EP 011 - Tax and Investment Strategies for Real Estate Agents

Combining a real estate license with real estate investing creates a world of opportunities to build wealth. There are also many tax advantages and tax traps to consider. On this webinar, we are going to discuss:

- Common write-offs
- Payroll taxes and planning
- The Real Estate Professional Tax Status
- How your Real Estate License Helps with Investing
- How Investing Creates Opportunities for Being a Realtor

Transcript

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SPEAKER_00 0:09

Welcome everybody to my live webinar of the topic of tax strategies, tax and investment strategies for real estate agents. Lots of stuff to talk about here when we're combining these two activities. Uh, when you are becoming a full-time real estate agent or part-time real estate agent, lots of ways that we can save money on taxes and create new opportunities as both investors and as uh real estate agents. So the two work hand in hand to help create new opportunities for increasing your revenues and for saving money in your business expenses, and also um it's gonna create a lot of opportunities for reducing your taxes, which we will go over as well. Lots of different ways, different scenarios could play out that I'm gonna touch on. So, some of you watch the recorded version of this, hit subscribe. Also, if you are a real estate agent, um I do provide, which we will talk about towards the end, uh discovery session. Usually that will be free 99% of the time it is, where I look at your prior return and what you are expecting to see in your current year, and we can determine the value of a tax plan. A tax plan will always generate more savings than the investment price for that tax plan. So if some of these concepts sound interesting, you think you might be interested, just shoot me an email at the end. You don't have to watch this for some of you watching the recorded version. I'd love to see if I may be a good fit for helping you out. Now let's go into the slides. Let me get my screen share out. Okay. So for uh here are just some of the topics that we are going to discuss. Advantages of being a realtor and investor. So we're gonna just talk about um some of the advantages of combining the two activities when they work hand in hand for creating some business opportunities and also some some tax savings. Then we're gonna go off to write-off strategies for minimizing your tax liabilities and some write-offs that we can create as in as real estate agents in particular, and then using tax savings to build wealth. So when we're combining the activities of being a real estate agent and being an investor, when we app when we apply an effective tax strategy that is aligned with our goals to achieve financial freedom. Uh this is I'm gonna illustrate some examples of how we can put this all together. And when we have an effective business and tax strategy, we can really do some powerful things to help you reach your goal of financial freedom. The reason why I talk about financial freedom so much is that my business is designed to help all my clients out in understanding how to navigate uh the financial and taxation systems out there to best achieve financial freedom as quickly and effectively as possible. Advantages of being a realtor for investors. We have flexibility of time. This is a fantastic thing. So a lot of times we will have um uh the husband works full-time and the wife wants to start generating some wealth-building devices of some real estate. Also, if you can work at home and now you have the opportunity to do everything, you can still watch after your kids and do whatever you want to do, and you have that flexibility, and now we get that real estate professional tax status, which is so powerful, which we will talk about later. Relationships with real estate professionals. So when you're you're looking to close deals and you are a real estate agent, you've done lots of deals. So when you want to do them for yourself, you know the right attorneys, the right banks, the best interest rates, you can close the deals fast. The market knowledge as a real estate uh the real estate agent. If you are looking for properties and you can do your own deals, you know when things are underpriced and overpriced, and when different of different properties become available, because now you have access to that MLS and you can make those direct offers, right? So you can contact the sellers directly, you have to go through fewer people so you can close deals faster, get better prices below market. You can find expired listings, making cash offers potentially. There's a way to do it. We can talk you. If you watch my prior webinar on tax uh partnering with the right bank, you don't need to use your own cash to do cash offers, and you should try to make as many offers as you can. If you're using uh a real estate agent, sometimes they don't want to put in those low offers because they get embarrassed. But if you're working for yourself, it's not as big of a deal. Um, contingencies with with uh right, so with private and hard money lending is also uh also ways that we can we can we can make offers. Um one of the things we can do is if you are a real estate agent and you are selling, you can offer different forms of financing, like overfinancing, subject to an expired listings or purchasing, all different ways that you can structure purchases and sales that are a little more complex than conventional forms of purchases. And