February 23, 2024

Tax season is a nerve-racking time for many, especially for those who don’t have simple tax returns. If you’re a real estate investor, you need top-notch tax advice if you hope to reap the best tax savings when filing—legally, of course. And that’s exactly what we’ve got for you today!

Welcome back to another episode of the BiggerPockets Money podcast. Ahead of this year’s tax deadline, we’ve brought in reinforcements to answer all of your burning tax questions. Today’s guests are Kyle Mast, fee-only certified financial planner (CFP) and real estate investor, and Natalie Kolodij, real estate tax strategist and IRS enrolled agent. In this episode, they use their collective tax expertise and perspectives to tackle a handful of key topics.

Ever wondered whether there are different tax benefits when buying a property in cash rather than via a traditional home loan? If you’re in a partnership on a short-term rental property, how do you claim depreciation? What is a cost segregation study, and when should you do one instead of taking depreciation deductions over the normal timeline? As always, our trusted host Mindy chimes in with some important nuggets to help make your journey toward financial freedom that much easier (while owing less to Uncle Sam)!

Mindy:
Welcome to the BiggerPockets Money podcast tax edition where we bring on Kyle Mast and Natalie Kolodij to answer your tax questions. Hello, hello, hello. My name is Mindy Jensen and with me today are Kyle and Natalie. Kyle, Natalie, and I are here to make financial independence less scary, less just for somebody else, to introduce you to every money story because we truly believe financial freedom is attainable for everyone, no matter when or where you are starting.

Kyle:
Whether you want to retire early, travel the world, go on to make big time investments and assets like real estate or just go on a road trip with three boys under the age of six, we will help you reach your financial goals and get money out of the way so you can launch yourself to whatever your dreams are.

Mindy:
All right. Today I have Kyle Mast, and Natalie Kolodij. Kyle is a recovering fee only financial advisor and in the middle of a road trip with three children under the age of six. He has the patience of a saint. Kyle, thanks for joining me today.

Kyle:
I do not have the patience of a saint. That would be my wife. She has to keep me in line all the time. Thanks for having me on again. It’s great to be here. I’m excited to talk with Natalie about this fun tax stuff and hopefully we can knock out a few things, few questions that people have on this subject.

Mindy:
Well, get ready to super nerd out because Natalie is your girl. Natalie is a tax professional. She’s also an enrolled agent, which is a super tax nerd, and she’s here to talk all things tax. Natalie, welcome back to the show.

Natalie:
Thank you. Thank you for having me. I’m super excited to talk about some real estate tax stuff. It’s always a fun time of year. I’ve been doing taxes for close to 10 years now. Specialized in real estate for most of that time and love, love, love overlapping the two real estate tax.

Mindy:
Okay, you said it’s always a fun time of year. You are truly a tax nerd if you think that now is a fun time of year.

Natalie:
Yep, yep. Just keeping it exciting, keeping it spicy a little bit, so it’s a fun time.

Mindy:
Exciting is correct. We have a new segment on the show called Money Moment, where we share a money hack tip or trick to help you on your financial journey. Today’s Money Moment is make a spreadsheet called, Was It Worth it? Every month put all of your Amazon or extraneous purchases in the spreadsheet and ask yourself if this purchase was worth it or not. This can help influence your spending in the future. All right, before we jump into taxes, let’s take a quick break. And we are back. Today we’re answering your questions. I put out a call in our Facebook group asking for your tax questions, and our Facebook group can be found at facebook.com/groups/bpmoney. Kyle, what’s our first question today?

Kyle:
If we buy a rental property for cash, are there still tax advantages? Natalie, can you take that one?

Natalie:
Yeah, absolutely. I think a common place where people get mixed up is thinking that the amount of debt you have is equal to kind of your price of a property and they’re completely different. Even if you buy for cash, the only tax advantage you won’t have is writing off mortgage interest. But the real world advantage is you’re not spending that mortgage interest, so you still get all of the same tax benefits. You’re still entitled to depreciation, every other operating expense. The only thing you lose out on is that interest deduction because you’re not paying any.

Mindy:
So mortgage interest on a rental property is still tax deductible?

Natalie:
Yep. Mortgage interest is deductible based on its use. Even if the interest was on … This is kind of another good point to this. If you take out the loan on your primary home but use it to buy a rental technically in cash, unlike using a HELOC or something, then we can deduct that interest there. But if you just pull cash out of your bank account and buy it, still the same tax benefits.

