question, I thought it had something to do with my lawn mower. This is what we call rental of personal property. I guess we’ve talked a little bit about the Turo business. You’re actually leasing a vehicle that you own out to other people unrelated to you.
Toby: It’s like Airbnb for cars, right?
Jeff: Absolutely. They actually use a similar model for tracking them.
Toby: You could put your car up. I have a truck. It has a broken windshield which one day I’m going to fix, maybe. You have your truck, you put it on Turo, you say $200 a day or whatever it is, and somebody can rent it from you. All you have to do is like in Airbnb, they show up at your house, you let them in, or you give them a code. In Turo, you actually have to show up, give them the keys, or meet them someplace. I have a neighbor that does this.
By the way, Jim, he has a Slingshot, too. I always wonder, why did my neighbor always have these new cars? He’s got a lot of Maseratis and stuff. I’m like, you don’t need two, but he got a Turo business.
Jeff: Is Turo vetting the people who are wanting to rent your vehicle?
Toby: I don’t think so. I think you just become a member. I’m sure there’s a certain amount. It says, “They are randomly selected from the ones…” That’s probably Patty talking about the question. Anybody here who does Turo that’s actually a Turo user? If you are, put it in chat and just say what’s your experience with it. You don’t have to write a book.
It’s essentially a good side gig if you have a vehicle that you’re only using a little bit and you want to get some extra money out of that vehicle. You can put it up there and rent it. They probably charge a percentage. I don’t know what the total percentage is.
“We have used it recently. Had fun, but the car had some issues.”
Somebody says, “How do you decide which questions are for Tax Tuesday?” We always just pick them out.
“I’m a user. They don’t vet people. All you have to do is submit your ID and put in a credit card.”
“Yup, it’s 70-30.”
See, we’re learning all these.
“Used Turo three weeks ago. Awesome experience, got a brand new Cherokee, paid only $60 a day.”
Guys, because we all walk around with these computers in our pocket, you can actually be like, hey, I want a car. You don’t need to go through Avis. Although if you go to the airport, you probably do.
Jeff: This is very similar to Airbnb, not just in the application but even on the tax side. If it’s a vehicle that is owned entirely by the Turo business, it’s much simpler to deal with than a personal vehicle that you’re also using. Same way as if you’re Airbnb-ing a part of your house. It gets a little more complicated because you have mixed personal and business expenses. I like the idea of the vehicle being inside the business. That’s my personal preference. Commercial insurance.
Toby: Turo has a ton of insurance. I think it’s $1 million or something along those lines. It depends on the service you’re using. You still have your own insurance. They’ll end up covering primarily.
Look at this, they’re so mean to me. They pick on me, and they’re all nice to you. “Jeff looks so distinguished.”
Back to Turo if we can, sir.
Jeff: Sure.
Toby: They have insurance, but you should also make sure you cover insurance. My biggest worry is that you have a negligent entrustment because I have heard some horror stories of people showing up. You got the partiers in town, and they want to borrow it. Here are two young men in Vegas, and they get the Corvette. There might be an issue for you if that person ends up causing a major accident. I just get worried. I know that Turo has the insurance, so I would still put an LLC around the vehicle. It makes sure you’re protected and isolated from your personal.
Now, when you’re doing business with a vehicle, it’s renting out personal property. They both fall under the passive activity loss rules. It’s no different than rental property for real estate. It’s a passive activity unless you materially participate. If you materially participate, it means you’re the one who’s meeting the people and handing off the keys. You’re the one handling your vehicles.
I have a feeling that most people would meet one of the tests for material participation if they’re doing Turo even if they’re doing it in a very seldom situation, like very few times a year. The way that I would look at it is you would be the only one doing the management activities. You would meet the first test of the seven of material participation. The other two that you’d come up against would be the 100 hours and more than anybody else or the 500 hours of material participation. As long as you’re meeting that test, then if you do have losses on the vehicle because you’re going to depreciate it, you can use those against your other income.
If you are using it personally, I think you do run into personal use. If it’s personal property and you just happen to be doing it on the side, I don’t believe it’s going to be a Schedule C business anymore. I think it’s going to be on line 22, page 1 of your 1040, of other income. You’re going to have limitations on your loss. I think that it’s going to be passive, so it might be able to be used against other activities, but it’s only going to be a proportion of the expenses.
“I am setting this up as a business.” Somebody mentioned that they have somebody that has a fleet. Let’s say they have four or five vehicles. I’m probably putting the vehicles just in one business. It may be an S-corp. If I’m going to make good money and I’m going to have distributions, then I want to make sure that I’m paying myself.
If you are just doing this as a side gig, still put it in an LLC, but I’d probably make it disregarded. Go ahead and take that activity on your Schedule C if you are the one handing the keys off to the people, cleaning the car, things like that.
