In this episode, Anderson Advisors’ Barley Bowler, CPA, and Eliot Thomas, Esq., tackle listener tax questions spanning real estate, trading, and business structures. They explain how California’s clawback rules and residency tests apply to precious metals gains when relocating to Tennessee, and outline how a trade structure with a corporate partner can shift trading income while avoiding personal holding company tax. Barley and Eliot also cover entity options for leasing a personal vehicle to a business, the filing requirements for out-of-state rental income, and how a property management S-Corp can be used to offset W-2 income through short-term rental material participation. Other topics include strategies for minimizing capital gains on a long-term rental sale — including 1031 exchanges and cost segregation studies — offsetting capital gains from a personal residence sale with business losses, and how non-dividend distributions are taxed as a return of capital. Tune in for expert advice on these and more!

Submit your tax question to taxtuesday@andersonadvisors.com

Highlights/Topics:

00:00 Intro to Tax Tuesday with Eliot and Barley

08:06 — “I’ve lived in California for decades but am now moving to Tennessee. Once in Tennessee, I will sell some of my precious metals to go toward buying a personal residence. Will California try to claw back taxes on the precious metal gain since I purchased it while living in California? How long do I have to be a resident of Tennessee before I am under Tennessee taxation rules for selling precious metals?” — Clawbacks don’t apply; timing and residency ties to California matter most.

18:24 — “As an equity options trader (not eligible for TTS status), what is a good entity structure for tax advantages when my partner has an SMLLC for business?” — A trade structure with a C-Corp partner shifts and protects gains.

26:05 — “I have a trading structure. Please explain the tax treatment guidelines when investments in securities are sold, when a K-1 is triggered, etc.” — Gains split by ownership percentage; K-1s issue once the 1065 is filed.

36:05 — “I’m wondering if I can purchase a vehicle and lease it to my business year by year — is that a possible tax advantage for a private investigation business?” — Possible, but reimbursing mileage through an S-Corp is simpler and safer.

44:20 — “I live in Washington State. If I buy a rental in Oregon, do I have to file Oregon tax and pay Oregon tax on the property located there?” — Yes — the source state taxes rental income regardless of residency.

47:02 — “I run three Airbnb properties and have an LLC taxed as an S-Corp that I use as a management company, where all revenue and expenses flow into it. It does not take depreciation since the LLC doesn’t own the property — we have the deeds in our personal name. How can I take advantage of the loss and depreciation to offset our W-2 in this case?” — Short-term rentals need material participation, not REP status, to offset W-2.

1:04:27 — “How can I avoid or minimize capital gain taxes if I sell a rental property I’ve had for seven years?” — Use passive losses, a cost-seg study, 1031 exchange, or capital loss harvesting.

1:10:32 — “Can a long-term capital loss (from the sale of a business) be used to offset a long-term capital gain from the sale of a personal residence?” — Yes, after applying Section 121’s home-sale exclusion and depreciation recapture rules.

1:15:24 — “Are non-dividend distributions considered a return of capital and therefore not taxed?” — Only partly — earnings, then basis return, then capital gain, in order.

Resources:

Tax and Asset Protection Events

Schedule Your FREE Consultation

Anderson Advisors

Toby Mathis YouTube

Toby Mathis TikTok

Clint Coons YouTube

Full Episode Transcript:

[00:00.00] Intro:

[00:11.48] Barley: Hey, welcome back everyone to tax Tuesdays every other week answering your tax questions right here live on YouTube from our Anderson advisor studios. Here in beautiful Las Vegas, Nevada. Fabulous Las Vegas. That’s right. Welcome back everyone. My name is Barley Bowler. I’m one of the CPAs and tax advisors here at Anderson very happy to have you guys back again. Every other week going over your questions, Mr. Eliot Thomas.

[00:33.72] Eliot: Yes, Elliot Thomas, manager the Tax Advisors, pleased to be here again.

[00:38.84] Barley: For any of you here, for your first time, big welcome to you. Again answering your questions live to all of you joining us again. Welcome back. Please give us a shout out in the chat. If you’re having any issues, post any questions in the Q&A. Let us know in the chat where are you tuning in, from where you’re listening in from. We’d love to have you guys join us every other Tuesday here in tax Tuesday, bringing tax knowledge to the masses.

[01:01.28] Tax Tuesday again, Q&A feature in zoom post any questions you have. We’re going to  be going over a variety of topics here. Usually focusing on real estate small business stock trading things of that nature. No exception today, a lot of great questions from you guys, so thank you so much for posting those questions first of all. Here’s the email address, email tax Tuesday @andersonadvisors.com. Eliot reads all your questions guys. We really do. It’s not a chatbot.

[01:28.36] He’s not yet. We haven’t been replaced by a chatbot yet. Yeah, they can’t tell jokes like right now. The AI jokes are actually a pretty decent.

[01:37.60] Eliot: He can’t tell bad ones like us.

[01:40.88] Barley: We have a niche market on the bad tax jokes if you need a detailed response, right? This isn’t a replacement for tax planning. This is meant to get you further down the road. You can certainly set up a tax call with us, become a tax client. We have information on that as well. You can set up a tax console. We got information on that in a moment, fast fun and educational want to give back help educate. Did that say fun and taxes? Can we put those two things in the same weekend? 

[02:09.20] Eliot: We can. We’re allowed to do that. 

[02:11.12] Barley: That’s right, fast, fun and educational. This has been a mission of the partners kind of from the beginning. Deliver as much as to you guys as we can to just get you started. There’s plenty of work to do. There’s plenty of weeds to get out the weed whacker for but just getting the base knowledge.

[02:24.74] That’s always a good bit of work, right? Learning kind of legal terminology tax terminology all at once. Certainly, come in you guys welcome back in and a big welcome to anyone joining us for the first time.

[02:35.20] Eliot: We got Chandler. We got Atlanta, Richmond, Cincinnati, Wisconsin a whole bunch coming in. I saw Todd. I saw you in there. Great to see you back. 

[02:46.80] Barley: Welcome back. Yeah, great to see you guys from all over the road. Whether you’re at your home office or you’re on the road or your second office.

[02:53.40] Eliot: Heard from a lot of clients that they’re listening to us. On the road. May not be the live but right we’re here. That’s right to listen to.

[03:02.08] Barley: No, that’s good, I remember when I used to have a commute. It was all about how much can I get done in my one hour commute right or whatever it was back in the day. I’m glad I don’t have that anymore. But we’re going to  read through your questions guys, then we’re going to  hop right in. Any announcements with my rushing too fast here. We’re right smack dab in the middle of the year. We got a live event coming up. We’re going to  tell you about but we’ll just let’s hop right in.

[03:29.82] I’ve lived in California for decades. But now moving to Tennessee among a couple of other people may be more. Once in Tennessee, I’m going to  sell some precious metals to go towards buying a personal residence in Tennessee, we’re assuming there. Will California try to claw back taxes on the precious metal gain since I purchased it while living in California.

[03:45.50]  I tell you one thing. They sure would want to. They’ve certainly probably tried. How long do I have to be a resident of Tennessee before I’m under Tennessee taxation rules for selling the precious metals? Great question there.

[03:54.94] Eliot: A lot of detail in there. As an equity options trader not eligible for trader tax that is. What is a good entity structure for tax advantages when the partner has a single member LLC for business? Okay, a lot of detail or two. These particular questions all have a theme. They have a lot of hidden details and nuggets of information in them. That’s why I picked them for this week. 

[04:22.36] Barley: That’s where we get the fun part, right? That’s the fun guys. I have a trading structure. A lot of you guys have heard of this. We focus on real estate small business stock trading. I have a trade structure, please explain the tax treatment guidelines when we sell some securities, right when we sell some securities. We get realized gains. What happens? When is a K1 triggered a partnership is going to generate a K-1? When is K-1 triggered, etc. We got more to talk about there.

[04:46.54] Eliot: I’m wondering if I can purchase a vehicle and lease it through my business year by year. Is that a possible tax advantage for a private investigation business?

[04:56.52] Barley: Cool business either way. I live in Washington State if I buy a rental in Oregon. Do I have to file organ tax pay organ tax on the property located there?

[05:07.60] Eliot: I run three Airbnb properties and I have an LLC. Taxes an S-corp that I have as a management company where all the revenue expenses flow into. It does not take depreciation since that LC the S-corp doesn’t own the property as we have the deeds in our personal name. How can I take advantage of loss and depreciation to offset our W-2 in this case. 

[05:31.32] Barley: We’ve got that question before. How can I avoid or minimize capital gain taxes if I sell a rental property, had it for seven years?