um, when you are your own real estate agent, you're gonna have a greater ability to communicate these different ideas and negotiate some more advanced strategies of financing financing and purchase properties. Now, the advantage of being an investor for agents. Now, a lot of you real estate agents out there know how painful it is when a deal dies, and some that times that deal can be a five or six-figure deal, uh, and you have these sporadic commission payments coming in. If you have some rental property, you have steadily monthly cash flow coming in. You're gonna have tons of new tax write-offs that we can create that we will go into later. Uh, when you own property, you get a you and that property's depreciation, even if it's cash flow positive, it can operate at a loss on paper and reduce your overall taxes. Even though you're growing, you have an asset that's growing in value and generating cash flow, it can also reduce your taxes with if you have a good tax strategy for your real estate investments. Commissions on the sales and purchases of your properties. So if you're selling your own properties, you don't have to pay another agent uh on those commissions, so you're gonna save a good chunk of change right there on those commissions. Uh, more listings and more leads, right? So, as you're selling your own properties, you may have the opportunity to interface with other buyers if a property is not right. They can be your clients. Um, let's say you are an investor and you identify a property for sale through your network because they know that you're buying properties and you're interested. First, you can think about buying it for yourself as an investor, and if that doesn't make sense, now you have a client to sell one of your properties as a real estate agent. Lots of opportunities here just because you're gonna get more involved in all of these transactions. So, some of the now we're gonna dive into some of the tax challenges and strategies uh that we want to consider uh when we are combining these two activities. Um, now before we talk about the tax strategies, uh let's talk about the most painful and challenging thing about owning your own business uh with active income. Uh now this can apply to real estate agents, wholesalers, people buying and selling land, or uh property managers as well. Anyone, most people starting their own business, that income will be reported on your Schedule C and treated as active income. And that active income is not treated so kindly by the IRS because of this thing called payroll taxes or self-employment tax, which is the taxes on your Social Security and Medicare taxes that is going to be 15.3% on that net Schedule C income uh for the first $137,700 in 2020. After that, you're gonna be paying a 3.8% tax on that on the Medicare. That is on top of your federal and state taxes that you're already paying. Uh, also consider um you can only deduct 50% of that against your federal taxes to reduce your federal taxes. Many people, when they're starting out, will actually be paying more in payroll and self-employment taxes than they will in federal and state taxes because you don't see the benefit of that standard deduction to make that first roughly $12,000 or $24,000 of income tax-free. So lots of challenges is here. Um, and as I said, you know, you can't itemize against this tax, it's it can be real painful. Uh so what can we do to bring down our taxable income? First, we want to maximize our write-offs, right? And in the eyes of the IRS, as you can see here, it must be most both ordinary and necessary in the regular course of business. Um, also, they say there's a little gray zone area here, and there's a little bit that's open to interpretation. A necessary expense is one that is helpful and appropriate for your trade and business. It does not have to be an indispensable expense to be considered necessary. We do have a little bit of wiggle room here on what we consider a business expense, and we want to make sure that we are aware of all the write-offs that we can take and we are recording them in a compliant manner and optimizing those write-offs. Some low-hanging fruit here or travel, right? If you're driving around your clients, make sure that you are getting your mileage deduction at 58% per mile. Uh, we also can use, I didn't put this on the slides, bonus depreciation for certain vehicles. One criteria is if it's over 6,000 pounds, we can fully depreciate that entire vehicle and use that write-off to offset your taxable income. Uh, even if we are financing with 1% down, we can write off a full vehicle. Um, meals is another one. Try to have business meals. Uh, you know, if you have any real estate-related topics you're discussing, we can create these meals right off the meal write-offs as well. Lots of things we can do here if we are uh resourceful and fully understand when we can write off travel, not just for driving around clients, but creating business purpose for our travels and making sure that we identify and capitalize on the greatest opportunities to write off all these items. Back to self-employment now. So now we've brought down our overall schedule C income, but we're still going to be paying that payroll taxes. So, what do we do? The most common solution is the S Corp tax election. Now, the S-Corp Tax Election is an election that you can choose for a C Corp or an LLC. Either one can be choose to be taxed as an S-corp. Most of you will form an LLC. That LLC uh will elect to be taxed