From entity formation, income, and inheritance to losses, proceeds, and profits, Toby Mathis and Jeff Webb of Anderson Advisors answer your tax questions. Submit your tax question to taxtuesday@andersonadvisors.
- How does a single, high W-2 earning individual take advantage of passive losses? It’s difficult because passive losses for a high earner are going to be subject to limitations
- How are inherited stock shares treated when sold? If you inherit stocks, they are valued at fair market value now, not when they were bought due to the step-up in basis
- Should an S Corp pay profits as dividends? An S Corp does not pay dividends; it passes on profits and losses to shareholders
- Is it preferable to have a C Corp or an LLC as your holding entity? It’s better to have an LLC as your holding entity; there’s no tax treatment for an LLC
- Are proceeds received from winning a court case ($20 million) taxable? It depends on the source of the claim, as a matter of rule, and attorney fees are no longer deductible
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Full Episode Transcript:
Welcome to the Anderson Business Advisors Podcast, the nationally recognized preferred provider for asset protection and tax planning in the nation. This show is for investors and business owners looking to save on taxes and build long term wealth with Toby Mathis, an attorney, author, business owner, and a featured instructor at Anderson’s Tax and Asset Protection event held throughout the country. Enjoy the show.... Read Full Transcript
Toby: Hey, guys. Welcome to Tax Tuesday. My name is Toby Mathis.
Jeff: I’m Jeff Webb.
Toby: We are bringing tax knowledge to the masses. Welcome to Tax Tuesday again. We have a whole bunch of people on to help you today. My God, we got Matthew, Patty, Christos, Dana, Elliot, Piao, Tavia. We have a full team in the house to help answer your questions. Let me know if you’re out there and if you can hear us, say it loud and clear. If you’re having any tech problems, by all means, let us know as well. Also, let us know where you’re from, where you’re sitting right now. Not where you live, but where you’re sitting. What city, what state?
If you say semi-conscious. Somebody is in Florida, New York City, Spokane, Washington, San Diego, So Cal, Albuquerque, Maine, Redwood City, Kapolei, San Antonio, Dallas, Las Vegas, Minneapolis, Fort Bragg, Miami, Arizona, Pine Ridge, Tulsa, Washington DC (from the swamp), Lake Charles. Philly, and sitting on my butt. Redlands, California, Sheraton, Newark, Denver, Houston, El Paso. Just talking to a friend that was in El Paso, you guys are doing great down there. Clermont, Columbus, and we got Sherry in Florida, Indiana, San Jose, Long Beach.
Look at that. Patty’s in San Diego. She likes to look out over the ocean in the morning, San Francisco Bay Area. We got people from all over the place. That’s the fun part. Christine in Florida. Where in Florida, Christine. We love us a little Florida until it’s the middle of the summer, in which case we’d melt and they have mosquitoes about the size of bats. Seattle, Deerfield Beach. I lived in Seattle for 20 something years. We got New Orleans. Somebody says, oh, I never knew.
Georgetown, Texas. Right outside of Austin. That’s where Carl Zellner, one of our attorneys, grew up in Georgetown. Philly, that’s where I grew up. Some of you guys know. Philly and Seattle. I actually moved from Philadelphia to Vashon Island, in the middle of the Pacific Northwest in the middle of the Puget Sound. Then we got Las Vegas and another Aloha from Hawaii.
All right, let’s dive into this. We answer any question that you guys can come up with. You throw it up there in the question and answer. You can use chat to say hi, but if you’re going to ask a question, make sure that you’re doing it in the question and answer feature, and our folks will get on it. We have everybody from tax attorneys to I think we have CPAs on and we have bookkeepers, multiple tax professionals, and we will get your question answered. If my people are too good, I’ll never see your question.
Jeff: I know they pop up and they disappear.
Toby: Yeah. Sometimes they’re like, boom and our guys like, there’s a question. Let’s make sure we get it answered. This is your freebie. You don’t have to worry about paying anybody. We like to just give back. If you have really extensive questions, by all means, email them into Tax Tuesday at Anderson Advisors. If it’s really personal and it’s not a general question, then we may say you got to become a client.
Otherwise, we just answer and then I use the questions that you email in. Jeff and I answer those who live here every other Tuesday. What we say is fast, fun, and educational. We want to give back and help educate. I shoot for an hour although Jeff talks a lot. Jeff is like a chatty Cathy, we’ll be here until midnight if it was up to Jeff.
Jeff: Well, it doesn’t help that you have to interpret what I actually said.
Toby: Just give it a little spin. What did you say? Yes. Didn’t you mean this, Jeff? Jeff’s been a CPA for—how long you’ve been a CPA?
Jeff: I’ve been a CPA for 25 years. I’ve been in the business for about 30.
Toby: Jiminy Christmas. Just since yesterday, I bought a degree out of a crackerjack box. I’m a CPA tax attorney. We love answering questions because nobody else will talk to us pretty much because CPA tax attorneys. It’s only funny because it’s true. All right, let’s get into this. Here are the questions we’re going to be answering.
“How does a single high W-2 earning individual take advantage of passive losses?” Great question, we’ll be answering that.
“How are inherited stock shares treated when sold?”
“Is there any limit on using required minimum distributions for multiple charitable donations?”
“Could a partial RMD be taken in January and then have the charitable portion spread out in donations over the rest of the year?”
“Should an S corporation pay profits as dividends?” We’ll answer that.
“Is it preferable to have a C-Corp or an LLC as your holding entity?” We’ll answer that.
“Can a part-time W-2 employee 20 hours a week be considered a full-time real estate investor? I currently own for-rentals and claim deductions such as home office and paying my child to perform bookkeeping.” We’ll dissect that, it’s an interesting question.
“I have lived in my house since 2016. If I get married soon, do I qualify for 1031 exchange assuming my future wife never lived in the house? Also, can I buy my next primary residence first and then sell my previous one?” Interesting.
“Are proceeds received from winning a court case or a case in court, say $20 million, taxable? I’m planning on suing somebody. What if I get that $20 million? How’s it going to be taxed?” You’re not going to like the answer but I’ll give it to you.
“I need to increase my income. How should one file with multiple properties?” This is one of the weird ones, but we’ll answer that too.
“What is the process to begin issuing W-2s from my C-Corp? It’s been an inactive entity for several years, but I’m just now needing to pay a W-2 salary.” We’ll go over that one as well.
We have a lot of questions to answer. Let’s dive right into number one. How does a single high W-2 earning individual take advantage of passive losses?
Jeff: Well, it’s difficult because—
Toby: Get right to the point. You’re screwed.
Jeff: I’m wearing my black hat. Passive losses for a high earner are going to be subject to limitations. You don’t lose the losses, they just build up underneath you. If you’re into something like buying properties, that loss builds up a little, so are the gains. That can really actually work out well because every time you sell a property, any gains on that property are also passive gains since you get to offset your losses and so forth.
Toby: Let’s break it down into little pieces because Jeff is absolutely right, but sometimes we assume everybody knows what these things are. There’s active income, like when I work sweating my brow. I’m working at work, I’m a W-2 wage earner. When they say a single high W-2 earning individual, that’s your ordinary income. They’re active ordinary income subject to Social Security taxes, et cetera.
There are two other types of income floating around out there, portfolio and passive. Portfolio income are things like interest, royalties, dividends, it’s capital gains. Then you have this thing called passive income, which is rents in businesses in which you do not materially participate.
Passive income is I’m not involved in the business, I’m not doing anything, or I have rents coming in. There are two exceptions to the rents that make them ordinary. I can take them as a loss against my W-2 income. Otherwise, passive losses have to be used against passive income.
