Tax Planning That Pays for Itself

Most people avoid using certain four-letter words, but in the world of real estate investing, there’s a three-letter word that’s even worse: tax. The reality is that as long as you are generating profit in the real estate game, there will be someone from the state and federal governments who wants to take your cut. But while the U.S. tax code is complex and overly burdensome, there are some positives for entrepreneurs. The government has a vested interest in driving economic growth, and part of how they accomplish this is by providing incentives in the form of tax breaks to the go-getters in this country.

Find yourself a CPA with real estate industry knowledge to take advantage of these intricacies, and you could find yourself with a heavily reduced tax bill come April 15. The Hard Money Co. found ours in Eugene Marshall, whose firm Magnolia Tax Services caters exclusively to real estate investors. He shared some of his best tax-saving tips in this week’s webinar, and we’re sharing them with you here.

 

Planning vs. Preparation

A lot of investors think of ‘doing their taxes’ as a once-a-year activity. That’s reactive, and that’s going to cost you money when the bill is due. We want to get through to people that taxes are a year-round activity that you should be considering in every action you take with your business. That’s where planning vs. preparation comes into play.

Tax preparation is the act of completing and submitting your taxes for the prior year. The prior year aspect is crucial because when you’re preparing your taxes, there is nothing you can do to capitalize on the tax code and minimize your bill. Planning is the act of proactively looking at activities you can undertake as an investor that will reduce your bill in the future. Scott Lurie at The Hard Money Co. has set meetings with his CPAs four times a year to discuss strategy for his 100+ entities and calls them monthly to work through real-time issues.

Eugene has clients that have him on speed dial to tackle the issues they are facing in their business and optimize for the future.

You don’t have to have a CPA on the payroll, though. You can ‘tax plan’ on your own, but do everything in your power to make sure you aren’t just being reactive.

Can I Claim This on My Taxes?

The number one question any tax professional gets is, “Can I claim this?” Frequently, the answer is “Yes!” Real estate professionals are entitled to quite a few write-offs through their businesses. These include items related to their home office, meals, auto and travel, health insurance, and retirement accounts. So long as these expenses meet the prerequisite set by Code Section 162(a) that says ‘Anything ordinary and necessary in the pursuit of income.’ While the obligations specifically can get complicated, here are some high-level deductions you can claim:

Home Office

Real estate investors are entitled to deduct for the areas of their home they use for business. Here is a quick calculation method for determining that number:

Simplified Calculation: Flat $5/sqft rate, capped at 300 sqft for $1,500 total.

Advice: Use this method if your home office is small. Ensure you stay within the 300 sqft limit.

Actual Deduction: Based on the business use percentage of your home; includes mortgage/rent, utilities, repairs, and more.

Advice: Opt for this if your home office is large. Keep detailed records of all related expenses.

Business Meals

Meals can be tax-deductible if specific business is discussed before, during, or after the meal. While meals were 100% deductible in 2022, they are back to 50% in 2023. Use lunches and dinners to network, build rapport, and source deals.

Vehicle Expense

Real estate investors can deduct $0.67 per mile for business travel, though commuting miles are non-deductible. Alternatively, you can deduct actual expenses like repairs and car payments. Section 179 plus bonus depreciation allows a 60% tax deduction on vehicles over 6,000 lbs, phased out by 2027.

REPS Tax Status

Your Real Estate Professional Status can help maximize your deductions. Deduct passive losses against active income, up to $25K if your income is below $150K. To qualify, spend over 50% of your time in real estate and 750+ hours in rental activity, or 100 hours for the STR loophole with no one else spending more time.

Business Travel

Establish guidelines for business travel to ensure compliance and proper documentation. Create a board of advisors or directors who must work four hours a day on weekdays. Keep a log with calendar entries, emails, and corporate meeting minutes for documentation.

Health Insurance

Maximize your tax savings with proper health insurance deductions. Health insurance is 100% tax deductible for self-employed individuals. For S Corps, it’s reported in box 1 of your W-2 wages as taxable income, with an adjustment on your 1040. The plan can be in your name or the business’s name, with the business covering the expense.

Retirement Savings

Defer up to $23,000 in wages with a Solo 401K, and the employer can contribute up to 25% of employee compensation, totaling a maximum contribution of $69,000. For high earners, a Backdoor Roth IRA is available for those with income over $161K if single, and $240K if married filing jointly.

Accelerate Depreciation with Cost Segregation

Cost segregation is another way to maximize your deductions in your business. This accelerates depreciation to maximize your claims in the short term. Cost segregation allows an individual to accelerate the depreciation deduction and defer federal and state income taxes. This strategy increases your depreciation deductions sooner, defers paying federal and state income taxes, and improves cash flow by reducing taxable income in the short term. Cost segregation works by breaking down the property’s purchase price to identify components that can be depreciated faster, allowing for quicker deductions than the standard 27.5 or 39 years. This typically results in an average deduction of 20% of the purchase price upfront. However, to manage depreciation recapture, it’s advisable to never sell the property or use a 1031 exchange if you do.

 

Conclusion

Now that you’ve taken in this content that Eugene and Scott have provided, do you think you’re ‘Tax Planning’ appropriately? If this feels like too much to handle, consider reaching out to a CPA advisor. Based on what you learned today, the savings will likely outweigh any costs you might incur. Elevate your business, save on taxes, and maximize your potential as a real estate investor. Proactive tax planning can make a significant difference in your financial outcomes, and with the right strategies and support, you can achieve substantial tax savings and grow your investments more effectively.