[05:38.32] Eliot: Can a long-term capital loss from the cell of a business, we used to offset long-term capital gain from the cell of a personal residence? A lot of capital gain goal.

[05:49.08] Barley: All right, we might have to draw some pictures and talk about accounting buckets and get into a little theory there guys. Hope it wouldn’t scare anybody off? Are non dividend distributions considered return of capital and therefore non tax? A good kind of a technical question there.

[06:04.20] Eliot: I think that’s it. 

[06:06.48] Barley: Make sure you tune into the YouTube channel. One of the original principles of the partners here was just to post a bunch of content to help people get started. Obviously, part of the business model, we want you to come to us for advice if you have real estate, small business needs. This is our wheelhouse.

[06:25.16] This is what we focus on. But there is so much great content for free obviously on the YouTube channel here. What do we have a thousand videos between the two of them or Toby hit a thousand recently. A lot of content. Make sure you subscribe, great interviews on there. Just real practical for a lot of fun to a lot of fun knowledge on there as well. 

[06:42.72] Eliot: You could watch one every day for the next couple years. 

[06:48.04] Barley: Got a live event coming up in Dallas. Right in the middle of July. 

[06:53.04] Eliot: Ninety-nine dollars.

[06:56.04] Barley:  Use code tax Tuesday, limited availability. Yes, scan that code if you guys want more information.

[07:00.32] We’re doing live events all over the country. We’d love to have you guys come join

[07:05.00] You know, they they are they are a lot of fun

[07:07.08] Eliot and I a little bit but those are a lot of fun.

[07:08.68] You get to see all your fellow investors and entrepreneurs meet the partners talk to everybody there

[07:13.26] Come join, check it out. Let us know if you have any questions. See we can give you more information if you need it.

[07:17.24] Eliot: See Cowboys Stadium. 

[07:24.00] Barley: Plus are these all virtual? Well, we got the live one on here plus a couple of I’m assuming these are virtual, right? I think that these other events. If you can’t make it remember, that’s a deductible business trick if we can structure it, right? But if you can’t make it we can do a virtual event as well. We’re still doing those as well. Also, of course scan this code if you want to get started, you’re like I need to talk tax strategy right now. Scan this code, start that process and we look forward to talking to you.

[07:50.00] Eliot: Tell them Barley and Eliot. 

[07:53.00] Barley: Yes, that’s right. They might even accept you. Let’s operate in, any questions. We gotta want to get to first any comments or anything. Excellent, let’s fit this big dog here. I’ve lived in California for decades, the land of milk and honey there. But I’m now moving to Tennessee. Once in Tennessee you sell some of my precious metals to go towards buying a personal residence.

[08:12.00] Will California try to claw back taxes on the precious metal gains since I purchased it while living in California. How long do I have to be a resident of Tennessee before I am under Tennessee taxation rules for selling precious metals? Right Chris. We have a kind of a timing test. This is, where is our tax home? Right in our residency?

[08:32.40] Eliot: We certainly have that we’re going to  get into that. But before we get there, I want to go into the clawback issue and what exactly is a clawback? Clawback is a principle that only a few states use. It’s going to be Oregon, California, Montana, Massachusetts primarily. It’s not for those states overall and it can be at the federal level too, in certain federal issues.

[08:56.48] But we really only see it with these states and the idea is it’s on just a specific transaction. Now we’re Barley and I run into it all the time with a 1031 exchange. That’s what’s real estate. You have a property, it’s provision. The code says you sell your rental property. You’re in California. Let’s just draw it out here.

[09:16.04] We’re in California, we got a rental and then we sold it. Let’s say in the exchange you pick up a new property and it’s somewhere elsewhere. It doesn’t really matter where it is. We’ll call this Wyoming and you have a new rental, but you’re still living in California. In fact, the fact that you live in California or don’t is irrelevant, but you had a rental at one time in California. You sold it under 1031, which means you can defer all the game if everything works out the numbers work out

[09:50.04] Barley: That’s how they get their claws in there. 

[09:52.60] Eliot: Well, then we get this new property and that’s fine. Everything’s good. You don’t have to pay any tax to the state or federal level under this.

[09:58.74] Barley: We’ll turn it upside down next time. Oh

[10:16.72] Eliot: Anyway, when we have that going on the replacement property in Wyoming here. Then later on, let’s say we sell that in a certain special event. At that point California says well, look we gave you the time, the deferral on that property when we bought the Wyoming, that’s fine. But the minute you sold that one.

[10:39.16] Barley: Come on and help us. David, Jacob’s giving it. We don’t do this by ourselves guys. We don’t think that we can figure out tech by ourselves. It’s like mirror image for some reason. We can probably erase it and start over now that it’s the right way up. Let’s try that.

[11:02.28] Eliot: We sell that Wyoming property. That was the replacement property. We bought the new house in Wyoming. We got rid of that one. We picked up this new one. But now we want to sell that Wyoming and what California says in these other states that have this, say, well now you got to pay us our tax. We appreciate, we gave you the 1031 why you picked up that Wyoming of one step.

[11:30.92] We gave you the deferral but the minute you got rid of that property now you got to pay us and they call it a clawback. But the clawback back to our original question here, isn’t dealing with real estate. We’re talking about something completely different and the point there is that when we have clawbacks going on. It’s only for specific types of transaction. It’s not necessarily a whole state code here. 

[11:52.52] Barley; We’re not your income.

[11:54.52] Eliot: We got a whole different type of transaction here. We got a precious metal and that’s a whole different story. Now, precious metals, in their own, have a unique story in the tax code. Typically if you’re just talking about the physical what do we call that 

[12:10.00] Barley: Collectibles?

[12:11.80] Eliot: Collectible. Yeah, it’s still capital gain, capital asset or loss. But it’s a flat 28% because it’s a collectible. A  little bit different or dealing with precious metals and physical metals like that. In this instance,  in another part of precious metals. Maybe you got into an ETF or something like that that simply invest in precious metal type businesses.

[12:33.44] There you’re kind of if you will buy into stock of that ETF. That’s just stock. That’s going to  be a regular capital gain not a collectible. It really depends on how these precious metals are if they’re physical and center. We’re going to  go with the presumption that they’re physical.

[12:48.12] Barley: Ours and bullion and whatnot.

[12:52.04] Eliot: The collectibles that Barley was talking about. That’s our situation now. You mentioned something. What about timing? What do we got going on there? 

[13:00.08] Barley: California looks at it kind of a fax the circuit. This is going to  be true any time we change residences. How do we know what state were a resident of? If we look at that end of the year by the end of the year. Have we met this kind of checklist of options? The franchise and tax board in California kind of has their own version of this.Tennessee’s going to  have its own version of this.

[13:20.44] But really the timing issue when we sell the collectible. The gold and silver, when the transaction takes place. That’s when we just have to make sure we’re a Tennessee resident at that time. We don’t even want to be a part of your resident ideally of California. A couple issues there, obviously we got the usual suspects driver’s license, primary residence.

[13:42.40] Which kind of comes into play here as far as the timing goes. Plus we’re going to  want to talk about, maybe you moved everything to Tennessee and you’re all set but when you sell the gold is still physically located in California. We want to make sure it’s physically removed from California. It’s almost like one of these point system. As many things as we can. If we hit, you know enough points, then we’re considered a resident. We really want to make an effort there to understand what both state options are.

[14:09.60] Eliot: I think you nailed it right there. Though one of the big and maybe a Trump card, if you will. If that gold is still in California. Well, that’s a California asset at that point. I think you would lose if you don’t get that trucked over to Fort Knox.  I would want to get it out of there. California is really aggressive on this. Okay, they’re going to  look at everything, family moved, are you done with your business ties there?

[14:35.56] Think of a continuum. You still have everything in California all the way to where you have absolutely no connection with California whatsoever. The closer we move back to what we got, the more activity still going on in California. The harder is going to  be for you to convince that you’ve severed ties there and are now in Tennessee if you will.

[14:52.60] Tennessee is a little bit more relaxed. Just get a driver’s license right away voter registration and get your insurance, show that you have a home. And we’re happy to have you in Tennessee. But is it possible to be a resident of both for tax purposes?

[15:06.60] Barley: Probably as far as the states are concerned, right? As far as the Feds concerned, you can only have one tax home, but the state’s, a different view on this.

[15:14.84] Eliot:So is it possible that California says no, no, no, you’re ours. In Tennessee, no, no, no, you’re ours. 

[15:18.84] Barley: You end up paying tax on both states. 

[15:21.36] Eliot: Which brings up a whole nother nugget here hidden within this question. A state like California they have a provision that says alright, we’re going to tax you here. But if it turns out you had to pay some tax in Tennessee. Well, we’ll give you credit for that against the tax you’re paying us. If you were in that situation where they’re claiming everything there.