Kyle:
Yeah. Maybe I’ll jump in here too. It’s a really good point between the depreciation not being changed when you purchase for cash or if you have a loan on the property. Maybe one difference, and Natalie can speak to this too, is if you’re buying a property that’s $150,000 and you buy it for $150,000 in cash or you buy a $150,000 property and you have a loan on it, those are the same thing. But if you have $150,000 in cash and you leverage that and buy a property that is say a $700,000 property, you use that as the 20% down. Can you maybe speak to what the difference would be there as opposed to buying the same price property, using the same amount of cash but adding a loan to it, I guess, to get a bigger property?

Natalie:
Yeah, absolutely. Your basis in a property is kind of your all-in value of it, and that’s based on the actual cost, the actual purchase price and it’s unrelated to the loan. If you use a loan for your entire purchase price, they happen to be the same, but it doesn’t create the basis. Your loan is still your loan amount and what you literally paid the sales price of the property is the amount where you get to determine how much you can depreciate each year. If you used in your example that same smaller loan amount and then used that as a down payment on a much bigger property, even though your loan’s only that smaller amount, your depreciation is based on the overall cost of the asset, your full basis. For that same amount of debt, you could be being able to write off depreciation on a $700,000 asset each year versus a hundred thousand. You’re going to have a much larger write off is the difference. Depreciation’s always based on the actual purchase price, the loan value doesn’t tie into it specifically.

Mindy:
I am known as the two years, the section 121 live and flip queen. How do you handle capital gains taxes when you’re selling your personal residence if you didn’t live there for two years?

Natalie:
Yeah, absolutely, and I love this question. I was so glad it came up because I’ve been losing my mind in tax groups this week. A ton of tax professionals are getting this wrong. Pay attention because it could cost you thousands. If you own and occupy your primary home, this is what Mindy was talking about, for two out of the most recent five years, you can exclude up to $500,000 of gain tax free if you’re married. That’s huge. That’s why Mindy’s doing a victory dance. There’s nothing else I can think of where you can legally put a half million dollars in your pocket and not pay taxes. If you live there less than two years though, it’s kind of an all or nothing. If you lived there a year and nine months and then just move because you want to, you lose that. There’s a handful of exceptions though.
So if you had to move for a work-related reason, a medical reason or an unforeseen circumstance, which is just something you couldn’t plan for where you really had to move, your job relocated you or you bought a condo and then found out you were pregnant with triplets and you’re living in a studio, you need more space. If you meet one of those unexpected circumstances, then you can qualify for a reduced gain, which basically means if you lived there for one out of the two years, for example, instead of qualifying for that full 500 amount of max exclusion, you would qualify for up to 250. Always check this first if there’s a way you can exclude it. Otherwise, if you don’t meet one of those criteria and you move out before that two year mark, the whole gain on the sale of your primary home could be taxable. Before you sell a home you live in, talk to your tax professional. Don’t go rogue.

Mindy:
And that’s two calendar years. I’ve always made sure that it was, I bought on March … I guess 32nd doesn’t work. I’ve bought on March 13th, I don’t close until March 14th just to make sure, because I do not want to pay taxes because I missed a day. I am under the impression that if you live there from day one to 364, those gains are taxed as short-term gains, which is essentially your income tax level and day 365 through whatever is less than two years is taxed at the long-term gain level. There’s still some advantage to living in it for more than a year, but less than two years. Am I correct?

Natalie:
Yeah, absolutely. And again, if you met one of those unforeseen circumstance criteria to exclude the gain, it doesn’t really matter what it would be taxed at if we’re not taxing any of it, but if you just have to sell because you’re like, “Oh, I just found another house I like better” and you’re at nine months in, it’s going to be short-term capital gains that are taxed at your ordinary income tax rate versus the preferential long-term capital gains rates.

Mindy:
So if you’re thinking about moving, make sure you live there at least one year and if you’re super close to living there two years, try to stick it out. I mean, how bad could it be that you can’t stick it out two years? Then I’m thinking back, I had that one neighbor, I was like, “Ugh, every day is hell.”