Jeff: I think the only time I separate the vehicles is if I’m putting a very expensive vehicle into it, and more so to protect that vehicle from other mishaps rather than protect those other vehicles from that vehicle.
Toby: Somebody wrote, “Insurance companies are excluding Turo. Also, when financing dealerships, they’re asking if you are a Turo. If you say yes, then you can’t get it financed through the dealerships.” If you cannot get it, finance the dealership, that’s probably it. They want personal use. You can’t.
That doesn’t surprise me because we’ve had Christos. We were talking this morning. Between Jim and Christos, there are 2 totals out of maybe 10 people that we know that are doing Turo. That’s a pretty high percentage.
I think people get the car—some of them are really nice cars—they don’t know how to drive them and they crash them. Turo does cover. That’s why they’re probably covering the insurance. It’s probably expensive to get out, but a lot of these tech companies are not worried about making a profit. They’re just all about valuation.
Anyway, back again. You’re not restricted from using it for personal use. You may just trigger a cap on loss and a proportionality. If it’s all used for business, then you can write it off. If it’s a big piece, if it’s a Tesla Model X over 6000 pounds, you can write the whole thing off in year one. If it’s a luxury vehicle, a Mustang not over 6000 pounds, then you’re going to be limited to about $16,000 a year or something along those lines.
Jeff: I think it’s $18,000 right now.
Toby: You’d write it off over a period of years—let’s say five years—but regardless, you operate it as a business. You’re able to write off your ordinary necessary business expenses if you materially participate.
If you do not and it’s just passive, you still get some of the expenses, I believe. Actually, that’s going on line one. You’re going to have to do miscellaneous itemized deductions, and they eliminated them so you’re probably going to be needing to talk to us if you’re going to do it as a passive activity. I cannot see anybody that I’ve met doing Turo that’s letting somebody else manage their vehicles.
Jeff: Yeah, the 14-day rule is mentioned, and that is strictly a rental real estate rule.
Toby: You’d still have proportionality, right? You just keep track of your miles.
Jeff: If you’re depreciating especially for taking bonus or something like that, you want to keep usage above 50%.
Toby: For sure. Again, if it’s somebody doing a side gig, hey, I got a vehicle. Somebody pointed out that they paid $100+ for a Hyundai. If you have a vehicle, you’re in a town where all the cars are sold out—you’re in Maui for example or someplace where the cars are sold out—and you’re like, hey, I can make $100 a day, $200 a day off a vehicle that you own outright, by all means, go do it.
The IRS may look at that as a hobby which doesn’t mean anything bad. It just means that you’re not going to be able to create losses. You limited the losses. But you can absolutely offset whatever income you get with the expenses of the vehicle. Again, it’s proportionality. It could reimburse you for the miles, couldn’t it?
Jeff: I was just thinking about that.
Toby: It’s $57.5. A lot of these guys are going to put some miles on your car. I think it’s actually a pretty good side gig now that I think about it. They may just trash your car. Actually, Christos was telling me that the client got back more than the car was worth. They did a replacement value.
All right, jumping off. We could talk about Turo all day. It’s new, and very few people have done it comparatively to real estate. Let’s jump in.
“If we purchased our shared housing properties by obtaining the financing personally, then putting them into their own for-profit LLCs, and renting them to the nonprofit, is there a way to expense the travel and/or transaction costs when buying in different states?” Can I map this out before you answer?
Jeff: Yes, please.
Toby: This is what they’re talking about. There’s something called a National Association for Recovery Residences, and they have a certification. It looks kind of like this. You have a 501(c)(3) that gets what I call an NARR certification. It goes through and gets its approval. In some states, they actually require this if you’re going to get government monies for a recovery home.
Then, you have your for-profit, the houses out here in LLCs. The state gives money to the 501(c)(3) which then rents the home. That’s typically how it works. The 501(c)(3) has to receive the money. If you’re doing any kind of recovery, whether it be transitional housing for inmates or recovery residences for drugs and alcohol, you have this type of structure. It goes right on down the line, anything where you’re getting state funds from it.
I’ll use the example of a couple of our clients who do transitional housing for King County up there in Seattle. We have a bunch of Seattle folks. King County pays them $850 per room. It’s women, nonviolent offenders from drug crimes. They can go to the house, a parole officer can come over to the house and see 10 ladies. There are two per room. Five rooms is what they want, so you have 10.
You’re getting $8500 a month for that residence, which is actually pretty good. It’s great for Seattle because it’s not going to cash flow otherwise. But it’s coming through the 501(c)(3). With that, how would you answer this?
Jeff: I would not expense the travel and those kinds of expenses to the nonprofit. I don’t see any advantage to that. I would actually expense them through the for-profit LLC, especially as they directly relate to those properties.
