What’s the best way to handle the ups and downs of investing and tax consequences? Sit on your hands long enough until everything is okay, again. The hardest thing sometimes is waiting. In the meantime, Toby Mathis and Jeff Webb of Anderson Advisors answer your tax questions. Submit your tax question to taxtuesday@andersonadvisors.
- Does day trading cause a higher tax consequence than long-term investing? Typically, if you have gains, it’s going to have a higher tax consequence, primarily because the day trading is all going to be short-term trades; however, long-term capital gains is subject to that long-term capital gain treatment – usually a much lower tax percentage
- If I own a property and I owe back taxes, can the government take it? If you owe back taxes, the government can certainly take your property and put a tax lien on it; then if it’s not paid, the government can sell it to make up for the taxes
- Can I rent a house owned by one of my LLCs? You can’t rent to yourself your own house
- How does rental income get taxed? Rental income is taxed at ordinary rates, it’s ordinary income; however, it is passive income and passive losses are limited
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Full Episode Transcript:
Toby: All right, guys. We got a lot to do. A lot to do, very little time. Here’s what we got. Tax Tuesday, ask a lot of questions. If you need a detailed response, you can always send it in via the Platinum Portal. Otherwise, we’re going to answer it. This is supposed to be fast, fun, and educational. We answer a lot of questions here and we want to make sure that we get you guys squared away.... Read Full Transcript
Questions that we’re going to be answering today, I’m going to go through these fairly quickly. We’re going to hit them all and we already have a whole bunch of questions going on. We have some heavy hitters on, guys. We have some accountants and then even to throw in there, I can’t really say Troy is a bookkeeper, he’s also an accountant. Dana’s an accountant, Crystal’s an accountant, I’m a tax lawyer, and Jeff’s a CPA. You got a whole bunch of people to answer questions for you. Just go ahead and shoot them out there. They answer all during the session.
Feel free to put it in the question and answer section. If you want to respond to something I’m saying immediately, put it into the chat. If you have an immediate clarifying question that you need to ask, by all means, throw it in the chat. If you have a question that you want answered, that is a little more than just, hey, here’s a comment on something we just said, then throw it in the question and answer.
All right, questions that we have today. Does day trading cause a higher tax consequence than long term investing? We will answer that. I own a property and owe back taxes. Can the government take it? If I die, can they take it? Can I rent a house owned by one of my LLCs? If so, do I have to pay rent to that LLC?
How does rental income get taxed? We’re getting some good questions already. We’ll answer those. I trade futures four or five days a week and never hold overnight, would I be better off to move my trading accounts into a Wyoming LLC, taxed as a C-corp? I’d even considered moving to Puerto Rico for the mandatory time per year to capture the tax benefits. Interesting. You better be trading a lot of futures.
My two sons, college ager, limited partners—my retail space rental LLC, which again, we’ll hit on that. Some of you guys already spot the issue. Do they have to pay self-employment tax if they receive rental income as LPs or GPs? We’ll go over that for sure. Jeff loves these ones, by the way. This is like a tax crack for the accountants. Does the IRS allow you to defer and not take depreciation? Our group of investors do not want or need depreciation. That’s nice for them.
Can we not take it and wait to take it in the year sale? We will answer that one. Surprising answers. How is staking crypto taxed? Is it taxed twice? If it is taxed as income but I never sell it, how can I afford to pay tax on it? Great question, for those of you guys who like crypto. We’ve been getting a lot of crypto questions in the last few months.
A lot of people are getting interested in it and now’s the time to get in there, I guess. Good question on 1031 exchanges. I love the weird ones. If I’m doing a 1031 exchange, can I pay down my mortgage on the sale property to avoid boot? For example, the current loan on the relinquished property is $204,000, new loan on replacement property is $194,000. It’s a good question. We’re going to talk about boot. Can solar credits be used one to one against capital gains? The money you can pay out is at least going towards a product that you own. We’ll talk about that. Good questions.
All right, let’s jump in. Jeff, does day trading cause a higher tax consequence than long-term investing?
Jeff: Typically, if you have gains, it’s going to have a higher tax consequence. Primarily because the day trading is all going to be short-term trades. Whereas the long-term capital gains is subject to that long-term capital gain treatment, usually a much lower tax percentage.
Toby: Yeah, you nailed it. What Jeff is saying is when you trade, it’s considered capital assets, so securities are capital. They’re subject to capital gains, but if it’s less than a year, it’s your ordinary rate, which is your normal tax rate. If you’re in the 22% tax bracket, that’s where it’s going to fall just like any other income. As opposed to long term capital gains rates, which you’re going to hear a lot about as we keep seeing what’s going on with Congress, they’re taxed at 0%, 15% or 20%, depending on your income.
Under that example, if you’re in the 27% rate, you’re in the 15% long-term capital gains rate. It’s taxed at a lower rate. You’re probably going to be much better off. I’ll give you an example. If I’m a day-trader, married filing jointly making $70,000 a year, my long-term capital gains rate is zero, my short-term capital gains rate would be what I meant, except $70,000. It’s somewhere in the teens. I’m paying quite a bit more, but it’s not like you’re getting the snot kicked out of you, and you’re not paying self-employment tax.
Day trading is a fancy way of saying rapidly trading. There’s no such thing as a day-trader in the tax code. There’s no such thing as a trader in the tax code, they made it up as they went and the courts decided. What do you call an attorney with an IQ over 80? Your Honor. They went to court and they started asking Your Honor, what should we do?