Natalie:
Yeah. The other important thing I’ll add on this is because it’s two out of the most recent five years, you can rent it for up to three years afterwards too and still meet this requirement. If you live in a house for 24 months, you then have three years where you can have it be a rental and then when you move out, it is still fully tax free. This is literally the thing I’ve seen multiple tax professionals wrong about this week. If you know it started as your primary and then you made it a rental and now you’re selling and it’s all happened within five years, you’ve lived in it two, rented three or less, it shouldn’t be taxable. The only tax is the recapture on the depreciation from when it was a rental. A lot of tax professionals are prorating the gain and only making part of it qualify, and that is the case if it started as a rental, it’s called non-qualified use rules.
And that’s so that you can’t rent a house for like 35 years then move into it for two and be like, “This should be tax free.”The IRS is onto that. If it starts as a rental, even if you live in it two years, part of your gain is still going to be taxable. It’s based on the ratio, but if you lived in it first and then it’s a rental, it should all be excluded if you meet that two a five year rule, and if your tax professional’s telling you something different, I will send them a stern email. You just reach out to me personally, but you should at least get another opinion before you pay the tax because it’s easily confused.

Kyle:
That’s great information. That’s really good, that two years living there yourself and in the three years buffer that you have as a rental afterwards is a really good thing for investors to keep in mind. There’s kind of a strategy out there that some people who buy more new builds from a rental standpoint, they’ll oftentimes every five to 10 years, 1031 into a new property. It’s just they like to own newer properties that have lower maintenance. And this is if you use this type of strategy where you’re the live-in flip, but then you move to another house and you rent it out for the rest of that five year timeframe, if that’s part of your strategy of then rolling into another property, you’re able to sell that property and not even have to 1031 exchange it, which is a big deal to get a lot of that gain.
Well, unless you have more than 500,000 in gains in that amount of time, which could be possible, but that’s something to keep in mind for sure. That’s a really good clarification of that rule that people really need to check out. Okay, here’s another question that’s a little bit more detailed and a little bit more specific, but people will run into it if they try to do partnerships. If you buy a property as a part of a partnership and you and your partner rent it out as an STR, a short term rental, can both people materially participate (equally) and therefore claim half the depreciation? Each, I’m assuming.

Natalie:
Yeah, so the answer is probably not. This has gotten really big because we’ve heard about the short-term loophole where if your rental is less than seven days average and you materially participate, it can circumvent those passive loss limits, you can deduct your losses you create, but most of the passive loss rules are based on you spending more time actively managing a property than anyone else. It’s close to impossible for one person to actively manage more than another person and also the other blanket doesn’t work out.
The other rule to that is there’s a 500 hour rule. If you are both literally spending more than 500 qualifying hours a year on it potentially, but unless it’s a pretty multi-family type of property that happens to all be short-term, something like mobile .. Not a mobile home park, but like a campground kind of thing with multiple cabins, a single family home claiming each of you for material participation would be really hard to justify. And so we typically go with one of the two managing partners as who is meeting that criteria, who’s really taking the reins on it.

Mindy:
Okay, that is good to know. And we actually have a sister show called On The Market where they are diving deep into the entire episode on this short-term rental loophole that Natalie just talked about. And you’re in luck because it airs today. When you are finished listening to our show, hop on to Over The Market, which is available everywhere you get your podcast and download that episode or all of them, they’re really, really great. And listen to the short-term rental loophole in great detail because that show is hosted by Dave Meyer and I don’t know who’s a bigger nerd, Natalie or Dave. He’s not an enrolled agent, so maybe Natalie just slightly edges him out, but he’s a data analyst. If you want to dive deep into the data, Dave is for you. Okay. What types of short-term investors benefit from not doing a cost seg study and taking depreciation over 20 plus years? And should most short-term investors do a cost seg in 2023? And I’m going to jump in here and say, hey Natalie, what does cost seg mean?