[15:42.16] The problem is, we went to Tennessee because they don’t have income tax and you know what else they don’t tax? Capital gains. What is it we have? A collectible. At worst 28% or we have a stock in something where it’s capital gains with its precious metal.  Whatever it is. It’s a capital asset. There’s no tax in Tennessee. What would California say?

[16:02.84] We’re willing to give you the tax credit for whatever you paid in that other state. Oh, you didn’t pay any well. Then no credit. I really like Barley’s idea there. Make sure you get that gold out of there to Tennessee. Brings up one last question. If you’re going to use the gold to pay for the residents.

[16:25.00] Barley:  According to your questions there. I’m going to  sell some of my precious around towards buying a personal right so that means you’re potentially going to  sell it before you move. That’s what we want to kind of avoid here. Why don’t we have a worker?

[16:33.48] Eliot: Do we go and get an apartment or something like that, rent out a house or something and establish our residency. But you’re still going to  have that. You have kept the residents in California. That’s going to be very difficult.  They’re going to  use that against you. The option here. I guess probably easy one, easy play would be.

[16:51.92] Sell your house, move the you know and then and then pick up the new house in Tennessee. Then later on, sell the precious metal once you’re in Tennessee and pay off the debt. The way when you purchase that house in Tennessee, that’d be one way. I think they would probably give you the least friction if you will. But there’s a lot here.

[17:12.12] A lot of different factors in California and Tennessee are going to  use to determine. Well, where exactly do you live? This gets back into the old days when people were traveling along a lot. I should say Covid days. There isn’t this idea that you don’t have a home tax state of some sort if you do fall into that. You’re called itinerant and that’s even worse from a tax status for the IRS. Pick one of these states and get there. Obviously Tennessee is what we’re looking for.

[17:40.20] Barley: Go to that Franchise tax board FTB site in California. They actually have some pretty decent information there. They’re very aggressive, but they do provide information on what they kind of expect what they’re looking for.  I just looking at it yesterday, but I remember thinking there was some pretty decent information there.

[17:56.04] Check that out if this is your question or you know for others. This might relate to kind of a common issue there, but great great question. A lot of issues in one question. Just one. We just get started guys. As an equity options trader not eligible for TTS, tax trader status.

[18:17.44] What is a good entity structure for tax advantages when partner, nebulous partner, we’re not sure who that is. Has a SM LLC single member LLC for business. Again, a lot of places to get start here. Where do you want to start out?

[18:33.88] Eliot: We’ll start with the TTS trader tax, Trader tax status. What that is basically a situation where the IRS says look, you’re not just selling occasional stock here and there. You’ve really made it your business and we kind of have to respect that. If you are consistently trading trying to make a profit off daily market changes throughout the day.

[18:57.40] We’ll call them day traders things like that. and you’re doing it every day that the markets open. It’s your main source of livelihood and things of that nature. Clearly you’re into it for a profit motive trying to make a living off of it. Then maybe they’ll give you this status. Now the difference being that if you have it becomes active an active business really. 

[19:17.96] It can allow you to take business deductions. And that’s really the key from a tax perspective being able to have business deductions against your trading activity. This is kind of where we start with that you deduct your expenses on schedule C. And then you still have your gains on schedule D’s and dog. Now as far as structures and things like that.  Typically, what do we recommend?

[19:44.64] Barley: I like that. That’s a good point that there’s no real structure that requires. Put your gains on schedule D or losses on schedule C for some of you to listen to us for a while. You’re just going to  report losses ongoing on schedule C. Auto risk, so you got to really have tight records. You got to really have this kind of know what you’re doing there.

[20:01.48] But then other than that we do have advantageous structural stuff that we can set up as well. Why do you guys have heard this term? We call it just a trade structure. Essentially just you as an individual you’re going to  form a partnership. Put the brokerage account in a partnership who are the partners you as individual you as an individual or partner one. 

[20:21.40] Partner two is a C corporation that you own and control a hundred percent.  Those are the two partners in the partnership you and your come to your corporation. Yes, we recommend a corporation typically a C over an S-corporation, a lot of tax advantages. Illegally isolates that funds off of your 1040. We’re just skimming off the top of your own profits charging yourself. 

[20:45.16] Not a management fee, but charging yourself to oversee your investments right Jane pulling those profits off your tax return. Tax savings right over to a corporation. Changing gears a little bit where then we can use for tax free reimbursements or an accountable plan a lot of you guys have heard about this home office 280A medical reimbursements. How does that all happen when we have a corporation?

[21:07.44] What we’re talking about is a trade structure with a corporate trading partner. We own and control a hundred percent. And we just use it as a tax tool reduce our personal income. But then still be able to use those funds for tax free reimbursements. 

[21:19.60] Eliot: We start out first place if we didn’t have anything going on. We just have our trading account here. It’s just owned by us by the individual. You could put it in an LLC. That’s fine. But nothing particular, you know fancy going on there or we can take that a trading account and we put it into a partnership.Exactly like Barley’s talking about maybe we have 10% over here ownership ninety percent over here.

[21:42.04] But automatically have shifted 10% off of a return. We’re going to  get a little bit more into the details on the next question, how that all works out? That’s the concept here is just having the trade account Do you want it all coming on to your personal return or maybe put in this trading partnership? But we have another little aspect going on. Remember a lot of hidden things in these questions.

[22:00.84] Barley: We’re saying equity options trader not eligible for this trader tax status. But what is a good entity structure when a partner? 

[22:10.00] Eliot: We just stop right there not eligible. That means it’s not a business. That means they can’t take any business deductions. What if we get into this? What Barley’s talking about this trading structure over here?  We got the C corporation over here. Now over here, we can deduct treaties as a business and take deductions over there. 

[22:31.12] We’re going to  see that here in a little second, but we got that last part with this partner. When we hear single member LLC, that doesn’t really tell us a lot. We usually say that’s disregard. We hope it is but actually could still be an S-corp or a C corp. You couldn’t be a partnership is it only has one partner there.

[22:50.00] But we’re going to go with that. It’s probably disregard. Here’s what’s really going on. We have Barley and I want to get into some training. He’s already got a single member LLC. Let’s say it’s another business that he has or something like that. In that case, He’s got his single member LLC and he’s got some other business going on here and then I’m over here and we want to trade.

[23:26.32] But we want to do some kind of partnership structure here. He contributes via his single member LC I contribute personally or whatever it is. The issue that we have going on or a potential issue is we don’t know what’s going on in this single member LLC of Barley. Let’s say he has this dog walking business.  Now the minute Fido bites somebody under his control.

[23:50.52] He’s going to  get sued and everything that he owns including his options or his ownership in that partnership becomes exposed. We want to be very careful with that. We probably wouldn’t let another individual come in with their own active business to get in this. Because it’s a liability issue. Not so much tax but liability issue.

[24:10.96] What we would really recommend is not have this situation. You can copy and paste this kind of setup, but we would probably say well business partner. Go off and set up your own trading partnership with your own c-corp and then our individual asking the question what set up their own trading partnership as well. 

[24:35.82] We wouldn’t recommend getting into business together. Brings up a lot of potential problem. Especially when we don’t know what’s going on that single member LLC. That would be a kind of a more an asset protection issue to watch out for.

[24:47.36] Barley: I like that I don’t like the idea of partnering. I have a MBA background and that was one of the first things we learned at business school. There are so many better tax structures in a partnership because the second you get into disagreement. Things can go south so fast. Why form a partnership? What we’re proposing, you each set up your own trade structure.

[25:09.72] You guys can exchange information. You can kind of be in business together that way so to speak. But you’re not tangled at an entity level, and at a tax level, and at a liability level. That would be certainly recommended. We’re assuming this single member LLC. That just might be another person holding their own brokerage account again. Why would we partner those two things together? It’s just kind of nothing but problems. You can get a lot of the synergy and advantages without having to actually, literally marry yourself to another individual. 

[25:40.56] Eliot: We can tear that apart in the next question as well.

[25:42.56] Barley: Continuing on that. I have a trading structure.] What we just talked about, partnership holds the brokerage, individual is the partner one, C corps partner number two. I have a trading structure. Please explain the tax treatment guidelines when the investments are sold, what a K-1 is triggered it, etc. We have this trade structure set up. We get a good chunk of realized gains. How is this structure beneficial?

[26:07.44] Eliot: What are the details? Somewhat beneficial some of it may not be. But we’ll see here when we get into it. Now we got our brokerage in our partnership. Well, first of all, somebody, let’s say this is Barley’s he put his original brokerage account into the partnership and here’s a C-corp. We’re going to go with 90% and 10% ownership.