Toby: I think you just nailed it on the head. You’re allowed to when you have a public charity, a charity that is doing work that’s helping people. In this case, recovery housing clearly falls within the parameters of a 501(c)(3). A lot of people know they’re tax-exempt entities. They can also receive lots of grants. They can receive charitable contributions from foundations and from private individuals. You are allowed to engage in transactions with it as long as it’s fair market.
You could literally have it to where it’s just spending you the money. You don’t really have to take anything from the 501(c)(3) because it doesn’t have a profit motive. It could just be there to do the certification and say, this home qualifies. Go get the money from whatever county or municipality you’re working in. Hand the money over to the for-profit.
Jeff’s absolutely right. You would write off the expense, but you do it through the LLC, not the 501(c)(3) unless you want it to. If the 501(c)(3) is brimming with cash which we’ve seen. People just dumping cash into it because they’re taking the deduction every year. They love what they’re doing and they’re trying to create a legacy for the families. I get it 100%. Then maybe you might. But I think Jeff’s right. I would take that expense where the real estate is.
It’s a lot of fun. People probably don’t realize just how many different ways there are to make money in real estate. There are just so many, and you can do a good job for other people while you’re doing it.
Speaking of doing a good job for other people while you’re doing it, we have another Infinity Investing Workshop coming up on November 6th. If you have not been to this, we go over using the Stock Market Landlord methodology, and we teach you the real estate side for cash flow real estate.
Also, Nicole D’Ambrosio does a fantastic job. For those who don’t know Nicole, she was number two on The Apprentice for season six. She got fired in the last show by millions of people, but she does a really good job. She’s in commercial real estate, owns a couple of restaurants, and does a bunch of residential real estate. She does a really good job breaking down all the different ways that you can get involved in real estate these days.
Don’t worry, this is not a crazy, hey, in order to join, you got to pay $50,000 Infinity Investing. It’s free to join in the basic. If you want to go buy properties, there’s a small charge, but we show you a way to get all that back. We try to make it to where it’s not taking a piece out of you guys to do it.
Something that we oftentimes say here—I’m going to preface this—inflation is a real thing. It’s not transitory. That’s a bunch of crap. The US Department of Labor even put out your buying power. A $1000 buying power from before the pandemic now costs you $1600. It is crazy how much we are devaluing our assets. If you are not in equities, you’re not in real estate, and you don’t have a hedge like a crypto or even possibly a gold—the gold seems stale too—it’s really going to be painful on you.
Those of you who are sitting on a lot of cash, there’s just no interest. They’re literally printing out cash as fast as they can and giving it to people for virtually nothing. Twenty-five basis points, a quarter of a percent.
What we do is we teach you the Stock Market Landlord methodology, and we treat the stock market no different than we treat real estate. I’ve been getting a lot of heat on TikTok because these knuckleheads out there that are trying to be the next great trader, the next Gordon Gekko, are all like hey, I can make a lot of money really quick and all this stuff. I’m like, no. Do it slowly. They always say, well, you don’t make enough.
I’m going to show you a real life situation that we saw today, but I’m going to show you the principle first. Let’s say that you bought a big company at $30. It was making 3% of a dividend, and you are reimbursing that dividend every year. We’re putting it straight back in. You also had the growth of the company.
When they talk about unrealized gain, this is what they’re talking about, the growth of the company that you do not have to pay tax on. I’m using 7% because that’s a historic average of the S&P. In the last 10 years, it’s been up 13%. I’ll show you those numbers, too. We’re looking at that.
Then, if you’re a landlord, we’ll show you how to generate about 10% a year on covered calls, selling it against your portfolio. But we do it very particularly and very methodically.
If you’re doing it the way that we teach, what’s important to note is as the value of the company grows and as the value of that dividend grows, eventually, your dividend is taking a huge dent. If I just look at the dividend down here, that dividend is taking a big dent out of this, plus my covered calls are taking a huge dent out of that cost, but we always relate it to the cost or the value of those stocks today. If I said you can generate $10—this is 13 years—and compared it to the cost basis, you’re actually paying off your original investment about every 3 years, in some cases, even less.
Some of you guys are looking at me going, what the heck did he just talk about? If you just do the slow, boring investing instead of all this crazy stuff that they’re teaching on cable and all these gurus are out there teaching, please don’t do that. Please do the boring stuff because if you give it enough time, even 10 years, even at conservative numbers—and these are really conservative numbers, guys. The S&P is significantly higher. It actually gets better if I show you the 13%—it doesn’t take long before you’re able to pay off the original investment. It’s literally every three years or less.
Before you think that’s impossible, here’s an account that started in 2013. I’m just showing you this. There’s no client identifying information or anything like that, but I just want you to see what it looks like. They’re generating distributions of $1.5 million a year, and their basis was a little over $1 million, $1,022,286. They’re generating on an annual basis—just off the cash flow, off of selling the calls and off the dividends—more than what they paid for.