Natalie:
Yeah, a cost segregation, the best way I can describe it is normally when you buy a house, it’s listed as you buying a single asset. You bought a house, but I don’t know if you guys have been in a house, there’s actually other stuff in there. There’s like windows and floors and appliances typically. What a cost aggregation is doing is an expert is using either kind of a database or an actual engineer is going through and saying, “Well, you paid this much for the house, but if we allocate it appropriately, there’s actually values to all of these other things. Here’s the value of these appliances, here’s the value of your flooring.” And it kind of separates out all of the components of the house which can’t really be done without a cost seg unless it’s a new build because you don’t know what each of these individual things cost.
So by separating out all of these pieces, we can approach them for purposes of depreciation based on a piece by piece basis instead of just this whole building as one lump sum. It in theory lets us advance a bunch of, and accelerate a bunch of the depreciation to the front end because a lot of these things have shorter lives than the typical 39 years, that a short term rental, the actual building would have. If we figure out that your a hundred thousand dollars building, actually 30% of it is made up of things with 5, 7, 15 year lives, that’s 30% we’ve now taken from being spread across almost 40 years to now down to five to 15, much bigger write off per year. Then there’s something called bonus depreciation, which says anything under 20 years, you can write off a big chunk of it at first.
For 2023 it’s 80%. 80% of the qualifying costs. For 2018 through 2022, it was a hundred percent. And a little sprinkle of information here is it’s based on the year your rental went in service, not when you did the cost seg. If anyone bought a rental property between 2018 and 2022 and put it in service in those years, you can still get that a hundred percent write off. Don’t cry, you still get it, you can still have it, it’s not over yet, you can still tap into it. You just have to had a rental go in service during those years.

Kyle:
That’s a very good point at the end there, the cost segregation, you can go back and redo that and some people miss that. It’s such a big thing that a lot of people miss and Natalie, you’ve probably seen this, a lot of tax preparers will just do your normal 27 and a half year or 39 year depreciation on properties of the whole property and not do this cost segregation. And the On The Market show that we just did on the short term rental loophole, we went into this a little bit more. I was on there with Dave and Brandon Hall explained it, and it’s a really neat strategy and Natalie nailed it here where there’s actually kind of a sweet spot maybe this year, if you put a property in service last year, 2022 is the last year that you get that a hundred percent bonus depreciation.
So you definitely want to check it out, especially if you potentially could jump into that short term rental loophole. But even if not, if we go back to this question here, they talk about is there any reason that … Let me reread it here. An investor might benefit from not doing a cost seg study and taking the depreciation over 20 plus years instead. Basically choosing to not do the cost segregation study and spreading that depreciation over that timeframe. And Natalie, tell me what you think, but I would say you want to take as much as you can now because that cost segregation studies do cost, you have to pay for them, you have to pay engineering firms.
There’s actually some online firms now that will do it and then they’ll back it up with some audit support if for some reason you need to have an actual one come out to a location. But if you do the depreciation now it can be carried over to the future if you aren’t able to use it all up in one year. There’s not necessarily a benefit in my mind to be spreading it out over a longer period of time. There might be a couple situations where that might make sense, but in general I would say no. But Natalie, jump in here and tell me if I’m wrong.

Natalie:
Yeah, I’m going to provide you with the standard accountant answer of it depends. The instances offhand I think of where I wouldn’t do a cost segregation or wouldn’t recommend it now is if someone knows their income is going to be dramatically higher in a future year. If someone just got into real estate and they make 50 grand a year, but they know they’re about to get out of college for being a surgeon and in three years they’ll be making 800 kind of thing, we might want to save that. The other instance is if you think you have long-term rentals and you think you might be a real estate professional in a few years, real estate professional lets you write off any losses without a limit, but it doesn’t free up any earlier ones. You don’t want to create a big loss if you think you’ll qualify shortly after because then it’s still just stuck.
So you’ll want to save it. Then the last reason is sometimes wiping out your income. We’ve kind of gotten to this point where people are like, “I want to pay no taxes, I don’t care. Wipe it all out.” There’s kind of a point of diminishing returns where if you’re in a very top tax bracket and we get you down to like 10%, 12%, getting you from 10 to zero is going to save you less than if we saved some for the next year of getting you back out of that top bracket. Just work with a professional because it’s so different for everyone and really look at it as like a long-term plan because typically yeah, there’s a time value of money. Getting those big write offs now for most people does help. But look at it in big picture and look at kind of the next few years before you do the study and always talk to your accountant first before doing the cost segregation study.
Because something I recently learned is if you just hand your HUD, your purchase document to a cost seg firm, they’re going to complete the cost seg based on just your purchase price. They don’t typically account for closing costs because accountants treat them differently. And a lot of accountants I’ve talked to don’t know cost seg firms aren’t including closing costs because all of those costs go into your basis. I think a lot of these, this additional amount of write off and depending on the purchase price of your property, you have $10,000 in closing costs, you might lose track of that. Start with your accountant and help have them calculate your total basis with closing costs and then send it over to the cost seg firm. always just start with your CPA or your tax professional, loop them in, get your figures as a starting point, then do a cost seg. Again, don’t go rogue, don’t go do five cost segs and then come to your accountant and see what happens. Start there.