as an S-corp when it makes sense. Uh, a lot of people and either other accounts don't really understand what an S-corp is. So I created this diagram, and I think that this is the best way that I can explain it to people who are maybe being exposed to this concept for the first time. So you have your normally you have the client, the client pays the commissions to the brokerage firm, and the brokerage firm pays you or your LLC who you work under, and then you just get taxed on that income. When you have an when you have an S corporation, an LLC tax as an S corporation, the what's going to happen now is as you can see on this diagram, the client pays a brokerage firm, the brokerage firm pays your entity that you work under, and then this income is going to be classified into two different types of funds that are going to come into your account. Uh, first, you have your employee salary of reasonable compensation. So you are going to be an employee of your S corporation. As an employee, you will pay 50% of that payroll tax that we were talking about earlier on that salary that we decide. The other 50% of that payroll taxes will be paid by your S corporation. That 15.3% will be split 50-50 between you and your S-corp uh for that salary portion. Anything above that salary will be uh treated as a shareholder distribution, which will not be subject to that Medicare tax. Uh, and this is actually I this is a slight area, it is not treated as passive income, but there is no, it looks like passive income because, like with your schedule E's, uh you will be you will not be paying the payroll tax just like uh passive positive income from schedule E's. Um there is no distribution tax. What I mean by that is from corporations when you get a dividend distribution, you pay that 15 or 20 percent uh tax on that amount. We do not have to pay that tax on your distributions that you receive, which are not part of your salary. So it's there's no double taxation on that amount. Um, now the S-corp can save you tons of money, but make sure you talk to an advisor before you consider doing this because you can wind up shooting yourself in the foot if you choose this S-corp corporation too early. It can actually result in paying more taxes and also more filing fees and more work to maintain that S-corp as you're now creating payroll taxes and whatnot. So make sure you are talking to a knowledgeable uh accountant to determine whether the S-corp tax election uh makes sense for your business. Also consider the fact that once you do it in whatever year, that S election will count retroactively for from the beginning of the year until the end of the year. Uh so once we know we've reached an income threshold where it makes sense, where the income exceeds your at least what your reasonable wage is, and then some uh we can we can treat the entire year's activity under that LLC to be to have that favorable S corporation tax status. Here's an example uh, and this is a simplified example uh of um what we can do with an S corporation to save money on our payroll taxes. Before the S Corp, we have that 15.3 uh self-employment tax on the first $137,700, right? So let's say we have uh $175,000 commission income, and to simplify things, we do not have any write-offs at all. Uh so we're gonna be paying $21,068 on your first $137,700 in 2020, and then you're gonna be on the remaining amount of that income, you're gonna be paying another roughly $1,400, a total of $22,000, $485 in self-employment tax, and then you got to pay your federal and state. That's a lot of tax. But let's say we create an S-corp that you work under and you have the same numbers. Uh, so you now have a you give yourself a salary of $60,000, we determine. Uh, this will reduce your payroll taxes to $9,180. Um, zero self-employment taxes will be paid on the remaining distribution, which will result in an overall reduction in your self-social security manager care taxes of $13,305. Not bad, right? Another thing you want to keep in mind is we have this QBI qualified business income deduction. I wanted to point this out because a lot of real estate investors are self-prepared. And uh I had a client who wasn't a self-preparer, but his CPA was reaching toward retirement and didn't really care about anything new in the Tax Cut and Jobs Act. But we want to consider this 20% QBI deduction. Uh, it is uh basically you look at your net income on your Schedule C and you will get a 20% uh reduction in the taxable amount for uh uh determining your overall taxable income. Um now there are phase outs and all sorts of uh complexities here, but just to keep it simple, you want to look at line 10 on page one of your return to make sure that you are taking advantage of that QBI and you didn't miss it. Um just look for that and make sure you're taking care of that uh because that might be a missed opportunity. Now let's talk about combining all these strategies now. And there's something that is really important, and I think I could do a whole webinar just on this topic uh of the real estate professional tax status. Uh, that is when we think about tax advantages of going full-time, the real estate professional tax status is so significant and so powerful, especially if you are married and your spouse is generating active income. The reason why is when you normally have real estate investments, those investments are gonna active, we're gonna be uh treated as a loss on paper. Even if they're cash flow positive, we have all these write-offs