As a landlord, I’ll just tell you. I bought properties here in Nevada after the bubble burst. We have properties here that we paid $438,000 for that are worth $300,000, but they pay rents. Again, I would pay them off. It takes about two years (as where they are right now) to pay back and cover that original cost. They’ve literally paid for themselves (in my situation) probably three or four times over. That’s what you want, and that’s what you get to.
The reason I bring that up is just because it’s free. Please get people out of this craziness. The inflation is going to make people do dumb things. It’s also going to bring out all the carnival salesmen. Just say, whoa, timeout, go here. Again, we invest in companies that are going to be here in 200 years. We don’t want to invest in companies that don’t have long-term prospects. No offense to some of the really cool growth players out there, but that’s gambling. We teach you how to invest. It’s free.
All right, back onto tax. “We are selling an investment property using a 1031 exchange with more than $550,000 in capital gain. Can we use a replacement single-family residence as our primary residence, sell it after two years, and take the $500,000 gain exclusion?” Jeff?
Jeff: The answer for this scenario is no. You cannot purchase a principal residence through a 1031 exchange. However, you can purchase another investment property for… what’s your timeline for holding on to that investment property?
Toby: Six months.
Jeff: And then turn it into your primary residence. So you have to go from an investment property to an investment property. But after you’ve held it for a sufficient amount of time, then you can make it your residence, live in it for an additional two years, then take that exclusion on the gain.
Toby: You just nailed it. It’s absolutely right, 100%. You’re selling an investment property. You’d go investment property or investment property, you would go into a new property that’s going to become your primary residence, and you can roll over the basis.
Now, there are two things that are going to make this not as great as what you’re thinking. Number one, you can’t sell this property for two years. After two years, you have to wait five years. If the property was the result of a 1031 exchange, then you have a five-year waiting period. Ordinarily, you have two, but under Section 121, it says, if that property was ever used as it was part of a 1031 or required during a 1031, you have a five-year wait.
Now, number two, this is the one it may or may not have a huge impact on you. It’s going to be a percentage of the use that was your primary residence versus the previous time frame from that original property on how long it was used as an investment property. The way it works is if I have a $500,000 gain exclusion, but half of the time before I sell it it was non-qualified use, I’m only going to get $250,000 of the exclusion. Under these facts, you’re not going to have to pay tax on the $550,000, but you’re also not going to get the $500,000 exclusion on that property.
What you’d probably be better off doing—I’m assuming that this is going to be continuing to grow pretty, pretty fast—if you make it your primary residence, you’re probably going to want to do a combination. You’re going to turn it back into an investment property, and you’re going to reinvest it in another investment property.
I probably just confused some of you guys. Let’s say you have a property that I paid $200,000. For now, it’s worth $2 million, It’s in the Bay Area or something like that. I have a $500,000 capital gain exclusion under Section 121. It was my primary residence two out of five years. I would have $700,000, then $200,000 a basis, plus $500,000. I have $700,000, so I still owe tax on $1.3 million.
What you do in that situation is you turn it into a rental property, you rent it for six months to a year, and then you 1031 it. You still get the capital gain exclusion of $500,000. You still get your basis. Those things to match your new basis are now $700,000. You would have to buy real estate. It could be multiple pieces of property if you want. But you could spend $2 million on real estate and avoid all of the capital gains. Your basis is still up, but you’re not going to have to pay tax on that $1.3 million, which in California would probably be about $400,000 at least. We could avoid the tax sit on it. We’ve actually seen that come up more than once.
Jeff: And the five year starts from the time you purchase the replacement property?
Toby: Yeah, five years for the 121. From the time that you purchase the replacement property. Even if it was used partially for disqualified use and then you move into it, you still have five years, but they’re going to look back and say this period of time was disqualified.
For some of you guys who say, well wait a second, I couldn’t turn a primary residence into a rental and it doesn’t affect it, that is true because they say in the previous five years, when you have the two out of five, the period of time between a personal primary residence and the sale, they don’t count that as disqualified use. If I lived in it for two years as my primary residence and then I rented it for five years, I don’t have to worry about disqualified use. I’m going to get the full $500,000 in deduction.
Don’t you love 121? I had to teach that to a bunch of lawyers. There are about 13 different exceptions. Are you guys on there?
Jeff: I was not but I think others were.
Toby: It was just so much fun. All right. “During the pandemic, I’ve been using our boat as well as our house as an office. Would I be able to claim the time on the boat as a legitimate business expense?”
Jeff: There are several problems here. The first is you’re allowed one administrative office. It’s where you do the vast majority of your administrative work. If you’re doing the work anywhere else that disqualifies that home office.