Mindy:
I have a comment that I think some people might not be thinking about, but this question says instead of taking depreciation over 20 plus years, and the depreciation schedule is 27 and a half years, correct? Like the IRS created this random number. If I don’t own that property, I can’t take that depreciation. If I own a property for five years, I can’t depreciate it for 27 and a half years. I can depreciate it for the five years that I own it and then when I sell I have to do depreciation recapture, which is not part of the question, we’re just going to ignore that part. If you have the opportunity to do a cost segregation and it makes sense to do the cost segregation, it seems like this is just the better option. When does it not make sense to do a cost segregation? Because I’ve never done a cost segregation and now I’m feeling like maybe I should get a new CPA.

Natalie:
So that’s a really good point and this is why syndications tend to have this five to seven year cycle. A lot of the time they create these huge write offs and then in a few years they dispose of the asset and start over. They do a 1031, they roll it out so that there’s not gain recognized. Or another thing you’ll see them do, and you can do this too, is do a lazy 1031. That original asset, let’s say you only owned it for five years, you want to buy those new rentals, you don’t want to deal with upkeep, right? Ones every five years you’re going to sell it and buy something else that’s new construction. You own it for five years. With accelerated depreciation on average we get to front load about 30% of your building value into that first year. Let’s say you get this huge write off year one a hundred thousand dollars.
When you take that depreciation write off, it lowers your basis. And what that means is when you sell, your gain is going to be higher by basically that amount because we reduced what it’s worth. When you go to sell, you would have this even bigger gain. Well, if the same year, in the same tax year that you’re selling that original asset where you took these big write offs on, you buy your new one and do it again there you do a cost segregation create big losses on the new asset. Those big losses on the new rental are going to offset the gain on the old one.
You might not even have to fuss with a 1031. You’ve got options. But this is why I can’t stress this enough and I’m obviously biased, but work with an expert because it’s like playing a game of chess. You want to plan strategically. This isn’t Yahtzee, we’re not just throwing … Is Yahtzee the one with dice? You’re not just throwing dice and seeing what happens. I don’t have for board games, it’s tax season. But work with someone from the start and plan strategically for what your next moves are with the properties.

Kyle:
If I can jump on that, Natalie’s making a really good point to talk to a professional I’m a CFP, and this last year, we talked about this on the other podcast a little bit. I sold my firm and I did some of the short-term rental. I transitioned a lot of that to short-term rentals and we used some of these strategies to offset that. But I hired a firm to consult with that specializes in this specific thing and there are things that I learned that I thought I knew that I did not know. And Natalie’s spot on, before you do the cost seg, talk to the CPA that is a specialist in real estate and specifically cost segregation, and if it’s short term rentals, that as well. But you got to find the specialty because just because they’re a professional, a CPA, an EA, doesn’t mean that they specialize in this.
So if you can find that person and then after they direct you kind of what direction to go, if you need to do some work on your own, then you do that and you come back to them. You make this a coordinated effort. Don’t try to do everything on your own and make sure it’s the right professional. I can’t stress that enough. It seems like more and more in these professional industries there are very generalists which have a purpose and then there are people that specialize in specific things.
You might need an accountant that specializes in business or real estate, but find that one that fits you well. I think I just want to hammer that home because that Natalie kind of glossed over it in a good way, but that’s where you really need to start and it may cost you some money, but it’s going to cost you a lot more to come back and refile your taxes a few times and pay more tax than you thought you were going to and pay penalties on top of it. Not to scare you too much, but just think it through when you’re doing this.

Mindy:
If you have plain Jane vanilla taxes where you don’t have anything weird, you work one W2 and you don’t have all these weird deductions and expenses, then you can DIY your taxes. But if you need to hire a professional like Natalie, how big is the tax code? It’s like eleventeen billion pages long and they keep adding to it every single year. Have you memorized it yet, Natalie?