[26:28.16] Barley: Common structure we use from one maybe up to 20% get over more than that. We kind of might be trapping some money.

[26:34.84] Eliot: You sit down and you talk to a tax advisor and we look at we will crunch those numbers out. But the key here is let’s say he already had bought Bitcoin at a dollar and now it’s worth $100. He’s got basically gain of about a hundred bucks 99 and he puts that into the train that brokerage account into the partnership. 

[26:59.48] Does that mean he gets a pull off 10% automatically to the sequel? No, the rules say when he sells that. Let’s say it goes up to $200 of value. It was at one but when he put it in, it was already at a hundred. You have basically a hundred gain. After it was put in, this part after you put the brokerage account into the partnership. Ten percent of the gain goes to the C-corp.

[27:25.08] That would be $10 and then $90 would go to the individual, Barley. But that original $100 of gain that he had while it was in his position. We have to send that back to Barley. That’s one of the things you have to be aware of when you set this up. Not all tax preparers frankly know that. Sometimes that just automatically that hidden gain of $100, 10% does get shifted over in this situation. 

[27:53.44] It happens but really what the code says is that 10% of it, excuse me the $199 gain original gain should go back to Barley and then they need gain after he put it into that training partnership. That can be split and we get all those benefits. Which exactly, what are those benefits? If we have $10 of income coming into our C corporation in this case 10%. We got to look at another issue here. What kind of income is it?

[28:22.52] Barley: Because if you have no guys, we’re going in the weeds. 

[28:28.76] Eliot: Let’s say a large brokerage account and at some point it just sits there in cash. You’re probably getting interest payments on that. Let’s say you have a million dollar trading account, $50,000 that’s in cash just sitting there because you haven’t invested it yet. The other items are invested. Well, you’re earning interest and the code says there’s certain types of income

that a C-corp can earn that are poisonous.

[28:57.84] Interest income is one of those or dividends. Maybe you invested in dividend stocks and they’re paying dividends and if the C corporation earns too much of that. Well, we got a problem. We get what’s called PHC personal holding company tax on those gains. We have to balance that out and have quote-unquote healthy income and we don’t get it.

[29:18.84] We don’t get to consider any capital gains in this equation. What we have to look for is ordinary operating income which with a trading partnership we can pay the C corporation for basically managing the partnership.

[29:34.92] Barley: Unique payment structure within a partnership. Guaranteed payment to partner. Think of it like a W-2 you’re paying to the partner for capital or services. This is a static payment. What’s unique about this payment? Ordinary or active or what a good kind of income. 

[29:51.80] Eliot: It’s a healthy income. It’s ordinary income. That will take care of and avoid that PHC tax. I was talking about earlier. What are all the numbers? We’re not going to  get that far into the weeds. We just need to sit down and have tax advisory to make sure we’re good on all these type of things. But the guaranteed payment is what the critical item we want to get here because it’s kind of like a management fee.

[30:10.88] But it is because it’s a partnership. We call it guaranteed payment and let’s say it’s $10 that you’re paying. That’s also a deduction. Actually and that’s amongst partnership, ownership percentages. What do I mean by that? Well, it’s $10 a deduction, nine dollars or nine percent of it would be a deduction on Barley’s return. One dollar or 10% would be a deduction on the C corporation return. 

[30:33.16] These are the type of things that can help with this type of structure. But the question was that we’re looking for here. Explains some of the guidelines. These are some of the guidelines. We want to be careful. Make sure we have good income. Now a lot of our clients out there also use their C-corp maybe to manage rental properties or something like that. Well, that’s healthy income if you will as well. But once we get all this income in there, what are we going to  do with at the C-corp level all.

[31:00.00]] Barley: All the fun stuff, tax reimbursements, home office 280A medical.

[31:04.74] That’s unique and really only available through a C corporation medical reimbursement a 105 medical plan. There’s a hundred percent reimbursement medical vision and dental for you and your whole family, all of it a tax deduction. You can only do that through a C corporation. That’s one of the examples.

[31:20.72] Eliot: What Barley’s doing then is he’s taking not only the $10 of cash from the capital gains. And the $10 of 20 now would be $20 basically at the C-corp level. But he is removing it all through the 280A, med reimbursement.

[31:37.48] Barley: Go back to our option one. We do nothing. We got 20 bucks of income in the C-corp. At the end of the year, we’ll pay a flat rate 21% on that tax. But before we file that tax return and before we pay the tax on it we can pull as much of that cash out as possible. This is a unique tax return and incorporated entity the majority of our clients our family held corporations.

[31:58.92] Why? Because we get so many tax benefits. It really truly changes the landscape. Like we just talked about reimbursing medical but 280A meetings. If you’re watching along call this a 280A meeting you can reimburse yourself fifteen hundred bucks tax-free to yourself and it’s a tax deduction to the corporation, right? These are all ways we can pull cash out of their tax free.

[32:19.52] Eliot: Then to the last part of the question about the K1, where is that triggered? Well this partnership right here needs to file. It’s called a 1065 partnership return. It’s just an informational return. Basically the partnership is not going to  pay any tax. But it had the earnings we know that from all the trading activity at center the guaranteed payment paid to the C-corp.

[32:43.08] But each partner, C-corp and the individual, Barley, are going to  get a K1 for their respective shares. He’s going to  get a K1 and when is that triggered? Well, when you do the return, so when we’re asking here. When is this K1 triggered when the 1065 return is filled out by your tax preparer than okay ones will go to the respective partners. It goes on to their respective returns.

[33:13.68] Barley: That’s right because partnerships and S-corps also remember these are what we call pass through or flow through entities. They file a tax return, but they don’t write a check to the Treasury to pay taxes. How do the taxes get handled? The tax burden passes through to you as the owner via this form k1 one goes to each partner. When we do the tax software and you know both the tax software to start the partnership tax return.

[33:35.62] It’s going to ask me who are the partners in this business? I’m going to put okay. Here’s the individual, here’s the C-corp. Here’s the information on those percentage ownership. then we would file that return. It’s going to  automatically generate those K1s. You’re going to  take that k1 and include it with your 1040 tax return.

[33:50.80] Similarly, your studio where the C Corp is going to do the exact same thing. I just wanted to mention. Almost all the 1099 composite statements. I’ve seen do have interest income. This just is going to be on there. We have to pay attention to this. It’s not a big deal. Don’t be scared of this just but when we set up this trade structure to take the most benefit of it.

[34:11.70] Further this goes back to one of our fun tax terms, basis. What if we have an appreciated security, any appreciated gain in your name is going to be taxable to you. If I transfer it to my brokerage partnership tomorrow. Then the growth from that point on will be eligible for this tax treatment with a trade structure. The growth in my name we’re going to be looking at historical basis and transfer basis that’s what we’re looking at earlier.

[34:39.04] The advance. What I want to say is if you had a stock and maybe you had one of these Invidia, maybe I didn’t video stock or something like that. Anyway, I want to move it into a trade structure. So I can shift 10% that you can’t do that if the gin was in your name. But the moment you transfer it any gain from that point will be eligible. I just want to clarify that point, kind of a common misconception there. 

[35:00.72] Eliot: But again, not all preparers know that. And sometimes it gets missed on right preparation. But again tax planning make sure we get some guaranteed payment in there, something that nature. There’s a laundry list of things that can be this “poisons type income”. But typically that’s where you’re going to find it on your dividends and interest.

[35:19.60] Barley: The term PHC personal holding company. That’s kind of the guardrails. We got to look out there if you guys want to look up that let us know if you have any questions.

[35:30.92] Eliot: Yeah, this is a fun one.

[35:33.88] Barley: You can tell we’re having too much fun up here guys. Wondering if I can purchase a vehicle and lease it to my business year by year. Is that possible for a tax advantage? Is that a possible tax advantage for a private investigation business? Purchase a vehicle and my personal name and lease it to my business.

[35:53.50] We actually get this question a lot. But yeah equipment we get that said we get this question with rentals. Can I buy a rental and rent it to my corporation? Can I buy you know this equipment and rent it out or vehicle rent it out? But all kind of ironically creates the same kind of issue, right? We got, where do we report a rental property on schedule E but when we’re renting equipment we call that personal property. In other words anything that’s not real estate is considered personal property that goes on schedule C.

[36:28.20] Why do we not like that? Audit risk, subject to self-employment tax, you know a couple other reasons there. When I first look at that, I think oh you’re going to  have to report this on schedule C and pay self-employment tax and what issue jumps?