Their answers are all over the place, like it’s any given—there’s that old movie Any Given Sunday. Any given tax day, so you’re like, holy schmoly, these guys are coming up with all sorts of ways to deny people, sometimes give people. What I’ve noticed is that they’ll oftentimes approve a trader, when it doesn’t really help them anyway. But they always deny you and it seems like you’re going to come out ahead. I don’t know. Maybe that’s just judges.
Jeff: This brings up something that we’ve seen where people started investing when the market was way down, and had these big gains from the market rebounding. Then they had to make the decision, do I go ahead and while it’s high and take the short-term capital gain? Do I risk holding it a couple more months and taking the long-term capital gain? It really is an issue of how much you think it’s going to go down if it’s up significantly. If only we had that crystal ball.
Toby: Charlie Munger put it well, he goes, the hardest thing about investing if you learn to do this. All right, I’m going to show you physically what to do. You take your right hand and you put it underneath your right butt cheek, you take your left hand and put it on your left butt cheek, and you keep them there. If you could just sit on your hands long enough, you tend to do okay. But that’s long-term investing. That’s what I like to do.
The short term stuff is if you’re chasing game stock, AMC, and you’re playing around in those games, and you got to be in and out. Or if you’re someone who’s just doing daily swings, I get it. I’m not going to tell you not to do it, I’m just going to say that you have a 95.5% chance of losing money if that’s what you’re doing. That’s the success rate of day-traders. There are numerous sites that can back that up plus our personal experiences and people that try to time the market. What do you say, it’s 80% loss?
Jeff: Yeah. If you’re trying to beat the AI computers, you’re not likely to be successful. If you’re just trying to beat out the Robin Hood people, you may have better luck.
Toby: Or you just sit back, buy good companies that are paying dividends, and you sit back and you let them increase. Again, the hardest thing sometimes is the waiting. That’s twice I’ve done that this week. I started quoting Tom Petty songs, Heartbreakers.
All right, next one. If I own property and I owe back taxes, can the government take it? If I die, can they take it?
Jeff: If you owe back taxes, the government can certainly take your property, then put a tax lien on your property. If that lien is not paid, you will find your property being sold on the county courthouse steps.
Toby: Yes. I guess I would do one little nuance here, because words matter. Can the government take your house? No. Could they potentially foreclose on your house? Yes. Then they could sell it to make up for the taxes.
If your house is worth $500,000, you have back taxes of 50, they’ll go and put your house up for sale on it and it gathers $450,000, they can’t just take your house. They can’t just take the whole thing. They can take the portion that they owe, and you usually have a redemption period, even if there is a government sale where they usually—depending on where you’re at. I think it’s about a year.
Jeff: Yeah, I was going to say I think it’s usually a year that, after your house was sold to a third-party, you still have up to a year. I think California recently pushed that.
Toby: There’s a redemption period, but regardless, don’t let your house get sold at a foreclosure sale. When people invest in tax liens quite often, sometimes they’ll end up with the property because people just don’t want to deal with it. The second question is, if I die, can they take it? Yeah, it’s part of your estate. Again, they can’t just take your house. What they have is a lien against your house.
Let’s say that the government is in second position, meaning that if you have a mortgage on your house, and then you have unpaid taxes, the government would be considered in second position. Let’s say that the primary—this is what happened in 2008, 2009 and 2010, primary forecloses, and the government lien gets extinguished. Because they’ve sold the house, the government generally has a period of time when they can redeem the property for the interest in taxes, or in the payment that the mortgage company paid, gets really wild when you have a second. Then they could go in there and try to take it but they’re in second position. Just because your lien gets extinguished, does not mean that you don’t still owe the debt, and vice versa.
We had a lot of people go through bankruptcies during the downturn, and they realized when they went to sell their house later that they still had a lien on it. It doesn’t go away. It’s crazy. I like stuff like that. All right, let’s see what we got for questions and answers rolling around. Can I put a primary residence and rental property inside a Roth? Not your primary residence because you’d be a disqualified person. Can you put a rental property instead of Roth? Yes, as long as it’s self-directed, but I’d still put it in an LLC.
I see, Elliott’s probably answering that too. What if I day-trade in the same securities, and have washed sales all the while? Day-traders aren’t subject to the wash sale rules. If you are a trader in securities, meaning that you actually qualify, and you make a market to market election, then you don’t have to worry about wash sales. Otherwise, they would treat you as an investor, even though you’re day-trading. If you don’t rise to that level, you have to worry about wash sales. I believe, isn’t your brokerage house going to handle that?
Jeff: The wash sales, typically? Most of them come out with that market to market report. They’re totally disregarding the wash sales. You also need to keep in mind that you can be both a trader and an investor at the same time. You have those short-terms that you’re just turning, but still hold long-term positions. You actually could do both.
Toby: But don’t. This is my experience for 23 years of dealing with this. I know you’ve been doing a lot longer, but we cut our teeth in the trader area. If you like audits, put traders on your tax return. If you don’t like audits, don’t. Just make sure that you’re doing at least 1000 round trips a year in the trading world if you’re going to try to be a trader. Don’t have a full time job, don’t take long vacations, because all of those things are disqualifiers.
Jeff: Yeah, you have to do it all year.
Toby: Yeah, they had a guy that traded six months made a ton of money, goofed off and they said it wasn’t frequent.
Jeff: It’s a very subjective test. I’ve seen rulings go both ways. I don’t want to rely on the bench to make a decision about what I have.