What Jeff is saying quite accurately is that if you have W-2 income that’s active ordinary income, if you have passive losses, they don’t offset. Not even the $3000 people are used to, that’s capital losses. Passive losses mean, hey, it’s rent losses from passive activities or that passive business. I gave money to Uncle Al and his pizza shop keeps losing money. I can’t use those losses against my W-2 income if I don’t work in the pizza shop in any way. I’m not materially participating.
The way you unlock those losses, there are really three ways, two ways that I’m going to focus on. Number one is you’re an active participant in real estate and you make less than $150,000. When somebody says high W-2 earning, I’m assuming they’re above $150,000. If you’re below that, you could take up to $25,000 as a loss. The other way that we talk about a lot is having a spouse who qualifies as a real estate professional. This person is single, so they’re not going to be in that category.
Jeff: Let’s go see, what are you suggesting there?
Toby: We throw that out, which brings us to the third way. The third way is you unlock passive losses when you dispose of the asset itself. If I have losses off of a piece of real estate, I’ve run across this scenario, and somebody’s like, well, it didn’t really make any money and I’m not going to sell this property. I look at him and I say, well, do you have any passive losses accumulated? Quite often you’ll have years of passive losses that have accumulated and you’re like, dump it. I don’t want to pay any tax. That loss is going to be unlocked and it’s going to offset your W-2 income.
I could sell something at breakeven and still make a whole bunch of money. Let’s say at $50,000 of carry forward losses I haven’t been able to take on this property. I’ve had it for a while, every year I get depreciation that I can’t take because it’s passive. Let’s say 10 years down the road, I’m like, what should I do? I could sell it. It’s basically a breakeven. Okay, sell it. That $50,000 loss will offset $50,000 of your income. Depending on what your tax bracket is, it could be 37% plus state taxes. It could be as high as 50%.
I probably wouldn’t do it for $25,000, which in that particular case, the highest it would be. Let’s say that I had $200,000 of losses, I might do it. You look at those. How does a single high W-2 earning individual take advantage of passive losses? It’s really tough. You dispose of the asset is the only answer I could think of, or if you’re a W-2 earning individual and you’re working part-time, you might be able to qualify as a real estate professional. Highly unlikely because you have to spend more than half of your time doing real estate activities and it needs to be at least 750 hours.
Jeff: I was going to say the other consideration is if you find an activity where you can generate passive income and you also have those passive losses in another activity, they’re going to offset each other.
Toby: Absolutely, 100%. Then Jeff says, hey, if I have passive losses, how does the single high W-2 earning individual take advantage of those passive losses? With more passive income. The old rule was if you’re paying taxes, you don’t have enough real estate. To a certain extent, we smile about it. But if you have passive losses, if I have $10,000 or $20,000 of passive losses every year, what you really need to do is go find yourself some good cash flow properties because that’s free money.
You get the depreciation from the new purchase, plus you’re not going to pay any tax on any of that income. You can go buy some mid- to low-end housing that’s cash flow positive and say, hey, you know what, if nothing else, that money, I’m not going to pay tax on it. I’m going to save that money so you could factor in that calculation. Great answer, sir.
Jeff: Thank you.
Toby: “How are inherited stock shares treated when sold?”
Jeff: Okay, I’ll do this with an example. My father died in 2008. If I had inherited his stocks—he owned a lot of railroad stock—I wouldn’t own it at what he paid for it, I would own it at the value on the day he died.
Toby: Step up in basis.
Jeff: Step up in basis. The other thing is, say, I’m Toby’s dad and I die today, Toby inherits all the stocks, and he wants to sell them. Well, first off, he’s going to have a step-up in basis. If he does have any gain or loss, it’s going to be at long term capital gain right, even if he holds it for a day.
Toby: Yeah. Because you inherit it at that holding period.
Toby: Same thing with gifting. My dad passed away quite a while ago, but let’s say that somebody thinks they’re getting older and they’re worried. Hey, I’m going to give shares to my kid. I’m thinking about transferring and I’m nervous. I heard about this Biden character and he wants to lower the estate taxes. Your accountant tugs on your fear strings and gets you to give some things over. When you give an asset, they get your holding period and your basis, when you gift it.
When you die and it transfers, they get your holding period, but the basis steps up to the fair market value. Jeff’s example, it was 2008 that your dad passed. Let’s say that Jeff inherited a bunch of railroad stocks in 2008, it would have been the basis in 2008. Let’s say his dad had almost nothing, and then Jeff holds it till today and sells it today. It’s capital gains, but Jeff only pays capital gain on the portion that grew from 2008 until now, and it’s still long term capital gains, which is 0%, 15%, or 20%.
Jeff: I want to go back to what you were saying about the gifting. I think this is something a lot of people don’t understand.
Toby: Don’t do it.
Jeff: If my father had gifted me all that stuff the day before he died, my basis and that stock would have been close to zero.
Toby: I actually had this happen with four siblings who dad got talked into by an accountant. Let’s transfer a building to the kids. They put it in a limited partnership and gave all the kids limited partnership interest, and then dad passed away about two years later. They had a building, had almost no basis in it, like $100,000 and it’s worth millions of dollars. They wouldn’t have paid any tax. The accountant caused them to pay some massive taxes. It was like, you knucklehead. I just want to push them in the nose. Will you stop making people scared in doing stupid things.
That’s even better, just wait, don’t do things with this Biden situation. I’m not talking like, hey, what could happen? Let’s do some stuff now. Just watch. We never know what’s going to come out of Congress again. Congress doesn’t know what’s going to come out of Congress half of the time.
Jeff: We’ve seen some things with that California Prop 19, some gifting that I’m not sure if it’s such a great idea. They’re trying to get out of paying taxes and also they’re gifting property away. It could turn around and bite them badly.
Toby: I think it’s going to. Somebody says they like your beard.
Jeff: Thank you.
Toby: I like your beard, sir. All right. Infinity, please come visit us. Saturday, May 15th. We got a free one. Yay. Infinity investing through stocks. This is always fun. We have Eric Dodds come on and Nicole DeBlasio. She was the number two on The Apprentice I think in year two. It was one of them. It was a while ago. She got fired right at the end. Awesome person, does a great job with Infinity. I birthed this child out a few years back and it just keeps growing up. Then the real estate side is in the afternoon.
It’s a one-day class but it’s stock in the morning, real estate in the afternoon. It’s a lot of fun. It’s free. You can see right there, claim your free ticket. Come on in and join us and learn how to get rich slowly, surely, and tax advantagely (if that’s a word). There’s your link, you can go do it. Let me see if I’m missing anything. Look at all these questions that came in.
Jeff: Holy moly.
Toby: Yes. Poor accountants. Let me grab one. “The Solo Roth 401(k) is for a sole proprietor?” No, you could have a Solo 401(k) for any business that has less— basically, it’s partners or spouses that are the owners in a business, but it could be an S-Corp, C-Corp, LLC taxed as a sole proprietorship, sole proprietorship.
Somebody asked, “Does the stock basis still work if they are in a trust?” Yes, if it’s a living trust. If it’s an irrevocable trust—when I say irrevocable, it means if it’s buying the asset, it would step up. We use those in deferred sales trust. It’s a little more complicated than I want to get into with a few 100 people staring at me, or 400 people staring at me because I’m like, I don’t want you guys to get the wrong idea. But if you have really highly appreciated assets and you want to stretch it out over 20 years or 30 years and you want to sell it, there’s a way to do that where you’re not paying any tax now.