[36:42.72] Eliot: Firstly, to answer the question. Can you do this? Yeah, you absolutely but is there a real purpose to it? Are we just making our day a little bit more confusing? Because if you do this as Barley points out, you now personally own the vehicle and you’re leasing it to your your private investigation business, which brings up another issue.

[37:08.08] How is that taxed? Which will step into that later on. But that’s a business transaction. I have to recognize income for leasing it out to my business and yeah, I can take some deductions against it. It will depend on how much is personal use versus business use. Are you going to have over 50% business use? Typically if you want to have bonus depreciation.

[37:30.38] Vehicle brings into certain problems or I should say problems. But check boxes that we have to look for, is it a car vehicle? Then we got to watch out for things like we’re going to  be limited perhaps in how much deduction we can take immediately.

[37:49.12] Barley: That’s not a 100% bonus. 

[37:55.76] Eliot: It’s very limited. It’s probably going to be in the 30 maybe 40,000 ballpark when it’s all said and done, maybe a little bit less. Whereas if it’s over 6,000 pounds, what do we got going on there? If it’s an SUV.

[38:04.34] Barley: You go by the Hammer or the G-Wagon, you can deduct that where we just incentivize. I don’t want to go slurs or something. But yes, those are eligible for 100%.

[38:14.12] Eliot: We have those kind of issues to think as well, but still getting back just a complexity. Am I making my day better if I lease it to the business because if the business doesn’t use it as you know enough. It’s not using business enough. Then all of a sudden you may not be able to take these heavy deduction amounts of depreciation amounts of the bonus amounts. 

[38:38.40] Can have depreciation recapture. All kinds of nastiness, I know what I’ll do. I just won’t you know, I’ll have a lease that’s higher than what or you know I have an overall loss coming in. It’s going to be a fair market rates. It’s going to be an arms length transaction. You guys see what the real value is here. You’re going to  be responsible for documenting that as well

[39:03.32] Really the key here is we would go with what we typically recommend and that is that you keep a mileage log and typically you purchase personally. Then you can maybe get reimbursed depending on how your PI business is taxed. What are we looking at for reimbursements with a bit some kind of taxation or we got.

[39:23.88] Barley: We were talking about just a moment ago with the trade structure is C corporation. Similar kind of thing here. We’d like to see if you’re making a certain amount of income. We’d like to see it structured as an S corporation. What’s unique about that year, by default, considered an employee or the employer and employee.

[39:40.12] No matter what, as an employee, you’re now eligible to be reimbursed for mileage, also health insurance, home office, 280A, all these other things, right? But mainly what we’re talking about here, obviously the vehicle, so you can be reimbursed. It’s selling still 72 and a half cents a mile. Boy, the nice thing about that is you don’t have to deal with any, there’s no schedule C. There’s no paperwork, there’s no liability.

[40:03.32]  Plus this is, correct me if I’m wrong, but this would be considered like a related party transaction kind of heavily screwed. I’m sure we’d get scrutinized from the IRS. I mean listed transit, listed property, vehicles are considered lists from. There’s a lot of scrutiny there. We can avoid all that and just could take a tax reimbursement and it’s 72 and a half cents per mile. Deduction of the business if it’s structured as an S-corporation. Get a good advantage there.

[40:29.44] Eliot: Just to dig a little bit deeper and put some more garnishment on that. What Barley’s talking about is you can have an accountable plan. Accountable plans are only for employees. Which exactly why he’s pointed out is what you are for your S-corporation because you are an employee. You get the accountable plan and underneath our accountable plan. That just means reimbursement. It means you can be reimbursed for that mileage every time you leave your home office. Now you want to get a home office in your house.

[40:58.40] Barley: Another reason to have this is an S-corp.

[40:59.40] Eliot: Absolutely. Now we got our S-corporation. We have a back bedroom that we use as our office for our PI business, where we keep all of our records and I don’t know what kind of photos. I don’t know what’s going on. Whatever that kind of stuff is. But every time you leave now and you drive on a mission to go get pictures or whatever it is.

[41:30.96] If you didn’t have that office now every time you drive it, it’s not reimbursable. That’s one thing to take in consideration. It’d be the same thing on a schedule. See if you didn’t have an S-corporation things to watch out there as well. A lot of advantages to maybe set make sure our PI business is a corporation.

[41:53.12] Probably an S-corp would be best. Why? Just because of its savings on employment tax. The C corporation though if you had the medical, you mentioned medical maybe that’s a more important issue. Well, then that would be a C corporation. We have medical reimbursement issues. Always talk with your tax advisor. Walk through these scenarios and the various fact patterns.

[42:12.16] You can see all these questions. This one’s no exception, very very fact intensive. We’re making some assumptions here because we have to but it just goes to the showing. How it can twist and turn just on one fact pattern or one particular fact. Again, probably purchase in your own name. Get reimbursed from your corporation for it. It’s still yours and the more you drive the more reimbursement you get and that’s a deduction to your corporation saving you taxes. Money back in your tax-free money in your pocket. 

[42:42.56] Barley: That’s right, schedule C, you can take it as a deduction if you’re sole proprietor. Even a partnership perhaps you can take it as a deduction, but you can’t reimburse yourself the cash. We want to find that sweet spot where it hit get a deduction to our business that results in a tax-free reimbursement our pocket. That’s a great, great option. Guys shake it off stretch about halfway there.

[43:02.76] How we doing? Make sure you tune in YouTube channels, you know the drill. Toby’s got so many great interviews on there. So as Clint, Clint focus is more on the asset protection. Then Toby of course is on the tax law side and together they are. Scan here if you want to set up a call we can get you in a strategy session right away with one of our CPAs tax advisors we’ve got a great team here. Plus, let us know whatever else you guys are working on.

[43:29.12] We got the nonprofit team a bunch of different options here. Let’s hop back in. What do we got next? I live in Washington State. If I buy a rental in Oregon, do I have to file  Oregon tax and pay Oregon tax on the property located there? What say you mr. Tunk? 

[43:53.84] Eliot: This is kind of a softball one. If you have property, any kind of source state is really what it comes down to and definitely the source state here is Oregon. It’s their land. So if you have rental in that state, you’re going to  have to pay Oregon State tax on that. No question about it and this is really kind of a softball one threw it in there just kind of leading up to as we get into more of the real estate stuff in it.

[44:18.00] Barley: Good point to touch on here. I feel like just going back to my tax prep days when we were talking about the partnership. How do we know who gets a K1 and all that we enter this partnership information. It’s a similar kind of process here when you go to file your federal tax return.] You’re going to  list out your different businesses and activities and assets that you own and other states and stuff like that.

[44:38.28] This is where you’re going to say, I have a Oregon rental property. Here’s how much it made. Then the state filing requirement may or may not be triggered at that time. I mean for Oregon you’re going to if you have income you’re going to have to report and that’s going to  be true in most cases.

[44:52.96] But that will be handled when you file your 1040, your federal tax return. You’re going to report these different sources of income. That will determine whether you need to file state return and whether or not you and how much of a tax you owe there.

[45:05.08] Eliot: Just being in Oregon I know from some of our experience with tax prep on it. Maybe we’re in Portland and now Portland if you’re familiar with that area, you have county considerations. You have city considerations, you basically have some neighborhood considerations for tax purposes and all these different things going on there. I haven’t seen anything as complex as a Portland city.

[45:27.52] Barley: I was just reading about the other day, Multnomah County in Portland, they have their own things.

 [45:37.08] Eliot: I hadn’t seen anything that complex since maybe New York City where you have the boroughs and all that. They really get into the nitty-gritty in Oregon on some of these things. You have a lot of considerations if you have a rental in that county.

[45:49.88] Barley: The area city limits there.

[45:51.88] Eliot: The simple answer is yeah, the properties located there that the state’s a sovereign. It owns its land. It certainly tax the income being produced there. 

[46:07.72] Barley: Great question. Next I run three Airbnb properties and I have an LLC taxed as an S-corp, that I have admit and I have a management company where all revenue and expenses flow into. We’re going to address that. It does not take depreciation. We’re talking about the S-corp here since the LLC doesn’t own the property, that’s good.

[46:34.00] As we have our deeds in our personal name. We’ll talk about that as well. How can I take advantage of the loss and appreciation offset and meet our lost appreciation to offset our W2 in this case? I have another very common question. How do we get an active loss that will offset our W2 from real estate? Let’s hop right in. 

[46:55.08] Eliot: Basically here we got our S-corporation. 

[46:58.00] Barley: S-corp manager, this is going to be real typical right for you guys. We’re going to  hold a property in an LLC or a partnership and may even still be in your personal name like you have it now. Before you get contractors in there swinging hammers and tenants breaking windows. You’ll probably want to get an LLC or a land trust or something talk to one of the attorneys here, right? A very typical structure. We’re going to  hold a rental property in an LLC and set up a corporation to manage our own properties a lot of tax benefits there.