Toby: Somebody asked a weird question here, by the way. I don’t want to be relying on it. You don’t want to have discretionary authority. It’s one of the most vicious things. It’s a paternalistic society, where you’re going to let somebody decide your fate. Try not to do that. You don’t want to put yourself at somebody else’s discretion period because that power sometimes goes to their head and sometimes they’re having a bad day and you’re just in front of them.
I’ve seen it, everybody’s seen it, where you just see somebody just go off because you could just tell they’re having a bad week. Maybe they’re in a fight with their spouse, maybe they just got hit on the way. Maybe they got rear ended when they’re coming into the office or whatever. To tread lightly around some of these folks, just don’t do it.
Somebody says, in general, is it a wise idea to place a rental unit set aside of a Roth IRA? Generally speaking, though, it’s not going to make me—actually, I would say that a traditional IRA, I’m a little bit less inclined to because there are so many benefits that me as an individual can have in a property that I probably won’t be paying a lot of tax on it anyway. If I put it in a traditional, that I know I’m going to have to pay tax, but put it in a Roth, at least I’m not, but I lose the benefit of all that depreciation. I’m not going to say yes, this is bad. I’m just going to say that—whenever I see real estate in a retirement plan, I’ve always like, yeah, okay. If that’s where your money is and that’s why you’re doing it, you want to use real estate, cool. If I have a choice, I’m probably going to try to get some personal benefit out of it first.
Jeff: Keep in mind, if you’re a really good handyman, you don’t want to put this investment property in that Roth, because you can’t touch the property after it’s inside the Roth or the IRA.
Toby: Yeah, who is that artist? Can’t touch this. MC Hammer.
Jeff: It seems like a silly role, but you can’t work on a property that’s in your retirement plan.
Toby: Somebody says equity trust told us not to put a duplex that was in a—that’s interesting. They said, don’t put a duplex into an LLC. Actually, the LLC has to be set up by the IRAs. Here’s the rub, Michael. You’re personally liable for the liability on that duplex, the account holders are. When it says IRA individual, the I in that IRA, you guys are all the ones that are liable. If something bad happens, you’re personally responsible. I think it would be joint and several, you guys would all be pretty much 100% liable.
It could be a little bit of carnage. What you do there is you set up a checkbook, LLC inside the IRA, it’s not that hard. You could talk to us, we do them all the time, and then you put that wrapper around it so that it can’t come out to you guys personally. Somebody says, to what age can we put money into an IRA? There’s not an age limit, is there?
Jeff: I believe it’s 72.
Toby: Is it 401(k)? Is that something you can go after?
Jeff: Roth, you can go after.
Toby: Roth and 401(k).
Jeff: I think the traditional, they haven’t changed that.
Toby: All right, let’s keep going on. Can I rent a house owned by one of my LLCs? If so, do I have to pay rent to the LLC?
Jeff: If it’s a house that you own, you cannot rent it back to yourself. Do you disagree with me? I thought we might have some. I’m not sure why you would want to do that.
Toby: Somebody says data says like currently 70 and a half for 2019. I think I’ll change it to 72.
Jeff: Yeah, it changed with the Secure Act.
Toby: Yeah. All right. The Secure Act jumped it up. Here’s what we could say. Can I rent a house owned by one of my LLCs? This is where I love to be annoying. LLCs are not taxable entities. If it’s an S-corp or a C-corp for tax purposes, the answer is yes.
If it’s a partnership or a sole proprietorship disregarded, then the answer is, it wouldn’t make any difference because it’s still you. If you did that, you’re on both sides of that. You can’t rent your own house. From a tax standpoint, the IRS does this. There’s no LLC, there’s no LLC, right. You’re just, I’m renting my own house.
Jeff: It’s even worse than that because you’re generating income, rental income, but there’s no deduction on the other side.
Toby: Well, you wouldn’t have income because you can’t pay yourself income. If I take money out of my right pocket and put it in my left pocket, it’s not going to be taxable, if it’s my money, because it’s not a separate taxable entity. So how do I pay?
Jeff: I was just thinking about the partnership and the S-Corporation.
Toby: S-Corporation, for sure. Well, it would be a depreciation to the S-Corp. If I pay the rent, it’s going to depreciate. The only time you would do this guys, is if you’ve had a property that went up in value, and you wanted to use the 121 exclusion, the $500,000 exclusion if you’re married filing jointly, or $250,000 exclusion if you’re single. You want to use that and you sell it under an installment sale to an S-corp up out of the installment sale so that you have all that gain, so you have a higher basis, and you rent it out to other people. You start depreciating it, and maybe you come back and you say, boy, I miss my old house, and then you rent it from yourself. That might be the only situation that I could foresee. Otherwise, you don’t want your house in a C-corp. You generally don’t want it in an S-corp because getting it out of those entities is to be extremely painful from a tax standpoint.
Jeff: I’m thinking that if I want to live in one of my rental properties, maybe I’ve been renting it out for the past 10 years, I just pull it out of service and move in. I don’t do any rent between the entity and myself.
Toby: Nope, you just go on in. The only time you would is if you had a separate tax paying entity. Anyway, that’s fun. Boy, we’re annoying. How does rental income get taxed?
Jeff: Rental income is taxed at ordinary rates, it’s ordinary income. However, it is passive. We talk a lot about passive income.
Toby: Why is that important?
Jeff: It’s important because passive losses are limited by good old Section 469 that we haven’t talked about well, except every other time. For Section 469 limits, how much rental loss can you take? If you’re below $100,000, you can take up to $25,000 of loss and that phases out over the next $50,000.
Toby: That’s if you’re an active participant in real estate investments.