from depreciation, and if we have a good strategy in place, you're not gonna be taxed on your on your investment income. In fact, it will result in passive losses. But passive losses can't really be used so much to offset that active income that you are paying from uh your that that active income that is either your W-2 income or maybe other sources of businesses you started. Uh, you really can't use passive losses to offset active income, so they kind of get lost and carry forward into future years to offset future passive income. Wouldn't it be great if we could use those losses right now? Uh we want to get our losses in now and keep and get the tax savings as much tax savings as early as we can now, so we can use that cash and that capital that we free up to reinvest into new real estate. With the real estate professional tax status, we can do that. If you are a full-time real estate agent, you will get that real estate professional tax status. Uh, I don't want to go into too much detail, but you have to have at least more than 50% of your working hours put into your real estate trader business and more than 750 hours total. So you can still be doing this from home part-time uh while doing other stuff as well, as long as you reach those thresholds. Also, you will have to materially participate into the management of these real estate investments. So once you've done these two things, right? You're a real estate agent, you and your spouse have income, you materially participate in the manager of this property. We have this property, let's say we buy it for a good chunk of change here. Uh, we have an example below. Uh you want to you want to next thing consider doing a cost segregation study. You can watch my webinar depreciation where I dive deeper into this, but to keep things uh to keep me from going down too many rabbit holes. If you want me to talk about it, give me give me some stuff in the Q ⁇ A. But basically, we can do a cost segregation study to accelerate depreciation and then recognize bonus depreciation to even have more depreciation and create massive write-offs that are non-cash. Depreciation is just uh and it's a non-cash expense, um, and that will create uh significant uh losses on your real estate investing operations. So to illustrate how effective this can be, uh you have a real estate professional with material participation, we implement the cost segregation studies. Um we have a $300,000 purchase of real estate, one real estate property, and uh this is kind of a simulation of a very similar example I've seen. Um we do the cost segregation and we have a non-cash write-off of $50,000 for bonus depreciation at a net 30% tax, uh, you know, tax bracket. We're gonna see a roughly a uh a $15,000 uh reduction in your taxes. Now that can be now let's say those taxes have been paid already from your paycheck. Let's say you your spouse has been paying uh federal estate taxes. Uh when we can do this, you're gonna be excited to see uh $15,000 and of additional uh money refunded to you from your taxes. Now let's say let's let's up the numbers here. Uh we purchased $900,000 in in real estate. Even if we leverage it, we can still recognize as much depreciation as if as though we purchased it in cash. We're leveraging, you know, even 20% down, but we have that entire property that we can accelerate depreciation on. So with a $900,000 purchase, we do the cost seg and we identify $150,000 uh of bonus depreciation, and we can in this instance we would at a 30% marginal tax rate result in a reduction of $45,000 uh in taxes that can be returned to you in the form of a refund or just the overall reduction in taxes. Umce we get into a lower tax bracket, let's say this is your first year doing this and we have some phenomenal uh write offs from depreciation. If we can bring your tax, it's taxable income low enough, now it might be an idea to get a little fancy here, consider. Roth IRA rollover. Pull your money from your solo 401ks or your traditional IRAs. Now that you're in a lower tax bracket, you can recognize that taxable income at your lower tax bracket and put it into your Roth, and that can grow tax free. The last uh slide on this topic I wanted to talk about is aligning this strategy and these activities with your overall goals. Now, as I was talking about earlier, we want to get towards living a tax-free life and achieving financial freedom. We want to create as many riots as we can uh through uh through ordinary activities, even if it's not specifically what you would think of as your necess as your absolutely necessary uh business expenses here. We got to be resourceful and think about how we can plan around this. So let's say you're a real estate agent, you can uh another strategy that we can dive into in another webinar, you use a solo 401k, you can contribute 57,000 or even uh 63,500 if you're over 50, that will reduce your overall taxable income. You do some of your revenue and expense shifting based on uh the timing of things, uh planning on when you can purchase certain items and when those write-offs are gonna be more effective. You utilize the S Corp, obviously, to reduce your self-employment taxes, we were talking about earlier. I have a client in New York now, it's getting to getting a little bit more uh thinking outside of the box here. I have a client in New York City, his family retired to the beaches of South Carolina, his mom and dad. He already is flying down to visit his mom and dad on a regular basis. How can we