The second part is with the boat itself as it does not meet the exclusive use test and has a significant personal use portion of that, probably far greater than the business use. The boat itself would not qualify if that was your only administrative office. Unless you could document that it was being used solely and exclusively as your administrative office.
Toby: I think that it has to be a commercial establishment on the boat. I think that you could probably do it if it’s a marina or if it’s a boat (what is it called a) dealership or something. A brokerage could probably be on a boat. Otherwise, no.
What you can do though is you could use it as for the two ADA deductions. If you want to have meetings on the boat, and just keep it that way, then you could certainly do that as long as it has sleeping quarters, a bathroom, and a place to cook, then it qualifies as a residence. RVs, boats and houses all qualify. You could do your meeting there. Instead of trying to do a home office, which won’t work.
I can’t think of a single situation where it would work just under these certain circumstances. Do the two ADA and you’re going to get back just about as much anyway. The other thing you could do is use it as a travel expense. But we won’t get into all that. Boats are always an interesting thing. People either love them or they hate them.
Jeff: I was going to suggest entertainment expense, but that’s gone, too.
Toby: Yeah. Bye-bye entertainment.
Jeff: Bye-bye.
Toby: There are so many questions, so many questions. Let’s see if there’s anything. “You exchange into a Delaware statutory trust and what are the pros and cons?” Yeah, you can exchange into a Delaware statutory trust. The Delaware statutory trusts are kind of a weird vehicle. They’re holding the real estate. You could train and change into it. It’s considered real estate, whatever it owns, is considered the asset. You cannot do that through an LLC, so when a Delaware statutory trust, you could. If you’re doing a 1031 exchange, you want to park it into the Delaware statutory trust, you could.
What are the cons? You’re not in control. Somebody else is doing the real estate for you. Usually, you’re parking it there for 1031. Then you’re going to end up buying another piece of property selling the deferred sales trust, the Delaware statutory trust. You’re going to sell that property and then go into another piece of property. You’re probably going to have two intermediary expenses, which, sometimes they’re thousands. Sometimes they’re 2000. So they’re not horrible.
“What is the difference between an administrative office and a home office?”
Jeff: I think the way that we consider the home office for Schedule Cs, you’re reporting on a specific form.
Toby: That says home office.
Jeff: It’s the ADA 25, I believe. Administrative office is actually a carve out of the home office rules. It’s particular standards allow you to have an administrative office for your business that is not owned by your business. Again, like we talked about earlier, that’s where the majority of the administrative duties are performed. You have to watch out for in the past, like I could be a real estate agent that has an office with my broker, and then I also have my home office, that I don’t want to do too much of that administrative side in the brokers office because it negates my—
Toby: It has to be where the majority of your administrative activities take place.
Jeff: We primarily use—
Toby: Where most of them are.
Jeff: Right. I think they use this term ‘substantially.’
Tobu: Yes, substantially all of your administrative activities are conducted from the administrative office in your home, which is great for people that have like Wyoming entities. Things like that, because there’s a principal office in Wyoming where you do all your work in your home. But if you said real estate agent, then you got to be careful.
Jeff: We tend to use administrative office for entities where you’re considered an employee and you’re doing the work, that administrative work inside your home. It’s not a home office deduction, exactly, but it is a carve out that looks real identical to it.
Toby: There are two big reasons. When you do the home office on a sole proprietorship, you’re going to either be using the safe harbor, which is $5 a square foot, which is diddly squat. If you have a 10×10 room, you’re getting $500 for the year. Yay. Or you do the administrative office, you could do the room methodology. You could do net square footage, and it’s a reimbursement.
The reason this is important is because if I reimburse, Jeff, for example, for the administrative office in his home, he doesn’t have to report it anywhere. I get to expenses and nowhere does it say home office. There’s nothing on the corporate return that says home office. There’s no home office for him that he has to file.
We always call that the red flag. You’ll hear accountants say if you’re a sole proprietor, it’s a big red flag. The home office is a big red flag. Well, all right. Being the sole proprietor’s the red flag. The home office is something that they point out and go, that was wrong, because they know you didn’t use half your house for your business. It’s very unlikely3. Maybe you did, but they love to tee you up if they see more than 10%.
The other reason that you do the administrative office in your house is because any travel between that location, let’s use the real estate. Let’s say you’re driving into Keller Williams or whatever the name, Remax or any of those places. I was going to say EXP but they’re in a virtual world. Let’s say that I’m traveling to—what is it called? The emoji? What’s the term for it? You guys know what it is? Don’t make fun. What is it called? My character that’s me.
Jeff: Avatar?