Jeff: Which is 200 hours?
Toby: You don’t have to do any hours, it’s just, do I manage the property?
Toby: Then there’s the real estate professional. That’s it. We don’t have to get into that test. What Jeff’s really hitting on is that, if I have passive income, which is rents, or from businesses in which you do not materially participate, so silent ownership. I bought into a company that Jeff runs. He runs a pizza shop and it kicks out $10,000 a year to me from my ownership interest, but I don’t do anything. I don’t lift a finger for it but I have that income, my rental losses can offset my passive business income. Same scenario but instead of Jeff giving me income, it’s kicking me down losses.
We’re partners in a partnership and I’m passive, I could use my loss from my business with Jeff to offset my rental income. There’s no old age, death and survivors when you have rental income. Passive income is just not subject to social security taxes at 15.3%, which you’re going to start paying attention to, because it may be coming back over 400,000. We have a phase out for a portion of it. If you’re making a lot of money, you could see yourself getting hit with it, but you never have to worry about that with rental income or businesses in which you do not materially participate.
Rental losses and losses from businesses in which you do not materially participate cannot be used against capital gains or ordinary income from other active sources. You make W-2 income, $500,000 a year. You have rental losses of 100, you can’t use the rental losses against that income with the exception of, if you qualify as a real estate professional. That’s why it’s important. The big categories of income, you have your active ordinary income for wages or if you’re a sole proprietor, or if you materially participate in a partnership, then you have portfolio income, which is your rents, your […], which is royalties, dividends, interest, capital gains, and then you have passive income.
Those are the big three categories. Most people try to pick them into two and they always say things like, oh, there’s passive and there’s active. Well, no, there’s actually a portfolio. Anyway, so how does it get taxed at your ordinary rate? You offset it though, with depreciation. A guy like Jeff, who’s a genius with the tax code, knows how to accelerate your depreciation. You go to an accountant that knows what they’re doing, Jeff may be looking at you saying, hey, you got some income here. If you’re in a high tax bracket, and he might start whispering in your ear, hey, we want to rapidly depreciate this thing. Maybe we want to look at doing a cost SAG on your property.
Maybe we want to look at taking some bonus depreciation. Maybe we want to look at your other structures. It gets fun. Jeff’s smart. All right. We have lots of questions floating around there. I understand 1031 exchanges cannot be done between immediate family members. However, can family members swap properties?
Jeff: That’s not exactly correct.
Toby: Yeah, right. You can actually do 1031s with family members.
Jeff: What comes into effect is, there is a holding period afterwards. I’ve seen there are two or five. If I sell a property to my son, or do an exchange with my son, he has to hold it for a certain period of time. If he doesn’t, it blows up my lifetime exchange.
Toby: Yep, and they come back and say, hey, Jeff, remember that 1031 you did? Now you owe us tax on it. There’s a few one. All right, what else do we have? I’m not going to sit here and answer too many, just because we’ll be here all day.
Jeff: I’m not saying that you don’t.
Toby: I trade futures four or five days a week and never hold overnight. Would I be better off to move my trading accounts into a Wyoming LLC taxed as a C-corp? I have even considered moving to Puerto Rico for the mandatory time per year to capture the tax benefits.
Jeff: Is it mandatory that you do that? I’m going to stipulate it on one thing. If you have a lot of expenses with your trading, you may have investment materials and computer programs and things of that nature. I may want to put it in an LLC, and partner with a corporation or somebody who can actually take those deductions because individuals cannot take those investment expenses.
Toby: Go over futures trading.
Jeff: Trading futures typically are handled under what they call Section 1256.
Toby: We like 1256.
Jeff: 1256 divides each sale into two portions. I believe it’s 40%, short-term and 60%. long-term.
Toby: Yep. You get the benefit of those really tasty long-term capital gains rates, no matter whether you held the future for a day. In this case, he’s buying or she’s buying them and selling them on the same day, 60/40.
Jeff: I’m not a fan of putting them in a corporation. If you run into sudden serious losses, you could have losses trapped in that C-corp forever.
Toby: Here is what we do. If you are below, at a trading account of about $25,000 and you have trading activity, profits of less than $25,000 a year, you may be okay in a C-corp because we can pretty much tell you that the expenses that we see are right around $20,000 a year. You’re not going to get hurt. If you did, you’d have $5,000 of profit, that’d be taxed at the corporate level, and then it would be taxed as a dividend to you, which could be 0%, 15% or 20%. The corporation’s tax is 21%. You’re not going to get slaughtered or you just pay it out yourself.
If you go above that, then we want to see a mixed entity. You want to have a partnership LLC that is owned probably 20%, 30% by a C-corp and go that route so you get all the benefits without the drawback. Puerto Rico. All right, so Puerto Rico is a US territory, and it gets special treatment on its taxation. It’s under certain circumstances, capital gains and business income. I think even dividends are taxed at 0%, 4%. It will be taxed much, much lower in Puerto Rico. The part that people forget about is that that is not on all capital gains.
People think I have huge capital gains. I’m going to run to Puerto Rico, and I’m going to avoid them because I stay there for—there’s an on-island requirement of 183 days, which means you physically have to be present for at least one minute, 183 days out of the year. You can touch down in your jet, turn around and go back. I was there for a minute, landed, got right up. You have to be able to provide it, but it’s for Puerto Rican sourced income.