[47:20.30] Eliot: If we didn’t have that we had no S-corporation. Well, then all this money would just go on to your 1040 and be taxed.

[47:27.88] Barley: First option, always look but what if we do nothing.  This just all hundred percent of the revenue will flow into schedule E of your personal tax return all taxable to you.

[47:37.88] Eliot: But the minute that we bring in this management corp and this happens to be an S-corporation. Well a portion of our rents maybe 10% gross rents. For each of these will go up to our S-corporation and that’s a deduction against the rental income from these.

[47:55.92] Barley: I know she’s a gross rent student. This is a net profit. You can still have a loss and still take a percentage of gross rents.

[48:01.24] Eliot: Absolutely. If we had $100 a rent and we just paid $10 off. Now we have only net $90 and $10 of earned income in our S-corp which Barley pointed out earlier. When we have a corporation, we had a C corp in that question. But when a management corporation has that kind of income. He had all kinds of ways to get it out of their back tax free 280A corporate meetings, medical.

[48:28.46] We don’t have medical reimbursement on S-corp, but we still have the accountable plan your employee there. So that administrative office, maybe if you have that administrative office, maybe you’re driving again over to these properties in your little car. I’m not even going to  try and draw a car, but you’re doing that reimbursement. You got all these goodies under the S-corporation to help get that $10 in a 10%.

[48:51.40] Whatever amount’s going in that S-corporation get it back to you tax free and you already got the benefit of a tax seduction when you took it against your rents. 

[49:00.00] Barley: It sounds kind of like the trade structure. Same kind of concept.You’re just skimming profits off the top of your own activity. You’re charging yourself a management fee. It’s reducing your income. But then once you put like well, I made that money. I still want to get it take advantage of it. 

[49:22.96] Well once the money’s in the corporation. Just like Eliot said before we file the tax return before we pay tax on that$10 of management fee or whatever in the corporation. We’re going to pull it out tax-free and I know this is kind of a weird concept to wrap our heads around. But we’re looking for a tax deductions to the business that result in a payment to us that we don’t have to report.

[49:46.64] It’s kind of a sweet spot, kind of a short list of things here. Again 280A, home office that you pay health insurance premiums. Reimbursed for a number of different things there. The point being those are tax deductions to the business. But we don’t even have to report that as income let alone pay taxes on it once we get that money. This is a direct transfer from the corporation to yourself. Do this every year, wash, rinse, repeat as long as you’re in business. You’re going to  be taking this deduction tax-free cash back into your pocket. Great way to say it now. 

[50:17.28] Eliot: I want to jump back to some of the issues we spotted here. First sentence you caught some there all the revenue expenses are flowing into the S-corporation talk to us about that.

[50:26.22] Barley: That’s actually not uncommon. I’ve heard some attorneys recommend that they like that better for asset protection purposes. That’s fine. You can run the expenses through the corporation. But just remember at the end of the day or end of the month or so. Those expenses like you mentioned aren’t going to be reported to the corporation. It doesn’t report rental income or fence repairs or depreciation or property taxes. Those are all related to the rental.

[50:50.48] Yes, you can run those expenses through the property management corporation. But then you’re going to  have some bookkeeping to do at the end of the month. You got to make a statement, send some cash or a statement down to the rental properties. So that the rental property can report the rental income, the fence repairs, the depreciation, the property taxes.

[51:08.56] The corporation is only going to  report management fee income, all else being equal if it’s not doing any other business. At the end of the day, that’s all you’re going to  have left in that corporation. It doesn’t own anything. It doesn’t report any expenses related to the rental. Where we know likely all it can do one thing it can do if you just want to do bare minimum activity.

[51:27.70] It’s going to  collect rent and withhold a fee and send the balance down to the rentals done. You could just do it like that if you want it. Whatever way you’re doing it’s fine if you’re running the core of the expenses through the corporation just got to make some. Bookkeeping adjustments make sure those rental related expenses aren’t on the corporation obviously or where that.

[51:45.16] Eliot: Our rent check can go to the S-corp perfectly fine. It can pay out all the bills perfectly fine. But it only retains its management fee. That’s the only income it has here. All those bills it paid that first initial rent check,that goes all in the bookkeeping of the red boxes. It has nothing to do with the S-corporation so back to our question at first for sensor all the revenue expenses flow into it.

[52:11.72] Well, that might be that it’s receiving the check and paint on the bills and that’s perfectly fine. Just remember it’s not its income. It’s not its expenses. Those all belong to the red boxes and then we get down here on the next section or excuse me the next sentence. It does not take depreciation since our LSE doesn’t own the property exactly right for the exact same reason that it’s not going to record all the income or the expenses, those all belong to the red boxes where they show up.

[52:37.56] Now we get to the meat of it. How can we depreciate? Because usually depreciation is a huge deduction. It’s going to  create a loss often. How do we get it to offset our W2 income? We got Airbnb going on here is what we see. 

[52:54.32] Barley: short-term rental versus long-term rental. Of course, that’s going to  be one of the first distinguishments we look at, why? Long-term rental requires this rep status real estate professional status. This is when we’re spending more than half of our year on real estate activities. There’s a list of 11 activity we have broker acquisition, financing even like development construction. If you’re spending more than half your year on one of these real estate activities.

[53:19.36] You’re likely qualified to be a real estate professional. Now we still have to materially participate even if we have rep status if I’m a real estate professional driving around working for myself, broker dealer selling stuff. Even if I have rental properties, I don’t automatically just get to take the depreciation deduction. I still have to materially participate in the rental property.

[53:41.96] Long-term rentals are per se default passive activity. That’s why we need rep status just to qualify to materially participate in the property. Let’s go over to short-term rental by the way, this applies to all other businesses. How do we get the losses active, make the short-term rental active? We only need to materially participate because the short-term rental, technically not even really considered real estate anymore for tax purposes.

[54:11.20] It’s considered just like an active business just like a frozen yogurt shop or a chain of dry cleaners or whatever. You don’t need rep status to make it active. You only need to materially participate. What’s that mean? Five hundred hours or more in your material participant likely you’re going to  see this hundred hours or more as long as you have more hours than anyone else. You’ll need in a hundred hours to call it an active activity.

[54:34.36] Not only said, depreciation losses. These can be huge losses. That’s if we do a cost segregation study and apply accelerated depreciation. We could oftentimes end up with these massive losses. Are they going to be active or passive? That’s the very first fork in the road we come to. Why do we care? One’s going to  offset your W-2 and one’s not. One’s going to  create a passive loss one will offset capital gains retirement conversions W-2 all other forms of income. It’s that active status.

[55:03.08] Eliot: Going back here, call the question here. First of all, I have three Airbnb properties, which makes us think that we have a short-term rental. Average short-term real is if the average day is seven days or less than we’re in this column.

[55:15.60] Barley: We should mention that short-term rental to the IRS is kind of a specific thing said average day. That means, average calendar year January 1 to December 31st in most cases. There’s a course of sections, exceptions to all this stuff, average stay calendar year, less than seven days. That’s what keeps us in this active business role. But if you have an Airbnb, you could be renting it out for a month at a time. Just that Airbnb term doesn’t necessarily mean short-term rental. 

[55:43.88] Eliot: Exactly, right. But if it is a short-term rental and the typical test seven days average say. Right there you have a business. If we don’t have any other evidence, it’s a passive activity and that means if you have losses, well, they’re not going to  offset that W-2 that you’re asking about. But it’s a short-term rental and if you materially participate.

[56:07.36] Over 100 hours more than anybody else or 500 hours, there’s actually seven different tests. But these are two most common, easy to grasp. Well, then all said it’s not passive. It’s now active or non passive and if you take that heavy depreciation that we talked about. Well, then that is going to offset against your W-2 that we’re talking about in our question.

[56:28.04] If well Airbnb as barley points out actually the average days like two weeks or something like that. More than likely you’re going to  fall into this category long-term rental. You have to have rep status over 750 hours in the real estate trader business more than 50% of your work week and you have to materially participate in the management of your own properties as well. That’s the same MP test that we have over here. They’re identical. 

[56:56.48] Identical if you ever seen that. That’s what we have going on here. This is a much more difficult challenging prospect. If we’re trying to offset and we here’s a key word, our. That means to me spouses and they’re both W-2. That means becomes exceedingly difficult to get this LTR in this long-term rental rep status.

[57:21.58] Barley: It’s just so I could do it a CPA exam or in the test.