Somebody says, “What is the best for a new realtor: sole proprietorship, LLC?” Christine, the answer is going to be, more than likely, an LLC taxed as an S-Corp or an S corporation because the S corporation—I know there’s a question coming up on this—does not pay the self-employment tax on its profit, as opposed to a sole proprietor who does. Plus you can have an accountable plan in an S corporation and reimburse yourself a lot of things that are not available.
Somebody says, “As a married couple, does the $500,000,” I think, Laurie, you’re referring to the 121 exclusion, the capital gain exclusion for your house when it’s sold, and it does. It’s per capital gains on a personal residence that you lived in two of the last three years. There are a couple of exceptions to the two-year if you got moved, I think if you’re a military or if you—
Jeff: Two of the last five.
Toby: Two of the last five. But if somebody lived in it one year and they were forced to move in the military or forced to move, otherwise, you could probably get half of it or a proportionate amount.
Jeff: Yeah, there are specific rules for job relocation.
Toby: We say two out of five, and it’s not the last two out of five, it’s two out of five. It could be a personal residence for two years, then you make it into a rental for three, and then you sell it, you could still have the capital gains exclusion.
Somebody says, “If the capital gains rate were to be raised, what would be some of the ways to limit the tax increase?” Don’t sell it. Do you know you could borrow against Bitcoins now? I was this many days old when I learned that, but they’re starting to do lending against Bitcoin, so you don’t have to pay tax. I thought that was pretty neat.
The way you do it is you either gift it to a charity. You don’t sell it, you use it to leverage. For those of you who have a blue chip portfolio, you could do what’s called a securities-backed line of credit. So if you need cash and you think, I’m going to sell some shares, don’t sell your shares. If it’s going to be in a high tax bracket, you could borrow against it and it’s free.
Next question. I’ll read them off all day long if you let me. “Is there a limit or any limit on using required minimum distributions for multiple charitable donations? Could a partial RMD be taken in January, and then have the charitable spread out in donations over the rest of the year?”
Jeff: This is actually a really interesting question. There is no limit on how much you can use RMDs for charitable contributions. However, there are a couple of rules that come into play. It has to be a direct contribution from your retirement plan to the charity.
Toby: In a normal year, this matters. This year and maybe next year, I can’t remember if the 100% AGI is—I think it’s this year. It doesn’t matter because normally, I can only give cash of 60% of my adjusted gross income. If I have an RMD of $20,000 and I only have, let’s say, $5,000, of other income, so I have $25,000 total. I’m just talking about taxable income. You may have other assets. You may have other things, but I only have an income of $25,000. I would be limited to 60% of the $25,000 if I gave cash directly to the charity.
If I do what Jeff is talking about, there’s a—what is that, $100,000 a year I can give to charity directly from an IRA? I forgot the cap, but I could give that $20,000 required minimum distribution directly to charity, and I don’t have to worry about the 60%.
Jeff: Another thing to keep in mind is RMDs are considered paid from the first distributions. He’s talking about taking partial RMD in January. That’s going to be an RMD payment, and you cannot later go back and reclassify that as an RMD distribution.
Toby: I just don’t think it would be a…
Jeff: I don’t think it’s going to be a big deal.
Toby: I don’t think it’s going to be a big deal because you have 100%. You take it as an RMD and you want to give it to charity and you just give it to charity. You have 100% that you can write off of tax.
Jeff: The other issue with this is if you take RMD distributions but you’re still contributing to your plan, your IRA, or whatever, it can nullify that.
Toby: It can?
Jeff: It can nullify that. We don’t want to do that.
Toby: You don’t want to have charitable giving and then also put more contribution?
Jeff: Put more money into that.
Toby: They don’t like that. That’s why you talk to your accountant first. Run your scenario by the accountant before you do it. If you’re thinking of taking RMD, they can give you the rules. Like Jeff would say, have it go directly from the IRA or 401(k) directly. They were asking questions from earlier but I’ll go back to those.
Jeff: The same thing if you’re contributing stocks to a charity. Do not sell those stocks, donate them directly.
Toby: All highly appreciated capital assets, you should consider giving them directly to the charity because you get a deduction as fair market value if you held them over a year.
Jeff: You don’t have to recognize them as income. Get the deduction without the other side.
Toby: This is another one here. I’m reading too many questions. I will read this one. “Should an S-Corp pay profits as dividends?” I was just going straight past. Blowing right by it.
Jeff: An S-Corp does not pay dividends. An S-Corp passes its profits and losses directly to shareholders. You are taxed on the S-Corp’s profits and losses, whether that’s paid out or not. I know Toby’s going to give us an example here.
Toby: A C-Corp, corporation pays on net income. They’re going to pay taxes. In an S-Corp, it passes it down to the shareholders. That’s number one. Whether or not you distribute it, it’s being taxed down. If that S corporation, let’s say an S-Corp, makes a net profit of $500,000. It distributes $100,000 to the shareholders. How much tax does that shareholder pay? How much income, I should say, is allocated to that shareholder? The answer is $500,000, whether you take the distribution or not. It’s just income to you, so it doesn’t matter.
The cool part is that if you take a distribution, only part of this is going to be salary. I say about 1/3. The IRS, whenever they go to Tax Court, says 1/3, but in the actual rule is a reasonable salary. I should point the arrow in the other direction. That just means that ordinarily, if I’m a sole proprietor and I make $500,000, I have $500,000 of self-employment income.
This is really important because the Biden proposal is to have self-employment tax come back into play after $400,000. There’s a phase-out at $140,000 on a big chunk of that. The old age, disability, survivors, and hospital insurance portion is 12.4%. It phases out right now at $140,000 and he wants it to come back at $400,000.
You’d have 12.4% on the first $140,000. You’d have another 12.4% on the $400,000 to $500,000, and you’d have 2.9% on the whole thing, that’s the Medicare portion. Versus if I had this same scenario, I would have about, let’s just say $40,000 of salary or $33,000. I’m just going to use $40,000 because it’s easier for me to do the math. Then I’d have $460,000 that is not subject to any of that Social Security taxes, which would save me—I don’t know the exact dollars, but I would guesstimate—over $20,000 a year in the tax savings, just by having it as an S-Corp.
Now, C-Corp, same scenario. It makes $500,000, but it pays me $100,000. Same scenario. If the C-Corp just keeps the $500,000, it’s going to pay tax on $500,000 at 21%. They’re talking about increasing that to 25% or 28%. My money is on that’ll go up to 25% when it goes to Congress.
If I paid out $100,000 and in the same scenario, $40,000 was W-2, $60,000 was dividend, the numbers get a little wonky. You’re actually going to have, again, $460,000 of profit taxed at 21%, and then you’d have $60,000 taxed as long term capital gains to the recipient. I’m not going to do the math, it’s 36% on those dollars. You’re not getting hurt by the double tax, but it’s still there. Isn’t that fun?
“Can profit from stock activities be offset by a passive loss from real estate?”
Jeff: No. The reason is passive losses can’t offset non-passive income.
Toby: Yeah. Not only does it not offset ordinary income, but it does not offset capital gains. Your stock activities are capital in nature, so they’re capital gains.
Jeff: Yeah. If you think about it, you want your capital gains to be the last thing you offset because they are at the lowest tax rate that you pay. If you’ve got the $25,000 that we talked about for active rental or real estate, you’re going to apply that against your wages and other earned income that you’re paying a higher rate of tax.
Toby: Somebody says, “Does the two of five years counted to specific days or just sometime during the year?” It’s actually days.