You either have to open up the business in Puerto Rico, and have the dividends be derived from that Puerto Rican business, which is going to be really difficult if you’re trading in the market. I see people throwing this out there, but it’s a little more difficult. I mean, there might be some wiggle room to wait or get around it. But I start saying, all right, you better be millions of dollars if you go into that much trouble. Now we have clients that have moved there and moved their business operations there. You have to employ at least two people.
Again, this is something that is on the table every year, but we’ve had people that are in the seven figures of annual income that have the ability to source that wherever they may be and they go to Puerto Rico because they can eliminate their tax and get it down to pretty much close to zero. If that’s not you, then it’s probably not going to be worth it.
Jeff: When you start looking at the articles that Puerto Rico has written for this, meaning the laws, you quickly realize that these laws are meant to bring business into Puerto Rico, not make Puerto Rico simply that tax pay them.
Toby: Hey, I’m going to buy a house there and never pay tax. No, that doesn’t work that way. Although, if you have to go to Puerto Rico, may I recommend that you look at old San Juan, maybe Dorado and Rio Grande, there’s a beautiful, just one amazing Island. What’s on the other side? We have a bunch of clients that live in a golf club on the other side. I can’t remember the name of it. It’s just beyond […].
Anyway, it’s a beautiful island. If you go to Puerto Rico because you want to go to Puerto Rico, don’t go there just for the tax benefits. You got to really like it. Somebody says, I believe the name is Bahia. I think you’re right. Oh, Palmas Del Mar. Somebody got it. Gosh, they’re good. You guys are really smart. It is Palmas Del Mar. Gosh, how did you know that?
Jeff: Winner winner chicken dinner.
Toby: Oh, my god. You just nailed it. That is smart. Yeah, Palmas Del Mar. There is a beautiful, beautiful stadium there and all sorts of fun stuff.
My two sons, college age, are limited partners in my retail space rental policy, which is really smart, by the way. I don’t always like giving interest to the kids, but they can pay for their college out of that income that’s flowing through. It’s at their tax rate, so smart. Do they have to pay self-employment tax if they receive rental income as GPS or as LPs?
Jeff: Since this is an LLC, the proper term is just members.
Toby: Yeah, so this is where it gets weird. LP means limited partnership. You can’t be a limited partner in an LLC.
Jeff: A member, we’ll call it a non-managing member is pretty much the same thing as an LP. But for an LLC, they don’t have to pay self-employment taxes because they’re not doing anything in LLC.
Toby: Even if they were, it’s rental income, it’s passive.
Jeff: That’s true. That’s really smart.
Toby: Rental income is passive. How can you make it active? Well, it depends on what you’re doing. If I have a management company, a lot of syndications will be set up, where like, hey, we’ll have the people that invest, but I’ll have a corporation or something, the folks that are managing it are and they’re charging a fee. That’s no different than charging to paint the house. I am getting a fee for a service. I’m managing, I’m getting a service, it’s no longer rental income.
But if they do nothing else, and this dad or mom just sits there and lets that passive income flow through, it’s just partnership, no self-employment tax, no old age and disability survivors insurance, no Medicare, it isn’t being pretty good. All right, let’s see what else we got. Are there any questions up there you want answered? Somebody is asking about creating a lien against the house. If they’re worried about maybe property taxes, you could potentially put a lien against the house and have to have substance, and you foreclose and hose over the government, and then they’d come after the estate. You could potentially do that.
Does your company do paperwork for property into nonprofits? Also, someone already formed an LLC for the property, but the vision for the property changes. Is it possible to dissolve the LLC removed? Okay, we’re not going to get into too much of the specifics. The answer is I love putting property into nonprofits. If it’s for low to moderate income housing, for veteran shared housing, for rehabilitation, dependency, for special needs, all those things qualify as nonprofit activity. The beautiful part is that when you donate the property into the nonprofit, you get the fair market value of that property, as long as you held it for at least a year.
If I’ve held a property for 20 years, I’ve depreciated it—I’m pretty far along in the depreciation, but it’s gone up in value. We’re at the peak of a market and we say, hey, you know what, I want to donate it. You donate it, you get an appraisal, your deduction is the fair market value, that appraisal. You’re going to have to attach that appraisal to your return as well, to the 8283. You’re going to put that on the tax form and it’s going to be limited like your taxable income, that’s the limitation just to this taxable income.
It’s going to be limited to 30% of your taxable income per year, but you can carry it forward five years. If Jeff’s making $200,000, he gives a $500,000 piece of property away to a charity, Toby’s nonprofit, then Jeff gets to write off so he’s making $200,000, so 30% of that would be $60,000. We’d get $60,000 off in year one, $60,000 in year two, $60,000 in year three, $60,000 in year four, $60,000 in year five, $60,000 in year six. You’re going to get your write off about $360,000 of that $500,000.
Jeff: You mentioned that this house that you’re donating is almost fully depreciated. What happens to depreciation recapture? Don’t I have to pay tax on that?
Toby: See? Jeff’s liking this. We could do that with Bitcoin, we can do that with stocks, we can do that with any capital asset, it actually is pretty cool. I think there might be some—if it’s an antique or collectible. There’s some funky rule, but there’s a limitation on how much you can write off 20%.
Toby: Let’s see if there’s any other questions. I will just go right on it. Follow Anderson. We’re on Facebook, YouTube, LinkedIn, Instagram, and Twitter. You can get your tax doses, your asset protection doses, your business running dose, whatever. You guys see today, by the way that the—who was it that came out about Bezos and Warren Buffett and Elon Musk?
Jeff: It did grow. They were comparing what the most wealthy people pay compared to their net worth to what we pay compared to our net income.
Toby: Right, they’re dorks.