[57:24.04] Eliot: One little word can change the whole thing out as opposed to money. Where’s Waldo? You gotta find them everywhere in there. Oh, that’s true. If you’re both W-2.

[57:33.08] Barley: But sometimes the IRS they’re just going to  look at that right off the bat and be like, well, you’re both W2, you can’t be rep. I’m it’s not going to  be that simple. They’re going to  look at it more than that. That’s going to  be a tough one.

[57:44.08] Eliot: We’re referring to that part right there over 50% because if you got even a part time job, you work at the car wash 24 hours a week. Well, you gotta find 25 hours managing your rental properties and you skip it. You better have good records, good documentation, timely documentation to show that you put more time into that rental activity than you did the car wash. IRS is going to  come screaming this now that they’re using AI to audit.

[58:10.68] This is one the higher areas of audit risk doesn’t mean you do anything wrong. But just count that you’re going to  be asked about it. Make sure you have documentation for it. But again, usually we think in our minds if we have three Airbnb properties. Usually you’re looking at seven days or less and then we again are under this far simpler, so to speak material participation test.

[58:32.78] Just one last thing. There is a test. Well, what if it’s two weeks and we still manage it put a lot of time into it, a lot of effort. We provide significant services. Maybe you’re cleaning it every day. Are you providing food? Maybe you get some kind of uber, concierge type service. I think if it’s near a sightseeing area or something like that you provide uber access or something like that.

[58:58.32] You’re providing all these extra services then maybe if it’s in the eight days to 30 days range. You might be able to still get this material participation test again. You’re really going down. I need a tax advising consult territory there.. But back to our original question. We got three properties. We now know that the revenues and maybe we’re from a management standpoint. We take in that rent check.

[59:22.96] We pay all the bills, but that’s not our S-corporations income or expenses. That’s why it doesn’t take the depreciation. Because all that goes on the red boxes with the houses are the rentals which not owned by the C Corp. How do we take advantage? We want to make sure that we have turned us from being passive into non passive and then we get the heavy depreciation deduction. That’s by short-term rental material participation long-term rental real estate professional status 

[59:50.56] Barley: Then coupled with that hundred-hour test. Yeah, you do have to keep track about if you have other cleaners or anyone there. You’ve got to make sure you kind of track their hours and have more than them. And just to address this because just because I know you guys have heard of this term, they call the short-term rental loophole. If you put a property in service store, now that we’re coming up on July here halfway through the year.

[60:12.40] If you put a property in service, you know in the last quarter of the year. You only need to get a hundred hours or less of, you could even have substantially all of the hours or all of the hours. No one else is working on it. Just get it rented out a couple times and you’re going to  qualify for this big deduction. Now, we need to keep it as a short-term rental moving forward at least a year or two to prove our intent to the IRS.

[60:37.20] This gets into kind of a gray area guys, but just I know you guys have heard about this a lot. So I just want to touch on this. But we can turn this over to a property manager in year two. You don’t have to manage it forever. You got to manage your year one lock in your loss. This is where our documentation is so crucial where the IRS wants to make sure we’re not just doing this for the tax loss.

[60:53.76] We actually have a real business. We plan on using this asset to generate income and this gets crucial for the documentation part. But what I’m saying is you don’t have to be the active manager forever. Here, you can turn that over to a property manager, might cut into your profit margin a little bit. But then hey, you don’t have to change sheets and fix toilets anymore, right? You got to just sacrifice a couple nights and weekends in the first year or even just the end of the quarter of the first year. Get that active loss and that’s all that really matters to it to a lot of us.

[61:23.28] Eliot: One of my favorite aspects of this, let’s say we have a partnership with Barley and I decide hey, let’s get a short-term rental. This is Vegas. We could make all kinds of money. It’s not that simple folks, but let’s just say we’d hit,so 50% Barley, 50% Eliot. There’s our short-term rental in it. Barley comes in at the end of the year, he says hey, I know it’s tax time, I put in 110 hours.

[61:48.72] Fantastic, you know, I’m materially participated and I’m going to  be sitting there and thinking wow, that’s great Barley. I’m going to  make an adjustment here. I put in a hundred and eleven hours, why? Because it has to be more hundred hours, more than anybody else. All of a sudden I put a hundred and eleven hours. I have more time than barley. He doesn’t get material participation test because this is a partnership that owns it. I do, so now we’re able to screw over Barley.

[62:16.08] Barley: If you each had over 500 there could be two material participants. If you have a dry cleaner and froyo shop again, same thing applies. But the chances of a thousand hours on one short-term rental a year. No, you don’t spend half a year changing light bulbs. It’s just not realistic. Very important that we track our hours and others comes up a lot. 

[62:41.30] Eliot: I’ve seen this happen actually in partnership. They were families, they were friends before and I’m not sure they’re family or friends now.

[62:48.92] Barley: It’s a sad state of affairs that things can just goes. Operating agreements on the partnerships can get complex point partnerships, so simple, shake hands, go start making money file your tax return. I mean there’s really nothing else to it. But when you’re counting on those the dissolution, the operating agreements.  You just get into the more you don’t want to be.

[63:14.12] How are we doing? A couple more here guys, hanging in there doing great. We better keep it moving here. How can I avoid or minimize capital gain taxes if I sell a rental property, I’ve had for seven years? Now I remember when we talked about this moment the very first night the thing I think of is, I would look for what we call passive activity losses or PALS.

[63:33.52] We’re assuming a rental property. We’re going to assume it’s long-term rental for this case. We’re looking at a long-term rental had it for seven years. I’m going to  sell it and probably have some appreciation here about it back. First of all let’s start here. How do we determine gain? Eliot’s going to go into the kind of various options here in a minute.

[63:51.84] But just real quick for you guys, purchase price minus land is going to  be our depreciable basis. Depreciable basis minus depreciation is our what we call adjusted basis. Why is that important? Sale price minus adjusted basis is your taxable gain. That’s how we determine the gain. Within there, there’s a couple more components might be some depreciation and recapture that kind of thing.

[64:15.66] But generally speaking that’s how we determine our gain. If you held a property for seven years, it’s likely gone up in value. What does that have for a tax purpose with basis? Not really anything. Where is it reflected in the sale price? Sale price, it’s going to  be your fair market value as long as it’s a third-party arms length transaction, if you will. The fair market values to sell price unless you’re adjusted basis is going to be our gain. Just to give you the background on that, that’s our formula there. But what kind of options are we looking at here?

[64:44.04] Eliot: Passive losses like Barley talked about. If you sell a property all the passive losses it created or any other passive losses going on from other rentals will help be released to offset some of that gain. So that might be something, 1245 cost-seg what’s going on here? I just want to jump back to one fact here. It says we’ve had it for seven years.

[65:04.36] Maybe we did a cost segregation if we had our tax hats on when we first bought it. We’ve split it into different kinds of property and what can happen, part of that property is usually five-year property. But here we’ve waited seven years to sell it. You can go through with that and do a second well called 1245 cost-seg and they go back and they look at the value.

[65:31.40] What’s the fair market value of all the five-year property because it’s probably worth darn near zero, but it’s not going to  be zero. You can’t necessarily completely write off all of it. But at least it’s going to  be greatly reduced and our partners who are vendors, I should say that help a lot of our clients CSA Authority cost seg negationers. 

[65:53.48] They go through and do all these 1245 studies after the fact when they say well, what is the real value of that five-year property? Because if the five-year property is very minimal and we’ve had it seven years.  It’s basically we’re saying, theoretically has no value at all.  Then we can put more write it off and that just means more they gain will be taxed other ways more favorably capital gain.  That’s what our second set the first again be in the passive losses.

[66:24.44] See if we could get those to help off some of our gain. Cost seg 1245, just talk to them ring up CSA partners and say hey, I’d like to have a free estimate on a 1245 study. I think it’s selling. I’ve held it for seven years. If you added just something to consider. 1031 but we got going on there. 

[66:45.04] Barley: That’s the first thing we look at in real estate, right? Maybe not the first thing, the first option we do nothing or release pals. Those are easy, but 1031 exchange is always going to  come up in real estate. This is one of our primary methods for deferring the tax. Remember, this is just kicking the can down the road. We’re deferring the tax deferring the tax.

[67:02.72] But if we hold these properties for the rest of our lives and pass them on to our heirs. There’s never any tax, do the tax, eventually gets excluded completely, wiped out completely. But at 1031 exchange, so if we have a property that’s gone up a lot in value. We know we’re going to  get hit with a big tax capital gain tax it. Maybe want to reinvest into another piece of property that we found as long as we trade up in value and up in debt. We pay more for the property then we can defer all the gain, all the depreciation recapture. That’s an excellent option to look at.