“We decided to turn our long term residence into a rental on May 1st, 2018, and moved a tenant in over the Memorial Day weekend. Is my window almost closed?” Yes. It’s going to be really hard to get it back if you let it close. What is it? Two years, one, two, three. Yeah, you’re really close. May 1st, yeah. They need to be gone by this weekend. That’s just for the 121 exclusion.
Mike, you could still make that a 1031 exchange at any time you want to. If you want to sell that property and not pay tax on it, you don’t have to do the capital gains exclusion, you could do the 1031. What you lose by doing that is a step up on the capital gain side. Ordinarily, if I could do a 1031 exchange and a 121 where I step up the basis by the amount of the capital gain exclusion on the property. If I bought a property let’s say half a million dollars, I sold it for $2 million, but I have $500,000 of capital gain exclusion.
What would happen is I could 1031 that $2 million, my basis would step up to a million because I take my $500,000 capital gain exclusion and add it to the basis. My new property would have a basis of $1 million instead of $500,000. I’m sorry, I didn’t mean to get into that much detail on a simple question. Let’s jump on. I just get excited about stuff like that.
“Can I still make a contribution to a Roth IRA or Solo 401(k) for 2020?” Yes.
Jeff: You have up until May 17th.
Toby: Yep. You still can, but you’re getting close. But you can. Actually, the Solo 401(k), if you’re just doing a traditional Solo 401(k), the employer contribution can be made all the way up until the tax return is filed for the employer and you. You could go all the way until September 15th. If you have a regular old Solo 401(k) and the employer wants to make a 25% contribution for whatever it paid you last year, it certainly can. Same thing with SEP. Same thing with SIMPLE IRAs.
Jeff: The other change is you can still create that 401(k) plan.
Toby: Yeah. The change under the CARES Act, you can do that. The other one is you can go all the way up until October 15th, I believe, with a SEP-IRA. If you’re somebody who doesn’t have a retirement plan and you have an S-Corp or a sole proprietor, you can still do some stuff. You can also do the HSA up until May 17th. There are some ways to lower your taxes still for the last year. Is it preferable to have a C-Corp or an LLC as your holding entity?
Jeff: My opinion is it’s better to have the LLC as your holding entity. You hear C-Corp holding companies, but they are typically holding other C corporations.
Toby: Yeah, this is a really good one. First off, LLCs are not a tax standpoint. A lot of you guys know this. I always say that we can make fun of people. If they’ve been on this Tax Tuesdays before and they know this, we always say we’re allowed to make fun of you. There’s no such thing in the tax code as an LLC for tax treatment. There’s no tax form for an LLC. It’s an LLC, it’s a state entity, and then it says it’s either disregarded, taxed as a partnership, S corporation, C corporation, trust, whatever. You’re letting the IRS know what tax form you’re going to file for it.
You could have an LLC taxed as a C-Corp, you could have a C-Corp taxed as a C-Corp. When you talk about a holding entity, I’m thinking of the way we refer to a holding entity. It’s an entity holding assets, and those assets are almost always subject to capital gains. I don’t want to turn capital gains into active ordinary income by putting them inside of C-Corp and forcing them to be paid out as a wage or as a dividend where it’s taxed at the corporate level and as the individual. We would say make it an LLC that is a pass-through LLC, more likely than not, it’s going to be a partnership.
Jeff: One thing I don’t think we’ve ever talked about on here is, why have a holding entity at all?
Toby: The holding entity is a fancy way of saying a safe, and there are a few different ways to look at it. A lot of folks think of an entity like I have this coffee cup, and it’s to protect the coffee from something that’s attacking it from the outside. Or better yet, this is to protect me from the coffee burning me. I have coffee, so sorry. I’ll pretend it’s tea. I’ll pretend it’s tea so nobody yells at me. Let’s say this is a hot beverage, hot water and I don’t want it to burn me, so I put it in this nice little vessel. That’s an LLC.
Let’s say you have a risky asset like a single-family residence where the tenant could sue you, something bad happens, they sue you. Well, it’s in a nice vessel to protect that LLC. But on the same token, somebody may want to take my coffee cup, and in some states, they can’t. The most they could ever get is a lien against my coffee cup. I still have my coffee cup. I could still drink my coffee, but they can’t take the coffee cup from me, which in California, I could take your cup.
The holding entity is a fancy way of saying, hey, let’s just grab all of our coffee cups (for lack of a better word) and put them in one case. In that case, nobody can take it away from us. Also, from a tax standpoint, we can have that one case, the holding entity taxed as a partnership, and it reports all the activity that occurs inside it. I could have 100 LLCs being held by a single LLC and file one tax return for federal income tax purposes. I could report it all and take that one end item and report it on page two of my Schedule E. I’m like, yay. I just saved myself. Why would I do that?
Well, because on page one of your Schedule E—this is probably deep—if you’re applying for mortgages, they’ll use 70% of your income on page one, whereas they’ll use 100% of your income on page two. If you normally report all of your rentals just right on your Schedule E, so you have 10 pages of Schedule E on your 1040, and you feel good because you’re like, look at all my properties because it’s three per schedule.
If you were going in for a loan and you wanted to lever that at all, they’re not going to use all of your income. They are going to use 70% of that amount as opposed to, if I have it all going on to page two, I get 100%. Then the only way you find that out is you have to go to it. Somebody says, “Is the Biden administration—can the tax law go into effect on the beginning of 2021 or after the date?”
Jeff: That’s really an interesting question and how far back they would go. I can’t see a tax increase point retroactively.
Toby: No, it’s a taking. They can’t do it if it’s going to hurt you. In theory, they could try but no.
Jeff: It would raise quite a stake.
Toby: Yeah. They would lose in court, I believe, because they can’t go and hurt you retroactively. I’m trying to see if there was another really good question. There we go. “Did you say that if someone owns stock, they could borrow against it if they don’t want to sell it such as blue chips?” Yes. It’s called a securities-backed line of credit, Laurie. They’ve been around for a long time.
All right, next question. A lot of people don’t realize it, but you have to have a blue chip portfolio that’s not going to be going crazy and balanced and they will give you a loan. The last time I checked, it was LIBOR plus 75 basis points, so they were really low. There was a time when they were below 2%, and so people were like, I’m going to lever this. I’m going to pay off my interest rates. I don’t know what LIBOR is right now.
If somebody knows it, maybe they could share it. Share it in chat if you know what the LIBOR is, but it was always pretty darn low. Your major brokerage houses will do it. If you have a million-dollar portfolio, they’ll probably let you borrow $700,000 off of it to see if anybody knows. Sometimes, somebody pops in and gives us a great answer. We’ll hope and pray maybe somebody knows.
“Can a part-time W-2 employee 20 hours a week be considered a full-time real estate investor? I currently own for-rentals and claim deductions such as home office and paying my child to perform bookkeeping.”
Give me the year, Chris. The three-month LIBOR rate is 0.18. One year is 0.28. Jiminy Christmas. You’d have a really cheap loan off of your stock, six months 0.22. Anyway, that’s crazy.
“Can I use funds from my Roth IRA to purchase a property?” Yeah, inside your Roth IRA, you could. Absolutely. Carla, it’s called a self-directed IRA and you could absolutely do it.
Somebody says, “It’s going away for good. David Hall says it’s going away for good, the LIBOR on 1/1/2022.” You got to see what they’re going to base it on otherwise.
Somebody says, “For a Nevada personal residence, I’m going to put it in a living trust. Is that enough for protection?” Lisa, you have a homestead exclusion in Nevada of $575,000. It depends on how much equity you have, it might be fine.