now turn this travel into a business write-off? Okay, so how about we purchase some vacation rentals? You can get a second home mortgage with only 10% down. So you purchase some vacation rentals, you do the cost segregation, and you materially participate in it. And obviously, you want to recognize your repair maintenance expenses to drive down and have as many write-offs on those vacation rentals. So we'll accelerate depreciation, get that bonus depreciation, and we're gonna create some massive write-offs. Let's now, if your parents or your boots on the ground in South Carolina, we can write off our meals with our parents. We can also write off the travel, the baggage, and everything associated with that trip when we are visiting our family, who we normally visit, anyways, who we love to see, we're enjoying ourselves and we are reducing our taxes. Optimizing our write-offs, right? We got our travel meals, hotels, all those sources of write-offs that we now have because we have business activity going on with our visiting of our family and doing something that we normally do and enjoy doing. Um, so we create tremendous write-offs. This will reduce your overall taxes. You might get a refund from you and your spouse's income. Uh, and what do we do after that? You take this tax savings of whatever it is, uh, and you reinvest it into more real estate. You buy you whatever that savings is, uh, whatever that refund is, that's another deal. And what do you do with that deal? You repeat the process all over again. You buy the properties, you do the cost tags, and you bring down your taxes to free up more capital to grow your portfolio. So here we can see the snowball effect of creating tax savings and and and the compounding effect of creating more and more equity and more cash flow. Uh, and it's just gonna have a phenomenal impact on your ability to grow wealth and achieve financial freedom. Uh, and just as a side note, I just did a you know, I had a client who implemented a similar strategy. She purchased four properties. Her husband uh was making a lot of money as a um as a physician, four properties and worked full-time as a real estate agent as well. So we had that real estate professional tax status. We were able to reduce their taxes by implementing these strategies by about uh $75,000. And this client came to me without a tax plan in place. If we had an effective tax plan, we probably could have brought the taxes down significantly more. But just using cost segregation and bonus depreciation and the real estate professional tax status, we were already able to do some really, really powerful things here to uh impact their wealth and tax savings. Um, so that's really all before I go into the QA. Uh, as I was talking about earlier, uh, if you are interested in this and maybe some other real estate-related questions and tax questions, you know, I work with only real estate investors, so I obsess over this stuff, and I could probably be a good resource for you. And there are so many other strategies and combination of things to consider in different scenarios. So if you think I might be uh of help to you in any of these things, I want you to sign up for a discovery session that is usually going to be free. Um, and we will evaluate any missed or future opportunities and determine if it is necessary to begin a tax plan. A tax plan will create more savings uh than the purchase price for that investment. You will usually see a 3 to 1,000% return on investment every year for creating a tax plan where we are now forward-looking and proactive in implementing these tax savings strategies. Also, if I don't know you already, just shoot me an email. I already have your email if you're in this live webinar, but to some of you guys watching me on YouTube right now, um, send me an email and I will put you on my mailing list and you will receive you will get on my invite list for all my future upcoming live free webinars. Lots of fun stuff there for me to engage and interact to with the live audience. Hope this was a great uh great presentation and inspired some of you and gave you an idea of how powerful uh a tax strategy could be for um accelerating your growth and really getting to where you want to go and get you a little bit excited about taxes if that is at all possible. Uh, my next webinar, I I'm really pumped for this one. It is uh on tax strategies to achieve financial freedom. Uh if you're on my mailing list, you'll send it and see an invite. I've already created a Facebook event for it, so you can find the Zoom link for that as well. That will be Thursday, January 7th at 7:30 p.m. EST. Uh, we're gonna talk about some really some really powerful things in addition to what we talked about, about how you can get to the point in your life where we've we've best navigated these financial systems and in tax incentives and strategies to set you up to the point where you are no longer trading your time for money and you're doing as much as you can, doing what you love for a living and get that freedom. But uh, I hope you guys found this uh somewhat inspiring, eye-opening, useful to some of you CPAs listening. This is these are some great ideas. You know, I like to be a resource to other CPAs as well. And uh I really hope you enjoy this. I'm gonna have this uh saved. So if you ever want to rewatch this, you can go to my site or my YouTube page. Really hope you enjoyed this and got something out of this. Thanks again for attending, and we will stay in touch.