Jeff: I think somebody’s got to go to jail over that, though.
Toby: I think somebody got somebody’s tax returns and disseminated it without their approval.
Jeff: Because they wouldn’t say where they got the info.
Toby: They did it to the past president and nobody got in trouble because everybody jumped on him. All right, now you did it to Buffett, you did it to Elon. Elon is just going to tweet, and something bad’s going to happen to you.
Jeff: Something’s going to disappear.
Toby: Bezos is like, don’t mess with me. I’m taking off into space. Bezos is going to be up on the moon. Somebody says the results with Stark. Twenty-five people saw their net worth rise a collective 401 billion. They paid 13 billion in federal income tax. Well, we’ve been telling them how they do it for a while, like if you ever get bored, just go back and listen, and like that just about every time we talk about loans are not income.
If you have a highly appreciated asset, you do a Securities-Backed Line of Credit. If you have a big trading account, don’t sell stuff off to live just get a loan against it. It used to be LIBOR plus I have half a percent. For a long time, it was 2%. You pay on your Securities-Backed Line of Credit. It’s like, why would I sell it to have to pay 20 or 23.8 plus my state when I could borrow against it?
That’s how a lot of these guys live. They borrow against their assets. In fact, I think they said Elon had something like $80 billion pledged against his Tesla shares. 100% legal, it’s just being smart, but that will demonize him like he’ll look class warfare in this country. I’ll ticked-off at them. Until you sell something, it’s not taxable. It said Bezos’ wealth grew by $99 billion over the four year period, but he paid a true tax rate of 0.98%.
Jeff: To be clear, that was based on his net worth, not his income.
Toby: We don’t tax net worth here, except when you die. Were those guys gotten? No, because they’re going to give it all to charity, which we’ve been saying for years. It’s like there’s trust in your charity, take your pick. All the lawyers are like, oh, well. I’m like, okay, you don’t work with people that are worried about taxes too much, are you? Or about court, voting court? Do you like court? You like taxes, do that. Otherwise, don’t.
Does the IRS allow you to defer and not take depreciation? Our group of investors do not want or need depreciation, which we’re going to have some fun thoughts about here. Can we not take it and wait to take it in the year of sale?
Jeff: IRS does require you to take depreciation. Put it this way, if you don’t take depreciation, they’re still going to reduce your basis by the amount of depreciation that you were supposed to take.
Toby: Depreciation, you may or may not take, but you must recapture. If you don’t take depreciation, you’re going to have to pay tax on it even if you didn’t. It’s great that you have investors that don’t need to take it, but you better take it. Now if it creates a loss, that’s fine when you sell it. That loss will be released and reduce your taxable sale. It’s going to be released in the year sale when you get rid of it.
Now, here’s the thought for you guys. If you have investors that don’t need depreciation means you don’t need losses. There is the ability to do unequal distributions of loss in a partnership. If you have an LLC taxed as a partnership, you may want to take your group, meet with a good lawyer and come up with two different classes of stock of partnership, ones where the losses are allocated, and one where there’s not. There should be some economic benefit other than taxes for doing that.
There should be perhaps a preferred payout or something along those lines. If I don’t need the depreciation and I’m willing to give it up, that means that the partnership is still going to take it but it’s going —Jeff needs depreciation, I don’t. He and I can enter into a partnership, where all of the losses get allocated to Jeff because he needs the depreciation. If I don’t, then I just say no, I don’t need it.
Jeff: Another thing I’ve seen is where all the business income, say it’s rental income goes to the managing member or the GP, and the investors are solely in for an equity stake. Now when we sell this property, I’m going to get my share of it. I’ve seen them also with guaranteed returns on those. They’re getting so much back every year of their original investment.
Toby: You have choices.
Jeff: It is possible to not take depreciation until the final year, it’s going to be treated the same way regardless.
Toby: You’re going to take all the depreciation that you failed to take lumped into one year,
Jeff: You’re going to have to do a change of accounting method, file that form and it may not be pretty. I really would not recommend doing this.
Toby: You want to do it as you go along and take that loss. Even if you guys don’t need it, carry it forward, it gets released the year that you dispose of the property. If you don’t dispose of the property, just keep carrying forward. What about if you die, do you lose it?
Jeff: No, whoever inherits your investment would get the loss. If they take your place, they also could get a step up and basis on that property.
Toby: We like it, then depreciate it again.
Toby: All right. How is staking crypto tax? Is it taxed twice? If it is taxed as income but I never sell it, how could I afford to pay tax on it?
Jeff: Staking is taxed a lot like money does. Staking is a lot more simple.
Toby: What is staking?
Jeff: Staking is when you do something to earn a virtual currency or a fraction of it.
Toby: You’re verifying, like when they talked about the blockchain, you’re one of the little computers that verifies that this is right.
Jeff: Let’s say you’re awarded $1 of staking crypto, Filecoin or Bitcoin…
Jeff: Yeah, Coinbase is trading Doge now.
Toby: I bought Doges out of stupidity.
Jeff: If that dollar you received is treated as ordinary income. Now you have $1 worth of that coin, that’s also your basis in the coin. You’re going to pay tax on that dollar. If you go and sell that coin for $3, you’re going to pay capital gains of $2 because of your basis. It’s $1. That’s what you receive. That’s much it was worth when you received that stake.
Toby: This is where it gets weird. It’s ordinary income to you when you get paid for something. If I give Jeff a $1 or if I give Jeff a fraction of a Bitcoin, that’s income to Jeff. How do I afford to pay the tax? The IRS and the Treasury honestly don’t care. They just say you owe tax on it. You made $30,000, but I have no money. Jeff Cookies, pay up.