Toby: Avatar. Yes, I know it was a movie name. So yeah, you don’t get to commute into the avatar. Yeah, but that’d be really cool. I’ve been in the boat cruising around in that world. It’s actually pretty cool. I can’t make fun of EXP, but they’re actually really, really cool. I love the technology. If you’re driving between a physical office—I’m going down to my real estate office, and I’m going to go meet clients, everything else like that—normally, I couldn’t deduct it. It’s commuting to your place to work. If you have an administrative office in your home, and you’re going to the office, guess what? You’re absolutely killing it. Have you seen their stock? It’s doing good.
We have some clients that have huge chunks of EXP, absolutely fantastic, that were there years ago. I knew and talked to the founder. They’re absolutely wonderful. They retired into Puerto Rico, so they don’t have to pay a bunch of tax. That’s really cool when you’re doing that, that’s awesome. I don’t make fun of any group. They’re absolutely killing it. They started in Bellingham. They’re just right by where my mom lives. I have to be really cool to him. They’re like yes.
All right. I think we beat that administrative office and home office to death. “If I am a W-2 employee covered by a 401(k) but also have an LLC for my rental property business, can I contribute to a SEP IRA as well for the business?” What say you, Jeff?
Jeff: I want to change this question a little bit. I’m going to remove the SEP portion of it and just say an IRA. At that point, it depends. You say you’re covered by a 401(k). It’s going to depend on how much compensation you make, and what your filing status is, whether or not you can contribute to an IRA.
The reason I took the SEP off is that the rental property is not really a trade or business. You’re not getting any kind of earned income. There’s really no way to set up any kind of QRP for that rental property. Maybe if you had a corporation managing your rental properties, you need to be drawing a salary from your business somewhere. Your Schedule E on your rental property is not where that would normally happen.
Toby: To make it really simple, can you have a 401(k) and a SEP? Yes, but they have to be different companies. You have to have two businesses. Here, you’re a W-2 employee—that’s fantastic—but the rental business, again, is a passive business. It wouldn’t qualify for contributions to a retirement plan. Unless the LLC is doing property management, or perhaps it’s Airbnb, or something that might qualify as non-rental passive activity, non-passive activity, then we could do it. Otherwise, you’re sponsoring it through another active business.
If you had another corporation or LLC taxed as a corporation, yeah, it could do it. There are a lot of people that say, no, you cannot do that. Technically, we always hear the $58,000 limit for contributions. It’s per 401(k). If I work at a job here and I work at another job here, I could have $116,000 a year that I’m putting into my 401(k). There’s no prohibition against that. I’d be making a lot of money, of course.
Jeff: The only limitation like that is on how much you can defer out here, out of your pay. That’s a single—was it 19…?
Toby: $19,500 a year for employee deferral. $6500 if you’re over 50. You could put in $6500 extra, Jeff.
Jeff: And I do, thank you.
Toby: Me too. All right. Follow Anderson on social media. Please like us. Not that we’re needy.
Jeff: That sounds kinda sad.
Toby: Please like us. Please like us on social media. The YouTube’s great. Come on out there. We were putting a […]. They put me on the Anderson channel. Clint got his. Everybody’s going to have their own page. Michael probably has his own page. YouTube. So interesting. We’re expanding it out. Look at that, there’s me. So please join us on YouTube. We’re always putting content out. Share it with your friends, like and subscribe.
They always tell me, don’t forget to tell them to like and subscribe, like you can’t figure that out. Please, I’m on TikTok, too. If you want to see how I get trolled by traders, it’s kind of fun. I don’t know why. That’s not very nice.
“Can a vacant lot acquired under a 1031 exchange and held 8 years for appreciation be converted to private property prior to sale?”
Jeff: I’m going to ask you about this one, because I couldn’t think of a reason to convert it to private property before the sale.
Toby: Why would you convert it to private property? Yeah, I was just looking at it. The answer is yes, like personal property or principal residence or primary residence or something. It’s a lot. I assume you’re going to build on it and then make it into a home. That’s all I could think of. Otherwise, if it’s land, I’m keeping it as a 1031 exchange if I’m going to sell it.
Jeff: Yeah, and I have a feeling. Well, you really can’t change the nature of the property, that is, if it’s a rental. Well, this is a vacant lot, though.
Toby: If it’s next to your primary residence, it might make sense. There is a way to do a 121 exclusion on your primary residence and a vacant lot next to it. If it’s not, then probably not. I’d say keep it as a 1031 exchange. Great job, eight years of appreciation. I appreciate your appreciation. You can 1031 it.
Jeff: You’re somebody’s dad aren’t you?
Toby: Yes, dad humor right here. “I want to employ my daughter to help with my business. Where do I start?” Have children. “I have an LLC, but do I need it to be an S-Corp?”
Jeff: No, you do not. Any entity including a sole proprietorship can have payroll.
Toby: Technically, a sole proprietor is easier.
Jeff: Yeah.
Toby: S-Corp you run through payroll. Sole proprietor, you don’t have to do withholding if it’s your child and they live with you, right?