Okay, let’s go back. I’m losing my mind. “Can a part-time W-2 employee 20 hours a week be considered a full-time real estate investor and claim deductions?” Jeff, what do you think?
Jeff: We actually have two different things going on here. When we talk about a part-time employee working 20 hours per week, if you’re working on your properties more than that, say 21 hours a week, you can possibly claim the real estate professional. However, to do the home office, pay the child for bookkeeping, you don’t need to be a real estate professional.
Toby: You’re absolutely 100% correct.
Jeff: You may not be able to deduct it because of passive loss limitations, but you can still have those deductions on your rental properties.
Toby: Jeff, I think what you’re saying is, on the rental properties, isolate them in their own LLC. Maybe have a corporation or an LLC taxed as a corporation being the manager, do your home office out of that.
Jeff: That’s absolutely the best place. If it’s administrative type things like the book, especially the bookkeeping, the administrative office, there are others that we talk about, that’s the better place of doing a new corporation, and then you can offset other income. You’re going to pay a management fee from your rental properties directly to the corporation that is managing them.
Toby: I might pay the child out of the LLC that holds the real estate so you could avoid the…
Jeff: That’s a good point. FICA, Medicare.
Toby: Yes. The employment withholdings aren’t required when you pay a child out of a sole proprietorship, they are when you do a corporation. Still, it’s great because you can pay a child, even if they’re dependent, $12,400 this year and not pay any tax on it. Well, actually, it’s a little higher than that. Last year, it was $12,000.
Jeff: Was it $12,600 this year?
Toby: I think it’s $12,550 or something goofy, but it’s more than $12,000 that you could pay on them, and then they could put money into a Roth. They never paid tax on the money, they never have to pay tax again on that. If they need the money, they could take it out. It’s not penalized if you just take the money that you put in out of a Roth. It’s only on the growth of the Roth that you have to be careful of.
But that home office, you could take an administrative office in your house, which in our experience is worth about 15% to 20% of whatever the costs are for maintaining that home including the mortgage, the property taxes, if you have somebody cleaning the house, if you have utility bills, all that stuff gets lumped in. You get to take a percentage. It’s way different than a home office deduction that you’ve heard of with sole proprietorship, but it’s where you’re doing administrative services. Then with that job, you’re going to get some pretty bang for your buck and you don’t have to worry about it.
But yes, you could be considered a real estate investor without even hitting a time requirement. If you want to be a real estate professional, where the losses are unlocked and offset your other ordinary income and your capital income, then you have to be 750 hours and more than 50% of your time on real estate activities, development, construction, being a realtor, et cetera. Then your for-rentals, you’re going to have to be a material participant with them.
You aggregate those together on your Schedule E. You’d have to make an aggregation election. You’d elect to be a real estate professional on your Schedule E, and either yourself or a spouse would have to meet the 750-hour, 50%, or more test. Even if you’re part-time, if your spouse could qualify, they could also, and then you have to materially participate on your for-rentals, which there are seven or nine different tests. I forgot which one it is, I think it’s down to seven now. I keep saying nine but I think it’s down to seven different tests.
The easiest one is if you self-manage, you don’t have to worry about time. If somebody is managing them for you, then you just have to do 100 hours a year and you’re going to be fine. That probably blew some other people away with it. Sometimes we talk fast.
“If paying a child for bookkeeping, do you have to issue a W-2?” If they’re being paid through the corporation, yes. If you are not paying through the corporation, out of the sole proprietorship, I can’t remember.
Jeff: Yeah. You still have to issue a W-2.
Toby: There’s just no withholding. You’re doing the W-2. If you’re doing bookkeeping with Anderson, we do them. For one individual, it’s $199 a year for four different payrolls, so quarterly payroll for one individual. If you have two to three I think it is. I know for two, I think it would be $499. Or you just go through one of the payroll services online and just do once a year if they’ll allow you, or go to a Payroll City or something and run it yourself and pay them. There’s no withholding, so you could do that. You can save yourself a lot of time and energy.
“Administrative office claim, do you have to give yourself 1099?” No, it’s not reported as income under 25 CFR 1.162. I know it’s the Code of Federal Regulations, and it might be 1.62, I can’t remember what it is. Basically, I could give you the site if you need it, but anything that’s part of an accountable plan is excluded from withholding and from self-employment wages.
If Jeff is an employee, he brings in doughnuts, and the company reimburses Jeff, he doesn’t have to report it anywhere. As an employer, I just write off the doughnuts. This is no different. If Jeff has an administrative office and I say, hey, Jeff, you’re doing all your administrative services in your house, I’m going to do a calculation as to his depreciation. How much of that house I am using as the employer for my benefit, and I’m allowed to reimburse him.
Most employers don’t, but let’s say, I reimburse Jeff $5,000 a year for the administrative office in his home. He would not have to report that anywhere. As an employer, it would just be an employee lease expense.
Jeff: Keep in mind, you don’t have to own your home to do this. Rented property, the property that you’re renting to live in, also qualifies for this.
Toby: Absolutely. Somebody else says, “Administrative office. If I do construction or repair works specifically for the designated area, can I put it against the business rather than treat it as the 15% or 20%?” Yes, Doug, there’s a direct expense. If I fix up the office, I painted, or I installed electricity and stuff like that, that’s 100% deductible, I can reimburse you. Otherwise, let’s say I have 20% of the usable square footage in the house being used by the employer, then 20% of all your expenses associated with your home, I could reimburse you. Again, you don’t have to report it. That’s why we like the administrative office.
It’s not that form, that self-employment home office form that you use as a sole proprietor, which I think is a gaping red flag. They say, there’s nothing that tells you that. Well, there’s no data on it, but we know that sole proprietors get audited 800% more often than their brethren. It’s like, something’s causing it. How do they know? Probably this.
All right. Somebody says, “If I did an IRA to Roth IRA conversion at the end of 2020, can I still decrease that amount before I file my personal return?” They didn’t file the tax return on the Roth conversion. I don’t like the Roth conversion if you’re making a lot of money. That’s number one.
Jeff: Yeah. The Roth conversion is not subject to any of the CARES Rules, the extended repayment, or anything. There’s no favorable treatment. Also, with the 2017 Act, they did away with re-characterization. Whatever you converted from an IRA to a Roth in December is going to be taxable for 2020.
Toby: Yeah. I don’t think you can undo it, can you?
Jeff: No. Re-characterizations are gone.
Toby: What if they haven’t filed their tax return?
Jeff: It doesn’t matter.
Toby: Still? All right, “As a real estate professional, can you count the time you spent on bookkeeping and education or just the time you work on the houses? Do you need to keep a detailed log?” Number one, yes, you have to keep a detailed log. Number two, for the first half of the real estate test, you can use whatever you did on real estate. If you rent a construction company, you can use all your time involved in the construction, whether or not it involves your home or not, and/or your properties.
The problem is when you get into material participation, you can’t count bookkeeping, looking around for properties, or any of that. It’s the actual management of your properties. That’s why it’s a lower hourly requirement, and we grab both spouses to apply. If both spouses are helping manage properties, it’s 100 hours cumulative between the two of you, by the way, or if you’re self-managing, you don’t have to worry about hours at all.
All right, we’ve answered lots of questions. If you have more questions and you like this thing, please check us out on social media. We have Instagram, Twitter, YouTube, LinkedIn, Facebook, and I think Jeff does TikToks with his parakeet and his—you have 15 cats?
Jeff: And the talking bird who thinks he’s a chimp.
Toby: All right, you’re going to make this one. Wow, you really aren’t going to make this one out. All right. Yeah, we probably did. All right, let’s go on. Why are you guys giving the hatred? I feel the hate. I’ve been always nice to you and now you’re giving me rations?