That’s how they act. Your basis is like Jeff said, what you received. What if I sell it and I lose money, then I have capital losses. This is where it gets really goofy. Capital losses cannot offset your ordinary income except $3,000 a year. You could be in a situation where you’re staking and you’re making money, but you’d have to be pretty big. Let’s say you got $20,000 or $30,000, worth of staking a payment and that’s ordinary income subject to self-employment tax, so you got all these taxes owed on it, and then it crashes. You sell it and it’s worth $1,000.
You got taxed at $30,000, you’d have to figure out your cost of running your equipment and everything else to reduce the amount—let’s just say that you had expenses that offset it by about $10,000. You’re going to end up with $20,000 of income. Your basis is $30,000 and you’re going to take a loss of $29,000, which you’re going to be limited to $3,000. You’re going to have $17,000 of total income. If you follow that, you get a star.
Jeff: If you’re into crypto, you probably noticed that the past day, cryptos have been down another 10% to 20%. It’s down for a really odd reason. The ransomware—they’re getting paid in cryptocurrency. Colonial paid the Russian hackers $4.4 million. It hurt when the justice went right into the hackers wallet and pulled out $2.3 million.
Toby: How do they get into the wallet?
Jeff: I’m not sure. They are obviously very good at what they do. That has scared everybody who’s in crypto.
Toby: I thought that they couldn’t get in it. That’s why you need a cold wallet guys, so they can’t sneak into it.
Jeff: Yeah, I know. Some of the softwares has the cold wallet or vault, or those same things.
Toby: You have the actual Binance, Coinbase, where they’re actually the exchange and they’re holding your Bitcoin. Then you have an online wallet like you might have on your phone or something which is connected to the internet. Somebody can get in there. Then you have the cold wallet, you’re walking around with it in your pocket, it’s coded, and you download it in and you could actually transfer that electronically.
Jeff: Yeah, it’s important for you to keep that secured because if you get robbed of your virtual currency, it’s not deductible, as crazy as that sounds.
Toby: Somebody else is saying they found access to private keys. They have vaults, unchained and some others where you have multiple keys to a business. This was a business, the ransomware business. If somebody says, Bitcoin was in their wallet, it was in an exchange based out of California. They’re actually sitting in the exchange where all we had to do was get to the exchange. By the way, Coinbase shares information with the IRS.
If you think that hey, I’m not going to report any of that, you’re going to get a knock on your day. Hey, we know you sold a bunch of Bitcoin and we know that you traded it for a Tesla when you still could.
Jeff: It remains one of the most highly audited areas.
Toby: Somebody says, the crooks were careless with the password. I want to figure out how they got it, it’s pretty funny.
Jeff: I can see them.
Toby: They can hack an oil line but they can’t keep their Bitcoin secured.
Jeff: That group is called Dark—something but we may have some say, we got hacked.
Toby: I can’t believe the government has this, which if they’re smart enough to do this stuff, hopefully we’re smart enough to get it out of our society because we’ve been around long enough to have been through this too. I hate this stuff. If somebody opens an email and the next thing you know, you’re isolating stuff off. Some of these guys, it was an affiliate of DarkSide. DarkSide got their 15% cut. That’s why they recovered away 85%. Some of you guys know way better.
This is fascinating guys, we could talk crypto stories all day long. We’ve had folks with cold storage. You always hear about people losing it, but we’ve had two people where they misplaced it, had panicked, found it and in one case. It was a veteran who had come back and his buddy reminded him, you might want to check your device because you had Bitcoin on there. The guy was like, really? He had forgotten about it. It was over $8 million with Bitcoin. It’s funny.
Then we had an employee who had a bunch on— one of their cohorts next to them moved into the office and got his USB, like he had to figure out where it was. It was pretty funny that he’s panicking.
Jeff: I think I’ve heard almost as many who have lost their keys as they’ve been hacked.
Toby: Those are donations to the communal group. As we look at it, you lose your Bitcoin, you just you made everybody—but it’s like the opposite of the Fed. It keeps printing out more. All right. If I’m doing a 1031 exchange, can I pay down my mortgage on the sale property to avoid boot? Boot. For example, the current loan on the relinquished property is $204,000, new loan on replacement property is $194,000. I just know you want to answer this one.
Jeff: I think this is a great idea. If you have the cash to pay down your loan to keep from recognizing gain, do it. It’s a great idea.
Toby: What is boot?
Jeff: Boot is any cash and any value you receive out of the exchange. It doesn’t go into the next property. One of the weirdnesses of 1031 has to do with loans that you have to buy into another loan that at least matches or exceeds your present loan.
Toby: You trade up in a 1031 exchange. You trade across or up. If you go down on equity price or the loan, then there’s something called boot. Boot is taxable to you. The only way to avoid boot, there’s only one that I know, is if it’s a mortgage boot, you can bring cash to the table and pay down mortgage boot. In this particular case, there is a boot. It’s the difference between $204,000 and $194,000. There’ll be $10,000 that’s taxable but you can bring $10,000 to the table at closing if avoidable. You can always reduce the mortgage amount, you can always bring more cash in. If you’re walking away with cash ever out of an exchange, you’re paying tax on it.
Jeff: How does the boot work? If you get $1 a boot and say you have significant gain, […]. For every dollar of boot you have you have $1 of gain. It’s no weird percentage, it’s dollar for dollar.