Jeff: Yeah, it’s got to be a minor child under 17.
Toby: Something like that. Yeah. If it’s a kid, and as far as the age, we’ve seen kids as young as nine. I’ve seen people do younger. They use them for photography, advertising, and things like that. Realistically, they need to do something other than just look cute.
If your daughter works for you, and you have an LLC taxed as a sole proprietor, you could do it LLC taxed as a partnership. You could do it LLC taxed as an S-corp. You could do it LLC taxed as a C-corp, S-corp, partnership, or sole proprietor. All of those will work.
It makes sense because they have a very low tax rate. They’ll be zero up to the standard deduction, which right now is $12,500 for single, and probably is going to go up a lot with inflation doing what it’s doing, like that’s indexed for inflation. That’ll probably go up pretty darn close to $13,000.
Hey, look, it’s YouTube again. By all means, come in. All this stuff is up there. What I’m doing a lot of times I grab the questions and I might just go a deep dive on one of the questions.
“Can you talk about monetized installment sale? Is it still legitimate? How does it work?”
Jeff: I’d like to sum up the IRS position on this. No.
Toby: I think they came out with a publication in May. They said, here’s the six reasons monetized installment sales do not work, but it still could work. It’s weird.
Jeff: Yeah. Their big argument was, I believe this is nothing more than a step transaction. All the stuff that you have in the middle is meaningless. We’re going to look at where you started and where you ended up and say, no we’re going to collapse.
Toby: We do have a client. They have another advisor. They sold 80+ properties on installment sales, with a law firm handling the transactions. They may be okay because it’s not a business of that firm. They actually went out and shopped and they found somebody who would do the loan. What you’re doing is you’re selling on an installment sale, that you’re going to receive the income on and somebody is loaning you the money. You’re using the installment payments to pay off whoever’s borrowing it. I’m selling it. Somebody steps in between the transaction of the seller and says, I’ll take the money. They’ll pay you on an installment sale.
I believe that the lender is either purchasing or there’s a transaction there where the lenders then loan you the money based on that asset. Probably your underlying security of that asset, so that the lender knows they’re going to get paid back. They loan you the money. Instead of you taking the money directly from the seller, you’ve now muddied the waters with two other parties. This person’s paying you on an installment sale. You’re paying this person over here on an installment sale. It’s just a big circle.
What it does is it allows you to recognize the gain over in some cases, 30 years, depending on how long you put that installment sale. You’re going to have a return to basis, no tax, depreciation recapture which is going to be zero to 25. You’re going to have long term capital gain. You’re going to have interest, but you’re also going to have a payment of interest. If that’s really exciting for you, go do it.
Jeff: They’re also known, as you said before, deferred sales trust.
Toby: Deferred sales trust, a little bit of a different animal because 100% of the money’s going into the trust. You want to go over a deferred sales trust, I don’t want to steal […].
All right. Let’s say that Jeff’s my child and I have a business that’s worth over $10 million. I’m going to say, use that as kind of a breakeven. I go ahead and I set up a trust for Jeff’s benefit. The trust goes ahead and buys my business and does it under an installment sale. It has to be an arm’s length transaction. You’re usually going to have a separate trustee.
They say, all right, I’m going to go ahead and I’m going to pay, I’m going to sell my business to the trust. The trust is going to pay me an installment sale over a period of years, where I should be able to live long enough. You’re going to have to do my life expectancy table to make sure that it matches because a lot of times people are doing this later in life.
If I have a 15-year life expectancy, I’d want to do a 15-year installment now. I step up the basis. Usually, I’ll use an LLC, sell the LLC that holds my company. I step up the basis inside the LLC. LLC sells it to a third party. All this money comes into the trust zero tax because the basis has been stepped up. All that money is now going to go to Jeff’s benefit and I’m getting the installment sale. Makes sense. I just transferred everything to Jeff, in a way. They’re very technical. I would only go to firms that just do deferred sales trust.
“My daughter is a pastor and receives a housing allowance. She also has a small business,” I blacked out the name, “which is registered in Wyoming. The business is run out of her home. Would she be able to claim a home office deduction or does the tax free housing allowance disallow this type?”
Jeff: Yeah, but we know their name still has LLC in it, so no, it wouldn’t make your housing allowance taxable. It kind of works the opposite way. If I’m using my housing allowance to pay for my mortgage or rent, my property taxes, utilities, I can’t deduct any of that stuff under my home office. I think what you’re going to find as housing allowance, it’s not going to be taxable, but it’s going to really restrict how much you can deduct under the home office.
Toby: When you do the administrative office for your home, you could possibly do that, but it’s based on how much expense you actually have. If you have a parsonage, it’s actually called a parsonage allowance. It’s section 105 in the code, so if you’re a pastor you could have the church to provide you housing. You don’t have to recognize it as income. You get a house. Cool.