All right. “How do you declare an administrative office?” You just reimburse yourself. You just have to have an LLC tax as an S-Corp or a C-Corp that can reimburse you.
All right. “I lived in my house since 2016. If I get married soon, do I qualify for a 1031 exchange assuming my future wife never lived in the house? Also, can I buy my next primary residence first and then sell my previous one?”
Jeff: If it has only been your primary residence, you don’t qualify for 1031 at all. I think he meant 121.
Toby: I think he means 121, the capital gain exclusion. If you lived in the house two of the last five years is your—somebody says, “they’re being nice now.” I’m just pushing back on you, Sherry.
Jeff: You must’ve looked sad.
Toby: I do look sad today. No, Sherry, you’re my bud. You can never hurt my feelings.
“I have lived in my house since 2016.” They’ve been in that house for 15 years. The rules for 121 exclusion are, I lived in it. They’ve been in it for five years. Well, he’s been in it. It depends on whether the spouse has been living with them, but it also has to be in their names. If you’re married, they’ll attribute the ownership portion of that. There’s the lived-in portion and the ownership portion.
If you don’t think this is important, in divorces it’s really important. They attribute it. Just because you got married doesn’t mean you get the $500,000 exclusion, only one of you would meet the ownership and the lived-in requirement so you’d get half of it, you’d get the $250,000.
“Can you buy another primary residence?” Yeah, you have two of the last five years. If you’ve lived in your home, you’re going to get married, and you buy a new home, you’re going to get your capital gain exclusion on the property you lived in, assuming that your future wife did not live there. If she lived there for the last two years, then I believe you’d both be able to qualify to get the full $500,000. You could take the 121 exclusion anytime in the next three years. But if you buy a new house and sell it, you can only take this exclusion once every two years.
You lived in it for five years. Let’s say you buy a new house, you sell in the year 2024, you take the $500,000 exclusion and then you sell the new house. In 2025, you wouldn’t be able to take the exclusion on the new house, even though you met two out of the five years simply because you can only take that exclusion every two years. You got to be a little careful on it, but somebody can math that out.
Jeff: Yeah. This really does sound like a mixture of the 1031 and 121. 1031 is being the light exchange, which only applies to investment real estate. 121 only applies to principal residences. We have talked about where you can combine the two, but you have to have both parts to make it work.
Toby: 100%. This is fun. “Our proceeds received from winning a case in court say $20 million taxable.”
Jeff: I’ll say it depends. It does depend.
Toby: It’s taxable as a matter of rule. It depends on the source of the claim, and as a matter of rule, as matter of course, it’s taxable too. And it gets worse, attorney’s fees are no longer deductible as a miscellaneous itemized deduction. You could be, I get a big win for punitive damages. I sue company ABC for bad faith or something and they defamed me. I got a $20 million verdict.
Not only do I have to pay tax on $20 million, but my attorney who’s going to walk away with probably 40% of that, they’re going to walk away with $8 million, you can’t deduct that. You’re going to pay tax on their $8 million too.
Jeff: Are any of the circuits allowing you to bifurcate this payment?
Toby: They’re trying. The circuits don’t care. What you have to say is, you pay my attorney separately in my award. We don’t know because they call it a pseudo-partnership. If it’s a pseudo-partnership, it’s still a miscellaneous itemized deduction to the one making the payment. You could try. I don’t think there’s been a case yet on it. If there have, I don’t remember.
Jeff: I think I’ve seen in the past where some of the circuits are more lenient towards that, some of the circuits are not. That’s tough. The other exception is payments for medical are not taxable.
Toby: It’s medical and pain and suffering. If I have pain and suffering, I get a $20 million verdict because I was pinned by my car. Somebody slammed into me and they had to use jaws-of-life and pull me out. I had these injuries. There’s going to be portions of it that might be lost wages. There might be a portion of it loss of consortium to espouse, portions of it where it’s pain and suffering, portions of it is where it’s punitive, and each one of those is taxed slightly differently into different individuals.
For example, if I have lost wages, I may even have withholding on it. If I am given an award of pain and suffering, that’s one of the exceptions for the IRS to say that you don’t have to pay tax. When you’re negotiating your settlement, you really need to have your attorney and your tax advisor communicating because it could make a big difference. If I have a $20 million verdict or judgment in a settlement, let’s say that I enter into, and I’m going to owe 37% possibly what might be 39.6%, plus I owe the state, I could be as high as 50%.
Let’s just say this is in California, I could be looking at owing $10 million on that judgment. I pay my attorney $8 million. Start doing the math. I got $20 million, I gave my attorney $8 million, and now I owe $10 million. I’m going to net $2 million out of that $20 million.
Jeff: Let me ask you, does the defendant care how this money is allocated?
Toby: Not really. It depends on the insurance policy and whether it’s deductible. But generally, as a matter of course, no.
“The person awarded the decision could end up with less than 20% of the total as you describe, correct?” Yes. Absolutely and I’ve seen it. It’s not like it’s unusual. It happens all the time. It’s happening a lot now because you have all the—like in my neck-of-the-woods, you have personal injury lawyers all over the place. You’re going to have a portion of it that’s going to go back to experts. A portion of it is going to be attributed to doctors.
It depends on what your agreement is with your attorney. They may be saying, hey, I’m entitled to gross. They may say, I’m entitled to the gross net of costs and fees. It may be that they ended with an agreement that says we’ll never take more than you. But then arguably, you might get […] with the tax on it. That’s an IRS issue. I don’t know how hard you’re going to do it.
Somebody says, “That doesn’t make any sense. The attorney’s fee would be taxable income to the attorneys, so the client has to pay tax on the entire award and ⅓ of the award for being taxed twice?” Yes. That’s because the miscellaneous itemized deduction went away, Greg. In 2017, the Tax Cuts and Jobs Act did away with it. It’s gone. You can’t write off and deduct your accountant fees either. Anything you pay your accountant or your attorney, you don’t get to deduct unless it’s through a business. Then in that particular case, what attorneys are trying to do is say, hey, pay me separately.
A good attorney is going to say in the settlement agreements, you’re paying for my cost. But the IRS could still say, I’m paying a bill for Jeff to his attorney and I don’t know how that’s going to be treated. It could be really rough. That’s one of the things I get mad at in my profession, so I guess huge.
Jeff: Even when they give you the guarantee, we will not take more than 40%. If you read it closely, it says 40% plus out-of-pocket cost, which can be substantial.
Toby: Yep. Somebody actually wrote here that there’s Medicare payment out of a judgment as well. She could end up owing more than the net to her.
Toby: Isn’t that well?
Jeff: Just keep her money.
Toby: Yeah. Anyway, let’s not keep crying about that. We actually saw that happen to a guy and it was a huge deal on an estate where they were settling it out and unbeknownst was the tax implications. We just tried. I said, hey, I don’t know the answer because nobody does. The tax law just changed at the very end of 2017, really 2018. I haven’t seen much on it. I can’t see the IRS having the time and the wherewithal to sit there and attack this, but I don’t know the answer off the top of my head.
Speaking of answers off the top of my head, I just grabbed the Amazon page for Infinity Investing. We published it on the 13th, and it’s the number one new release in financial services. I think we’ve only gotten five-star reviews. It’s better than we suck. What we do is we pay you if you don’t leave a bad review. That would drive Piao crazy. He knows why. He would go, good.