[67:35.12] Eliot: The lazy 1031 really is a close cousin almost identical in theory to the PALS.  In the year you sell, go and pick up another rental property. This is if it’s more usually in the passive realm. It’s not active or you excuse me. You haven’t had real estate professional status or anything like that. But you could get another property, do a cost segregation study at most appreciation.

[67:58.56] You’re creating a lot of passive losses that again will be released in the year that you sell that other property. It’s really a combination of it’s a further step with number one. You’re just buying a new property, you’re not really doing an exchange. We call it a lazy 1031 because you’re not going through any of the formalities or anything like that. I have a true 1031, but it helps wipe out a lot of the gain.

[68:20.62] It’s a very effective tool as well last capital gain harvest. If you have any other assets out there that you know, it would create a capital loss. Well after you get through all this calculation you have some element of capital gain leftover. Which is what we’re talking about how to minimize our capital gains. Just start selling other things at a capital loss if you know, they’re not going to  do you any good later on. Well, now’s the time to use them and you know, set them up because that’s going to  offset those capital gains as well.

[68:52.00] Barley: Yeah, great question. Now. Let’s see anything else you want to touch there. I know what I was going to  say back to the original question. How can we offset our W2 with depreciation losses, creating an active loss? Well, I just want to clarify if you just have passive income, you don’t need rep status.

[69:17.16] Just like we just went over you can just be looking for rental properties do a cost segregation study. Take a large passive loss. If you just have a bunch of passive income, that’s a win. We would only really have any steps after that. So just keeping that in mind and that can certainly be an option as well. Similarly on the same line here. Can a long-term capital loss from the sale of a business?

[69:40.16] We just talked about the sale of a rental. Can a long-term capital loss from the sale of a business be used to offset long-term capital gains from the sale of a personal residence? You guys can see a lot of these changes terms are going to  be interchangeable here. We had you know, maybe we sold a rental or and we had a loss or sold a business.

[69:56.66] We have a capital gain and a loss on a rental capital, assets capital gains, it’s what we’re talking about your primary residence. Ironically, even though it’s not a business asset. It’s considered a capitalized asset. It’s matched to the match to the crime, matches the punishment if you will.

[70:12.28] Eliot: What we’re looking at here just breaking down. We’ve talked about this on many shows when you sell a business you have two types of sales. It’s either going to  be a sell the assets or it’s going to  be a sell the stock. The assets you get into a lot more complexity, but it can you know, it’s typically what you’re going to  see because it’s more favorable to the buyer.

[70:32.08] Barley: Oh, yeah. Thank you for touching on that. That’s first things we got to look at.

[70:35.56] Eliot: Of course when we do that these assets are typically 1245 property, which doesn’t mean a whole lot to us initially necessarily. But it does from a tax perspective when you sell something. Because it means that if you had, in this case as they mentioned it was an overall loss from the sale of the business. If it’s a sale of assets through the complexity of the code what really happens with most of those assets is you have what’s called 1231 ordinary loss for those assets.

[71:04.04] It’s an ordinary loss and that means we talked about that earlier when you have an ordinary loss that offsets any gains on your return. I don’t care where the income came from. That’s something you want to keep in mind and that’s what they mentioned in the call of the question is that hey, this was a loss on the sale of the business. If it’s a sell stock, it’s simply just like you sold a stock of Boeing. Did you have gains or lots of what’s capital activity?

[71:29.60] Barley: If there was your basis, sales price line minus basis.

[71:33.12] Eliot: It’s going to be a capital loss in this case and  that was that capital gains. But when we get down to the house, we got a first contend with something called 121. And actually before we do that, we have to contend with, did I ever use it in a trader business? Maybe I’d rented this out before and then I moved into it made it my home. Maybe I had an office that I use and I took depreciation on or something like that. 

[71:57.20] When you sell a house, let’s say the gain was, I don’t know, 700,000. Original basis was a hundred. But you’d taken 20K of depreciation on that.Your first gain here of 600K. You’re going to have the first 20,000 is going to  be depreciation recapture if you did use it in a trader business. That leaves us of a 580 and then we run into 121. What’s going on there?

[72:29.74] Barley: Well, we love that one because it contains this magical tax word, exclusion. Gone forever not deferred not kicking the can section 121 exclusion as it relates to your primary residence. Basically says if you pass them what we call the ownership and use test if you own the property which we likely do. And you live there two out of the last five years. Again, assuming it wasn’t a rental before because that would create a period of unqualified use that would eat away at our section 121 exclusion.

[72:57.12] But if we pass the ownership and use tests two out of the last five years, we hold title the property all that stuff, then we can exclude $250,000 single married to $500,000. Exclude $500,000 from the gain which don’t have to pay tax on it. That’s certainly the thing with one thing we want to look at. This is another number that just hasn’t gone up in a long. That was a big number when it first. It’s still kind of a decent number, but that probably should be about double what it is.

[73:32.04] Eliot: We take that $500,000. Let’s say we’re married flying joint against our 580 now

[73:36.48] We only have $80,000 a game and if we had $80,000 a capital and that’s capital game and we had sell stock. Well, then now we can marry that up.

[73:47.48] Barley: Capital gains, you’d be pulled schedule D for those you following along in your tax returns there. Short-term gains net net long-term gains net net and then they net together. Our capital losses and capital gains all kind of get pulled into one eventually a lot of netting. But what else on this one?

[74:07.56] Eliot: Well, that’s pretty much it. Personal residents cover that again appreciation recapture we using the business. I think we’re good on that. 

[74:14.04] Barley: A little technical one. A non dividend are non dividend by the way great. I work today guys, last question. We’re going to  do a little wrap up here in a moment. But just to make sure we don’t leave you hanging here. There are non dividend distributions considered return of capital and therefore not taxed. What are we asking about here?

[74:33.12] Eliot: We got a lot going on. What we’re saying and we’re talking the corporate world here when we talk about dividends and things of that nature. If you have money that you’re going to give out as a dividend to the shareholders. The first thing you look at is what is the current year and accumulated earnings and profits and that’s something that’s tracked in your tax return. 

[74:57.88] Okay, and so let’s say we had 150 of that current and accumulated earnings and profits and we want to give out a dividend of let’s say $500.  Well, the first 150 is going to  be a dividend and that typically means capital gain. The first 150 that leaves us with 350 at left over at this point.

[75:23.16] The next part is a non dividend, which means it’s a return of shareholder basis. If you had a hundred dollars a shareholder basis, it’s supposed to be a hundred.

[75:36.00] Barley: It’s that basis term again, right keeps coming back a lot.

[75:40.32] Eliot: Oh boy does it and so our 350, the next hundred. You wouldn’t have any taxation because you’re just getting your basis that you originally purchased that back in. Now your value your shares are zero if you ever sold those are going to  be completely taxable. But this is a non dividend. That means you’re getting your basic shareholder basis back.

[75:58.10] That leaves us with 250 and the last that is going to be treated as if you sold property.  Which just means capital gain  on the 25. That’s ordering that the tax code makes us go through in order to get through all this and that’s where we get a non dividend distribution. That means return of shareholder basis.

[76:20.36] Barley: It’s going to return of a capital, the rest of us capital gain, exactly.

[76:23.62] Eliot: Got fringe territory. A lot of these questions is a fail. We do a plane with the bread and butter rental. We even got that in there today.

[76:32.72] Barley: Yeah, great work today guys kind of all over. But great questions, as usual focusing on the real estate, small business, great questions today. I hope you guys got a lot of value out of that once again, sign up for the YouTube channel as you guys know the drill Clint Coons, Toby Mathis. Live events coming up.

[76:48.00] Come down to Dallas. Come see us in Dallas. We’d love to see you there. Schedule a strategy session, right now you can scan that code and hop on and talk to one of our advisors get that ball rolling.Yeah, thanks again for the answer. 

[76:56.40] Eliot: A real quick. Thanks to Jennifer, Dutch got Harry, Jared, Jeffrey. Tonya, Troy and we got Jacob in the back. Yeah, they are the ones doing all the heavy lifting. We was just going to  sell appreciative and we thank you and give them a hand if you would.

[77:14.20] Barley: Yes. Yeah, I hope you guys got a lot of value out of this. Hope to see you back here in two weeks, submit questions, participate, right? Let’s get down to it. Let’s get in the weeds and get this figured out, fast, fun, and educational. We want to bring these concepts to you but, certainly this is where we really want to start applying these strategies.

[77:31.72] And start seeing these tax savings, email your questions. We’ll go through them here in another couple weeks. Go visit the website. Let us know if you have any questions. Otherwise, we’ll see you back here in two weeks. All right. Thanks guys. See you next time.

[77:45.32] Outro: