This article is a Q&A featuring our SVIC Expert Amanda Han, Tax Director at Keystone CPA, Inc. She is a tax strategist, real estate investor, and one of the authors of the highly rated book, Tax Strategies for the Savvy Real Estate Investor. Check out her investment courses partnered with SVIC: Jumpstart Your Tax Savings and Strategic Tax Savings Program.
Your Burning Tax Questions — Answered!
Hi, my name is Amanda and I am a CPA who helps investors use real estate to save on taxes. I am excited to help answer your burning tax questions! My book, Tax Saving Strategies for the Savvy Real Estate Investor & my hands-on program, has helped hundreds of investors to maximize their tax savings. I am super excited to help answer your burning tax questions on how to save on taxes using real estate. Ask away!
Question #1: Conservation easement investments
“What do you think about conservation easement investments?”
Answer: I have suggested them for clients in certain circumstances. The key with easements is to do your due diligence and make sure you are investing with a reputable sponsor who has experience substantiating their valuation. Those with super inflated valuations that do not make sense are ones I personally would stay away from.
Question #2: Primary home has significant gain
“If your primary home has significant gain and you move out, rent it out for one year, and then sell, can you keep $500K of gain tax free and buy a 1031 exchange with the remaining gain (total gain minus $500k tax free) and have no tax liability?”
Answer: Yes this is a possibility if done correctly and this is a strategy used by many investors we work with in the past few years due to highly appreciated homes. The key is to ensure that the property is a rental property at the time of the sale.
Question #3: K-1s from syndications
“How do K-1s from syndications affect investors’s tax returns? Can losses from a K-1 be used as a write-off against our taxes?”
“..as a follow up, if you’re a RE pro, can you group any syndications into your RE activities?”
Answer: For higher income earners not claiming re professional, syndication losses from k1s are considered passive losses and offset passive income (ie. income from other rentals, capital gains from sale of rentals, other passive business investments, etc). Passive losses do not offset w-2 income. For certain investors meeting RE professional, it may be possible to group your real estate activities and be able to use syndication losses to offset all types of income, including w-2.
Question #4: Legal entity mistakes
“What are some legal entity mistakes real estate investors make when it pertains to their taxes?”
Answer: Here are a few:
1. Forming overly complicated structures when not necessary
2. Not utilizing the entity correctly
3. Not changing title of the properties into the entity
4. Not factoring the annual costs of the structure (very important for CA investors)
5. Forming the wrong type of legal entity
6. Not filing the required tax returns and not keeping the entity in compliance
Question #5: How to track expenses related to properties
“What is the easiest way for real estate investors to track all of the expenses related to their properties?”
Answer: This one really depends on the investor themselves. My suggestion usually is whatever methodology makes the most sense for that particular investor. For people who are savvy with technology, QuickBooks is probably the most common software we see. Otherwise for those who do not want to utilize a software, Excel is perfectly fine as well.
Question #6: Common tax break
“What’s a common tax break that real estate investors miss?”
Answer: The most common tax write-offs that investors forget to take are those that are not specific to a given property. Examples might include business travel, business meals, use of car for business, real estate education, etc. It is important to keep in mind that these real estate expenses are tax deductible regardless of whether or not you have a legal entity to hold your real estate.
Question #7: Common thing people miss
“What is the most common thing people miss?”
Answer: We see all different types of missed opportunities so it’s quite difficult for me to pinpoint to just one most common thing. But in general, I think missed tax deductions is probably the most common. Lots of investors are under the assumption that you need an LLC or Corporation in order to write off general and overhead real estate expenses such as business travel, books, educational courses, business meals, home office, etc. It is important for everyone to understand that having a legal entity is not a requirement in order to write off expenses. An investor who invests and holds rentals in their personal name can utilize the same write offs as another investor who uses an LLC.
Question #8: Writing off due to income discrepancies
“What about self employment and education expenses? I have an art business and a software one, and I wonder if they would give me grief for writing off art education classes because of the obvious income discrepancies?”
Answer: If there is net taxable income, then it could make sense to run that in an LLC/S corporation to reduce self-employment taxes. However before doing that, I would have your tax advisor run the numbers for you to see what the savings could be and compare that with the cost of having the entity. If you are expecting losses on the other hand, running that in an entity could potentially reduce audit risk. However, ultimately in order to utilize any net losses, you do need to be able to substantiate that this was an activity intended for profit and not as a hobby. This probably applies more to the art business rather than some other active real estate or software consulting.
Question #9: Use of investment property to save in taxes
“Can I use an investment property to save in taxes against my W-2 or consulting income?”
Answer: Possibly. If you are of higher income (over $150k MFJ) you can use rental losses to offset W2 and consulting income provided that you or your spouse can meet real estate professional status. May be difficult to do that if you are working full-time but if you or your spouse are working PT then it may work. Otherwise, consider investing in ST rentals because you can potentially use ST rental losses to offset W-2 income if you meet material participation. I posted a blog about that here.
Question #10: Which state is the best for investment
“Which state is the best for investment when you consider all sorts of taxes you need to pay?”
Answer: I don’t typically look at taxes as the main deciding factor of where to invest. Generally, cashflow and appreciation would be the main items to drive that decision for me. Speaking specifically on taxes, NV is a good state to invest in (I may be biased since that is my market area lol). NV has no state income taxes and one of the lowest property taxes since gaming taxes pay for most of the state’s needs. One thing I always tell my investor clients is to start off with fewer number of states. The more states you invest in, the more states you potentially file tax returns in. So for people starting out, I would keep things simple with 1 or 2 states at most.
Question #11: When to have an LLC?
“When does it become worthwhile to have an LLC? How much extra cost does it entail per year?”
Answer: If you are referring to rental real estate, there is typically no added tax savings by forming an LLC. So the main reason that landlords have LLCs is for asset protection. The cost will depend on what state you live in, what states you are investing in, as well as what the filing requirements are for those states. CA for example has a minimum fee of $800 per year per LLC. So you need to work with your tax and legal advisors to determine whether the benefits of asset protection is justified by the cost to decide whether an LLC makes sense and when it should be formed.