Toby: All right. Can solar credits be used one to one against capital gains? The money you pay out is at least going towards a product that you own.
Jeff: No. The reason for this is a credit is a credit against tax. It directly reduces your tax. If you have a $10,000 credit and your tax is $15,000, in your net, you only owe $5,000 of tax. The other problem I saw with this is you don’t want to apply anything against capital gains. That’s the last thing you want to apply.
Toby: Unless it’s short-term.
Jeff: Unless it’s short-term and I’m thinking long-term.
Toby: Yeah. Tax credit is just like $1. Is it used one to one against capital gains? No. It’s used on the taxes owed on capital gains, and you should be looking at your rate. Like Jeff just said, if you have long-term capital gains, that’s all you’re paying tax on. Your solar credits are —usually it’s something where it’s a high tax rate.
You’re much better off, but in most cases, your tax credit is simply like, if I own $10,000, and I have a tax credit of $5000, great. It’s just used, it’s not a deduction. It’s used like cash against it. Now something to plant a seed on guys. This is pretty big in my mind, and I want to see the incentive. Let’s see if the government ever figures this out.
Right now, they’ll give you a 26% tax credit on solar installation on your personal home or if you’re a landlord on a rental home. They’ll also allow you to depreciate that same solar panel array by including the installation on a rental, but they limit your basis for the deduction by half of the credit. If your credit was 26%, you take 13%, half of that against whatever it is that you paid, and you could appreciate the rest. If you want landlords to go solar, increase the incentive. If you make it 50%, landlords all over the place are going to slap solar on all their properties.
Jeff: I’m actually holding off on putting solar on my house, because I find it hard to believe that nobody in this administration has suggested increasing this new credit.
Toby: If you want to know how Tesla gets benefit? Subsidization. They subsidized the cost of the car with the $7,500 tax credit, and they were going out like cupcakes. How does Amazon—how are they successful? They subsidize the delivery with the US Postal Service and through others. How did —they’re subsidized.
You could go through the whole list of people taking advantage of when the government says hey, we’re going to give you some incentive to do something. Right now, people aren’t acting on the 26%. It’s probably not high enough. If the government really wanted to do something where it didn’t cost them a nickel and you wanted to see a whole bunch of solar go out there, that’s how you do it.
Jeff: A lot of places will lease solar now. Unfortunately, no solar credits to hear for that.
Toby: To them, it would be, right?
Jeff: Yeah. It’s much cheaper than actually purchasing the solar yourself. It saves you some money on energy, hopefully.
Toby: We don’t know the true lifespan of a solar too. A lot of this stuff, the original solar panels put up, are still good.
Jeff: I think that one of the advantages with some of the leasing is they replace the panels as they go.
Toby: I don’t think they do go. That’s the thing.
Jeff: Yeah. I think Tesla’s making panels now.
Toby: Tesla’s absolutely making panels, and they had panels that were on roofs in Houston, when we had the big freeze in Texas and you had the failure of the electric system. They didn’t miss a beat. There’s something to be said for going off the grid a little bit on the electric side, especially when they say that the underbelly of our country is the electric grid, and that the hackers might be targeting it.
It might be time to look at it, but I wish that the government would incentivize us to do it. If it was me, I’d say hey, let’s jam this on, like, hey, we really want to spur the economy. Give us a tax credit that’s so tasty that we can’t resist and all the landlords out there will be like, yeah, I’ll put it on my property. There’s a lot of us. I would like it.
Anyway, that’s about it for today. All right. Hey, you guys. You can always subscribe to our YouTube channel. By all means, do please. Come on and join us, spread the word. Know that Tax Tuesdays are always free and anybody can join. I don’t care whether you’re an Anderson client or not, please invite other people. We like doing these.
If you like this and you like the information, go to our podcast. There’s a ton of really cool information out there. I just did another one on conservation easements, you hear in a negative sense, but we have folks that do it the right way. We have some really, really bright folks. I brought Tyler Serrato on another one that they’re doing this year. These are legitimate. There’s actually a developer, meet the developer. Part of the land they’re conserving, part of the land they’re developing, so we know exactly what their cost and the benefits are, which is what the IRS wants to see.
They do a really great job. There’s not too many people. We only had one that we approved of last year. We’ll have one that we approve of this year, there’s no others. It is because so many of them are full of poopy, that’s a legal term. By all means, go in and listen. That will be up on the podcast soon. Replays are also aired in your Platinum Portal if you’re platinum.
If you have questions you want to email in, we always grab 10 to 15 questions depending on our and how long we want to go. If we want to go to midnight, we’d grab 20 questions. We just grab whatever is sitting there and it looks juicy. Sometimes, we have a group that answers them and bets them out and says, here’s ones that are good for the Q&A and I’ll just tell you. There’s usually about 50 of them that come through and get sent over to me and I grab 10 of them, and we put them onto the slide.
By all means, we’ll still be getting to your questions. Throw them in there, maybe make the grade and you get on, get your question answered live. It’s always fun. We’re pretty close. You guys all rock and thanks for listening. Anything you want to add?
Jeff: No. I love to do this and we’ll see you next time.
Toby: Yeah, we will see you next time. I’ll stop the sharing and then say goodbye to you guys. Anyway, thank you guys. By all means, send in a question. We’ll get you answered. Thanks, guys.
As always, take advantage of our free educational content and every other Tuesday we have Toby’s Tax Tuesday, another great educational series. Our Structure Implementation Series answers your questions about how to structure your business entities to protect you and your assets. One of my favorites as well is our Infinity Investing Workshop.