Somebody says, “Toby’s book is so good.” I appreciate that, Joe. We like any positive comments. All it is, again I always say we’re the barber and we want your hair to grow, Jeff. We sell the hair cream that makes your hair grow so we can trim it for you. We want it to grow a big lush mane so that we can always cut your hair because it’s hard to have tax problems if you don’t have money problems in the first place. Meaning, too much money. We need to get there.
Personal entity case is paid by the hour out there. It’s the best way to go if you have the funds to pay. Write off legal and get maximum gain. You don’t have to pay the contingency. I don’t know if you’re going to get the write-off the legal even if it’s hourly because miscellaneous itemized deductions are gone.
“I love the new book.” Thank you. That’s worth kudos. Lisa, thank you. They all make fun of me.
“When is the audiobook coming out?” There is an audiobook. I don’t know when it’s released. Patty might now.
“Did you send a text?” Sherry, I did respond to your kids. If that’s the same thing.
End of the month, the audiobook’s coming out. That was annoying dealing with the audiobook.
“I read your book already. It’s great.” Thank you, thank you very much. Share it with somebody else.
I always say this, but if you send Patty a picture of yourself with your book with a smiling face, we’re going to aggregate those eventually and throw them up on the site. If you’re willing to do that, we’ll send you a signed copy for free. You can gift yours and then you’ll have a signed copy. We like signed copies of things. I still have a Robert Kiyosaki signed Rich Dad, Poor Dad that I keep right behind me on my desk. It had a pretty big impact on a lot of people.
“I need to increase my income, how should one file with multiple properties?”
Jeff: I don’t even know where to go with this one.
Toby: I think he means, I need to show more income on my tax return, how should I…
Jeff: Okay. I was going to say charge more rent. I think that goes back to what you were talking about earlier with page two of Schedule E, running it through a partnership, an S-Corp, or something. You don’t want to do it in a C corporation.
Toby: You want to not do all of the strategies that we teach you. If I want to increase my income and I have multiple properties, I want to make sure that I’m not taking accelerated depreciation. I am using standard […]. If it’s a rental property, I’m just taking a 27.5-year appreciation. I’m not accelerated if I have something that might be in a safe harbor to treat as a repair as opposed to keep treating as a beneficial improvement.
I would depreciate that as opposed to taking the deduction now. I can’t do anything illegal, but I can choose to stretch out the deduction on pieces of that property so that my income goes up if I have to. That said, if I need to increase my income, how should one file? You’re not going to be trying to maximize and shorten out that depreciation. Frankly, you may want to buy some more, if you want to increase your income.
Jeff: We’ve had clients who have not wanted to report deductions because it makes their income too low. There’s no requirement that you report all your deductions. However, that does have a cost, on the other side, you’re going to pay more tax.
Toby: You’re going to pay a little more in tax, but if that’s what you need to qualify, it’s really important that you talk about this with your lender and find out what the number is. If they tell you that you have to meet $100,000, I might sandbag it for $5000 if it means I qualify for a loan in that particular program. Like Jeff says, you’re not required to depreciate your property. You’re required to recapture that as though you did.
If you’re going to 1031 exchange and you’re never going to sell the property anyway, you might say, I’ll skip a year. I have a $10,000 deduction I could take. I’m not going to take it because I want my income to look better. Great, I suppose I could accelerate that later.
Jeff: That’s also a case where you might want to capitalize on things that were more likely repairs.
Toby: Yeah, like if I fix my roof, I have a choice. Do I want to write it off as a repair like I fixed it or did I improve that and I write it off over 27.5 years? I can just choose.
You guys are funny about the books. I love people who like their books. I’ll write something nice if it’s for kids. If it’s for you guys, I might do that too. But if it’s for kids, I like to be snarky with them. Somebody was like that with me and I always remember that stuff. They write me little things that are kind of quirky and I’ll remember them. If they just say, good luck dude. Then I pretty much just be like, you’re a goober.
“What is the process to begin issuing W-2s from a C-Corp? It’s been an active entity for several years but I am just now needing to pay a W-2 salary. I need to start issuing W-2s, which means I need to start issuing payroll.” What if you need to start paying out a salary?
Jeff: You could do it yourself. I don’t always recommend it. I preferred using one of the payroll companies.
Jeff: Paychex, there’s a couple out there.
Toby: Wells Fargo.
Jeff: QuickBooks has them.
Jeff: You’re going to need to do that. You’re going to have quarterly tax reporting. Depending on how much you’re paying yourself, you may have tax payments that are due every other week, after every payroll, or it might only be due monthly. There’s a lot of rules that go in that. The nice thing about using a payroll company is you tell them how much you want to be paid, they do it, they take care of all the taxes, and so forth. I’m with ADP, they take care of my Workers’ Comp, my insurance, and so forth.
Toby: Use a payroll service especially depending on how many employees you have. I’m going to give you guys a rule of thumb and you get it from no place else. This is my experience. If you have one or two people or just family members, by all means, do it internally. I would end up doing it on a quarterly basis. There’s no federal requirement to do it on any set period. States will say every two weeks if it’s non-related parties. If it’s just family members, just do it quarterly.
If you have non-family members or it’s more than two or three, use something like Insperity or a professional employee organization, and here’s why. Insperity is one that I like, they’re huge. They’re partners with United Healthcare. You will get access to health plans and to the experience for unemployment, which is actually a huge deal in most states is how much they charge you for state unemployment, as though you are a huge employer. Because they’re going to lump you in with their—if it’s not millions, I’d be surprised, millions of employees nationwide and you’re going to get that buying power.
You’re going to pay them a percentage. In my experience, it’s usually like $800 or $900 a year, maybe $1000 that they’re going to make per employee. But now they’re doing your HR, they’re doing your workbook, they’re on the hook if somebody says discrimination. They are the employer but you get all the benefits, and you are now buying at their buy level. They have a lot more juice than you to get really good plans.
I would suggest that you use a PEO. There are others. Insperity is the big boy and the big one on the block. I could be more than happy to tie into some of their higher-ups. They’re nice folks. They do a really good job and then you don’t have to mess with HR. If you are less than 10 people, you go to Insperity because you can’t even get a group health plan without having to go into the off-market where it’s not a regular health plan.
If you’re between 10 people on up to about 50, you still want to get it quoted to see whether it’s worth it for you. If you’re somebody who just values your time and you don’t want to hire a full-time HR person, then use a professional employee organization. You still get all the tax benefits and everything else as though you’re like the employee retained tax credit.
Toby: The employee retention credit. I’m trying to think of that. Jake, the name is Insperity, but reach out to Patty. I would say, Patty, if you know Fred Simmons over at Insperity, that’s a good group. Patty, if you can even find that email, you can just send it out to all these people. It doesn’t matter. Fred’s a higher-up with Insperity. They do huge organizations too. I won’t say the name of the company, but they do streaming and they’re really, really popular. It rhymes with wet mix. But they do a really good job. There are not too many of those companies that I like, but there are a few. That way you get their buying power. You can get away from HR because I hate HR.
We have 368 (beginning of the year) employees. We have full-time HR people. There we go. Patty just put it out there. Insperity is super nice. I have his email somewhere. You can always just reach out to Patty, we’ll set it up. If you’re doing one person, then just run it through us or through Anil. You can do Payroll City, you could do some of those others. It sounds like a lot of you guys are interested. I’ll bring their information next time. Maybe we’ll email it out. They’re really nice folks. YouTube, join us on YouTube if you like this stuff.
Somebody says, “What happens if you do not pay back the 1099-R Covid related distribution in three years?” You pay tax on it over the next three years, Gale. You recognize one-third, one-third, one-third and that’s it. There’s no prepayment, there’s no penalty.
