It’s that time of the year! Year End Tax Planning is very important, especially for real estate investors. A lot has happened this year in the real estate market and the general economy. It impacts the portfolio of many Real Estate Investors in many ways. Not just the value of the holding in our hands, how we want to invest in coming years, and even our retirement. It also impacts tax issues that will be confronting us in the upcoming tax filing season. There is also preparation we have to do in our tax planning with a view to the economic trend in the coming year.
The Difference Between Tax Preparation and Tax Planning
Tax preparation for the March 15th or April 15th return is not considered advance tax planning. It is merely tax compliance as opposed to voluntary tax reduction planning. Though returns aren’t due until April, they cover a tax year that ends Dec. 31. Some of the best tax-reduction moves really need to be done by mid-November or early December. They often take some advance planning. Getting a head start could make you a lot happier in April, giving you a bigger refund or a smaller check to write to Uncle Sam.
A. Reduce Your Tax Liability
By taking certain steps now, before the year draws to a close, you can reduce the size of your tax bill otherwise due when you file your return next year. Especially this year, when Congress has inserted a handful of powerful but temporary tax breaks to get the economy moving again, you do not want to overlook any deduction or credit that you can take to lower this year’s tax bill. Managing what income you recognize or defer also can pay dividends as you focus on balancing your tax rates between this year, next year, and beyond, with tax reform on the horizon.
B. Your Circumstances May Have Changed
Year-end tax planning is not only about what is happening in Congress and at the IRS. Addressing the changed circumstances in your life has always been a large part of year-end tax planning. What you planned for at the beginning of the year may not be what you are faced with now. Changes in your employment status, family, investments, or retirement plans raise new tax issues
• Self-employment, severance pay, sign-on bonuses, stock options, moving expenses, and COBRA health benefits, to name a few employment-related events, all present unique challenges.
• In your personal life, marriage, divorce, a larger family, and child care or eldercare expenses arising can impact your tax situation.
• Investments, too, generally benefit from year-end tax strategies. You can take steps to balance out gains and losses. You also should take a year-end tally of dividends and interest to make certain that are paying the correct estimated tax.
C. Plan For Losses
A special word about losses, especially as this difficult year draws to a close. Matching losses with gains is not necessarily a simple task in tax law. Different rules apply to different losses. Losses can be ordinary losses, passive losses, at-risk losses, capital losses, hobby losses, casualty losses, gambling losses, or Code Sec. 1231 losses. Knowing the differences and acting before year-end to match them correctly can mean significant tax savings.
D. Plan For Deductions
• Planning for deductions and credits at year-end can also get complex but can be equally as rewarding. Timing and qualification rules create traps and opportunities:
• Pre-paying certain expenses, such as real estate taxes or mortgage interest, does not necessarily translate into a larger deduction this year.
• Paying a spring college tuition bill in late December instead of early January, however, can impact whether you maximize the benefit of the new American Opportunity Tax Credit for both years.
• Year-end charitable giving generally has always been a smart way to reduce current year taxes but strict timing rules and revised substantiation requirements for property donations cannot be overlooked.
• Homeowners should also not ignore taking advantage of the new residential energy property credit, which has a unique set of rules on qualifying expenses and deadlines for installations
TOP TEN YEAR END TAX PLANNING CHECKLIST
1. If you own a business, do you have an EIN number, an operating agreement, and a separate bank account?
2. Have you recorded all the income and expenses related to the business on the business bank account? This is a huge audit item.
3. If you own an investment property that was foreclosed or sold as a short sale, have you considered the impact of the cancellation of debt income on your individual income taxes? Have you calculated the loss of sale of investment property?
4. If you generated any kind of active real estate income, have you considered restructuring your business to minimize the impact of self-employment taxes?
5. If you have significant real estate education expenses, have you registered a business in order to minimize your audit exposure by deducting these expenses?
6. If you have significant business expenses and already have a registered business, have you considered converting to a partnership to avoid an audit flag?
7. For homes that have been repossessed, do you know the rules on recourse vs. non-recourse debt?
8. Do you understand what your tax filing requirements are for the states where your business is registered such as annual filing, personal property tax returns, etc.?
9. If you own investment property, have you considered doing a cost-segregation study in order to increase your depreciation expense?
10. If you bought or sold property this year, have you considered the impact of capital gains, adding rehab expenses to the basis of the property, and whether the holding costs (mortgage interest, taxes, and insurance) are deductible?
Recent questions from my blog
Question: “I plan to buy a rental property with cash from personal assets (stock market) and I plan to have the title held in an s-corp, for liability protection. Is there liability protection value in having the s-corp borrow money from me for the purchase? Assuming the s-corp buys the property for $250k, then the s-corp would have the $250k property as an asset and no liability. If sued, the s-corp risks losing the property. If the s-corp secures a loan from me for the purchase, would it limit the exposure if sued? Would $250k in assets be offset by a $250k loan… giving s-corp $0 on the balance sheet?
My Answer: I usually advise clients with rental properties to put the assets in a Multi-member LLC. for the protection of the equity. You can have the LLC execute a loan package on the property equal to the $250k so that there is an asset and a liability thus deterring not preventing lawsuits
Question: “Doing some light research on accelerated depreciation of rental R.E. Does anyone use these techniques? Are they sound from an IRS standpoint? Also, can someone describe the person this technique would work best for? I’m guessing someone in the higher tax brackets would get the best results from this. Is this true? Thanks in advance, and yes, I realize 99% of us are NOT CPAs.”
My Answer: I am a CPA and a real estate investor. I typically use this strategy for my clients who are able to deduct rental activities as passive investments and the accelerated deprecation does not put them over the threshold for the passive loss limitations. For rentals, it is not just about getting the deduction but being able to deduct it because you are not subject to the passive loss rules. If you are subject to the passive loss rules because you make over $100k and you do not spend more time in real estate than in any other active profession, then there is no need to accelerate.
I address many of these issues in my Wealth Building Plan. Make sure you are getting the best tax advice. Let me evaluate your financial and tax situation, then develop a customized tax strategy just for you. Together, we will come up with a strategic plan designed to answer your questions as you build your own customized wealth-building plan. You can get more information at Ultimate Wealth Building Plan.