Then you go and you say to another business, hey, you need to reimburse me for the cost of my business. Well, most of those items are the rent you pay, or your mortgage, real estate tax. There are utilities, there’s also cleaning, repair, anything that’s coming out of your pocket. You could reimburse a portion of, depending on how much space you’re using.
The home office deduction, not necessarily. I would call it an administrative office for the home for a secondary business. It’s going to do, again, two things. It’s going to give you a little bit of money in your pocket that you don’t have to report. It’s also going to make any time you drive to that other business or whatever you’re doing—maybe it’s real estate or something else you have to drive—it makes that tax deductible. You can get reimbursed a mileage deduction. I think it’s 57½. That’s going to have to go over 60 cents. Gas here is like $5 a gallon.
Jeff: Question for you, though. The daughter that’s the pastor probably has a pastoral office in her home that she works out of. If she wants to have another office, would you separate those offices?
Toby: I think technically, she can have two. I believe we looked at this once before.
Jeff: I didn’t know the answer to this. That’s why I’m asking.
Toby: I don’t remember. Somebody said, (William), “Going back to the child doing work for parents, what paperwork do you need is a 1099 issue?” No. Actually, for the child there it’s actually payroll. Technically you don’t have to do withholding. So it’s a W-2.
Jeff: Yeah, you do a 1099. You’re guaranteeing they’re going to have to pay taxes.
Toby: They’re going to have to pay self-employment tax, but you don’t have to do any of the withholdings. They still have to pay self-employment tax.
Jeff: They have to pay self-employment tax on the 1099 but not on the W-2.
Toby: On the W-2 they don’t even ever require it because I know the parents don’t have to withhold, but are you released from the obligation to have to pay it? I’m still employed, doing active.
Jeff: I think if they meet the age requirements
Toby: Then there’s no, yeah.
Jeff: Both the employee and the employer are exempt from paying this payroll.
Toby: I think you’re right. I think that would be one big difference, if you’re an S-Corp paying the child. The good news is if they’re an S-Corp paying the child, you can go right into a retirement plan.
Jeff: The income tax would be $0 and 1099 versus payroll. It’s just that 1099 also has that self-employment.
Toby: Right, so we don’t want to 1099. You want to do it as a minor child. All right. Oh, gosh, we’re back to Infinity. Register for the Saturday, November 6 Infinity Investing Workshop. Here’s the link. We always have a lot of fun. You’re going to learn how to trade in the stock market. By the way, Infinity has, every week three basic trading rooms open where you can come in and trade with our instructors for nothing, zero, zilch. All you have to do is join up with Infinity Investing. We want to help you guys make money.
People always say, why do you answer tax stuff for free? Why do you teach people how to make money for free? I was like, well, I don’t know. It’s fun. Hopefully you guys do really, really well. Then you hire us to teach you how to keep it. See? We’re barbers and we want your hair to grow really fast. That’s why we do it.
andersonadvisors.com/podcast, go in and listen to a ton of stuff from Clint, from Michael, from Jeff here, Elliot, Carl, Pia, Amanda. There are just so many people that are putting out good content for things that could help you keep more, save more. Then, as always, send us your questions to taxtuesday@andersonadvisors.com. Come to our website, check it out.
Something said, “SSD income taxable?” So Ron is saying social security income taxes. Yeah.
Somebody says, “Wow, you’re really going to end this one.” We’re just slightly over, Sherry. Do you have a tracker? I actually cut down the questions. Jeff’s always mad at me. He used to be way worse, but this is good. So anyway, there are still some questions out there. We answered 118 written questions. We have 19 still out there.
“Is my Social Security taxable?”
Jeff: Social Security, you said SSD, Social Security Disability? That is not taxable.
Toby: If you make over a certain amount?
Jeff: I think it’s still taxable the way your social security is.
Toby: If you’re making too much money elsewhere. But, Ron, that’s a good question to submit, and we’ll get it answered. It won’t take long to figure that one out.
Jeff: Just in case we’re wrong.
Toby: Yes, in case Jeff’s wrong because I have no idea. I’ve looked it up before. I also know that every time I look things up, sometimes I’m like, oh, wow, things change. By all means, send us your questions. If you’ve asked a written question, hang tight because our guys will still answer them. Even if we discontinue the presentation, you could still stay on and get your questions answered. Ask questions. We’ll make sure that we get you all squared away.
Ron, I get it. Your wife also has some income. We’ll take a peek at it, just submit the question. We’ll make sure we get you an answer. Until next time, guys. Thanks for joining us. Thanks, Jeff.
Jeff: Thank you, Toby.
Toby: And we will see you. Have a great Halloween. You guys don’t get too scared and don’t eat too much candy.
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