Somebody says, “Fred.simmons@insperity is his email if needed.” Thank Chris. Patty, if you could just share that with everybody, that would be great. Wow. A lot of you guys are interested in that. Maybe I’ll have him on someday to explain how this stuff works. I’ve done it with other companies. Not everybody likes payroll companies.
Jeff: They’re kind of expensive. The payroll companies are.
Toby: Yeah. Well, if I run payroll like ADP and all these others, they’re going to charge you hundreds of dollars. If you use a professional employee organization, they’re going to charge you more but the question is, is it net in your favor? Because if I have to do L&I, if I have to do unemployment, and they don’t know me, I pay the highest. If I get a group plan, I might be paying $600 an individual, whereas if I was with a larger group, I’d be at $325. You have to factor that in, how much it’s going to put in your pocket and then you just calculate that.
I’ve had companies that were at 28 and 26 employees where it was cheaper to have the PEO. Now, does everybody like the PEO? Not if you’re walking around them. Sometimes they’re like, I have to deal with payroll. If they’re asking for time off requests and stuff, they’re annoyed, everybody’s annoyed at HR. It’s never a question.
Michael has a question. Michael I’m going to go all the way back and see if I could find your question. I don’t see it. If you could repost it we might just answer it right here. I don’t see your first question being posted. I don’t know how to say your last name, nor would I violate your privacy.
All right, andersonadvisers.com/podcast also is a good one if you like our stuff. You could go listen to our Tax Tuesdays. What’s funny is 8 of the top 10 podcasts we had last year were Tax Tuesdays.
Toby: Yeah. That’s wow. We were laughing about that, you guys were listening to tax stuff. What’s wrong with you? Actually, you’re our kind of people. If you like replays and you’re Platinum, you can find them in your Platinum portal. Otherwise, I think that if you registered for it, we would send you out the recording anyway. It’s in the podcast for the last few. You can always go back in.
If you have questions that you want to be answered on the air, by all means, send them out to firstname.lastname@example.org. Come chat with us.
Jeff: Yeah. I do have one last thing. If you are in California and you received PPP loan forgiveness last year, you may want to wait on filing the return, because it looks like there’s a chance California may…
Toby: Might change it?
Jeff: May come into conformity with the federal rules.
Toby: All right. What Jeff is referring to is just because the Feds say you can do something like accelerate a depreciation PPP loans where you can write off the loan against expenses doesn’t mean your state’s going to do it. In California, they’re difficult.
Jeff: Sometimes it takes a while for them to come around.
Toby: Have they ever come around? They still don’t like bonus depreciation. They’re peaches.
Jeff: Opportunity farm.
Toby: They’re just a lot of fun to deal with. The state of California needs their money.
Somebody says, “Can you clarify if we can still contribute to a Roth solo 401(k) for 2020?” No.
Jeff: Employee deferrals, no.
Toby: Right. I think that employer contributions, yes.
Jeff: Up until the due date.
Toby: Up until the due date I didn’t even know about that. Let me think about that off the top of my head. I don’t know if I know the answer. Can the employer put in 25%? That’s a deduction, so no. It wouldn’t go into the Roth. I think that has to be done from the employee’s side.
Jeff: Yes. To my knowledge, the employer can only contribute to the traditional side.
Toby: Yeah. Selena, I don’t think you could do the Roth solo 401(k) contribution, but you might be able to do a regular Roth IRA. That’s something that you send into the Tax Tuesday to this email, the email@example.com because I’d like to get an answer for you, and we could probably find out for you pretty quick.
Jeff: No […] request?
Toby: No. I didn’t see, I was scanning through here.
“Hi, no response to my earlier first question.” I don’t see it. They either got it, maybe they were off. Sometimes if you leave and then you come back in, your questions are gone. Submit it if you didn’t get your question answered.
Somebody says, “For California also, no real estate professional for state taxes.” Everything we talk about, we kind of focus on the Federal, and then the states tend to be not nearly as big an issue. But it doesn’t mean that you get to take your loss if you’re a real estate professional in California. Your taxes keep growing. What are you, at 13% now, some of you guys?
The best thing there is not to make money. When I say not make money, have it go through a different entity or make sure that you’re using a 501(c)(3) or a donor-advised fund to make sure you’re pushing your income lower so you’re not getting killed at their higher rates. That goes for New York, Connecticut, New Jersey, Maryland. Those are the nasty ones where they have limitations on your […] too, so you want to make sure you’re pushing it down.
“Even if you took the deduction on personal income the court can reimburse you?” No. We would want to look at that. You can’t get reimbursed twice for the same expense. It just depends.
Jeff: Medical is a good example of that where the deduction—you’re probably going to get more bang for the buck. If I have the corporation reimbursed, then put them on your Schedule A.
Toby: Absolutely. Somebody just put this up here too. “For the current year 2021, are charitable contributions fully deductible, or is it a requirement for exceeding the percentage of taxable income or threshold?” Roger, you can write off 100% of cash contributions against 100% of your adjusted gross income. You can also write off, as a married couple, up to $600 above the line without doing a Schedule A.
If you’re somebody who does cash gifts periodically but maybe it’s $100 here, $100 there. As a single person you can write off $300, as a married couple you can write off $600 for 2021. For the last year, it’s $300 for both. I don’t know why Congress wrote it that way, it was silly. But without regards to Schedule A. You could still take your standard deduction and $300 cash deduction.
For 2021, you can write off 100% of your adjusted gross income under cash. If it’s giving an appreciated capital asset, it’s 30%, and that’s for gifts to a public charity. If you set up a 501(c)(3) as a public charity, even if you control it, you can still write that off. If it’s a private foundation. You’re limited to 30%. Let me see if there’s anything else.
Jeff: I did read where the percentage of married couples filing jointly itemizing this is extremely low. Married couples, in general, are non-itemizing because the standard deduction is so high, and that was (I want to say) 18% of all married couples. About extra $300, $600 charitable deductions on page one.
Toby: It’s still 80% something. It was like 82% filed the standard deduction last year. You know what’s funny is when that first came out, we pegged it at 80%, we said everything.
Somebody says, “From a taxation perspective, what is the best place for a US citizen to live? Is it Puerto Rico or somewhere stateside?” Puerto Rico, if you live there and you have Puerto Rican sourced income, your income taxes would be 0%-4%. That’s almost impossible to beat. Your dividends and your capital gains are zero so long as it’s sourced in Puerto Rico.
If you had highly appreciated assets and you moved there, the appreciation prior to moving there would still be taxed in the states, and then the portions above that would not be. If you hold them for less than 10 years, I want to say it’s 5%. If it’s less than a year, then it’s 15%. There are two thresholds. I forgot them off the top of my head. Puerto Rico is pretty amazing. They’re losing people and they need people.
Jeff: I know it’s come up many times before. Although it’s off the table.
Toby: Yeah, because right now it’s being treated as a foreign jurisdiction. Even though it’s a territory, it’s still treated as a foreign jurisdiction. Don’t move to Puerto Rico just because of the taxes. Move there because it’s beautiful and old San Juan is amazing, if you ever get inside the fort there. Rio Grande is awesome, Dorado is awesome. Those are some great places.
I forget the place on the other side of the island where we have a bunch of clients that moved there. It’s gorgeous, but it is an island. It is to the south of Cuba. You have to go a little way. Otherwise, you’re going to be doing Florida or Texas.
All right guys. Register for the infinity workshop on May 15th. I just reminded you guys. We will see you in two weeks. Until that time, wish you all well. I hope you guys are doing great. Stay safe and we will see you guys in two weeks.
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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.