Natalie:
No, not yet, but I’ve got a free weekend coming up so I’ll try.

Mindy:
Sheldon Cooper doesn’t even know the whole tax code. You can’t know everything. As much as I think Natalie walks on water, she can’t know everything about the tax code. She has chosen to specialize in real estate. If I had a question about something unrelated to real estate, I would probably ping her because we’re friends, but she might send me someplace else because that’s not her area of expertise. If you want your taxes done properly, if you want your financial planning done properly, you need to speak to somebody who specializes in what it is you’re trying to do. We send people to the XYPlanningNetwork.com all the time. It was set up by Michael Kitces who is a CFP extraordinaire and even he realizes that there are people who want a CFP who can help them with this and a CFP who can help them with this different thing and a CFP who can help other people with this different thing.
When you go there, they ask you what is your main area of focus and you choose based on, “I need somebody who can help me in real estate or personal finance or FIRE” or whatever it is because the person who is going to want to retire at age 40 is not going to be helped in the same way as the person who wants to retire at 65. They just have different goals. You need somebody who can help with what you are specifically looking for. I just wanted to follow that up really quick. Kyle was talking about hiring a professional. Yes, hire a professional. Also tagging off of that, can I DIY my cost segregation or does the IRS say no to that?

Natalie:
I wouldn’t. What you can do is, so if you’re doing a big renovation, tap into this too. Because really what a cost aggregation is doing is … The IRS doesn’t say you can or can’t do it yourself. It says you need a reasonable method for figuring out the cost of everything. I don’t know about you, but I don’t think I could accurately figure out what an HVAC system from 1970, accounting for wear and tear over the last several … Like what that is worth today. That is not for us to figure out, that’s what a cost seg does. But if you put in a brand new HVAC, if you do a whole renovation, you spend a hundred thousand dollars that you can essentially cost seg yourself. Make sure you give your account in a breakout of each kind of big project, what you spent on flooring, what you spent on countertops, what you spent on windows, because some of those things, the same rules apply.
They can get written off all at once or written off in a shorter life. But if all you give your accountant is $100,000, you just say, “I fixed up this house for $100,000,” it’s getting spread across 27 and a half years. Give them that breakout and if they don’t ask for that breakout, red flag, work with someone who gets the breakouts and don’t be mad at them. Don’t be mad at them for bothering you with a bunch of questions your last accountant didn’t ask because the questions are what save you money. We’re not just bored, we want that information so we can write off that information for you. Write off those big chunks of repairs you do.

Mindy:
“We’re not just bored.”

Natalie:
It’s my favorite response is when I ask for things and someone’s like, “Do you need that?” “Yeah, not just asking because I’ve got nothing going on. I’m asking because my job is to save you money. Help me help you here. Answer. Tell me the information.”

Mindy:
Who knew taxes were so fun?

Kyle:
Should we move on to the next one? The next question is what is the optimal setup (legal entity, et cetera) for someone with a W2 and a side hustle? How to take full advantage of what’s available to minimize what you owe? And I like this question because we’re blending together legal and accounting, and I’ll throw in here that no one on this show is giving legal, accounting, or professional advice. We’re giving some opinions and your circumstances are different. These are just some ideas to go with. But they specifically put in here, legal entity, et cetera. Natalie, touch on that and how that impacts or doesn’t impact the tax situation.

Mindy:
The contents of this podcast are informational in nature and are not legal or tax advice and neither Natalie, nor Kyle, nor I, nor BiggerPockets.

Natalie:
Right. I’m an accountant but I’m not your accountant.

Mindy:
There you go.

Natalie:
Full disclaimers. The first thing that I think is worth stressing is an entity or an LLC doesn’t make a business and this is a huge disconnect. What this means is that if you are running your rentals as a business with a profit motive, if you open up a side hustle and you are walking dogs for money on Rover, or doing what everything you’re doing, doing DoorDash, you can still deduct for tax purposes the same exact expenses with or without the LLC. You do not need the LLC for taxes and a single member LLC doesn’t save you a penny of tax. You’ll have one extra write off for the year and that’s going to be the $200 it cost you to set up your LLC so it doesn’t actually save you money.
That’s the first step. The flip side to that is you can’t just create an LLC and suddenly anything in it is a write off. I see this sometimes too on social media a lot where people are, “Make an LLC, run all your personal expenses through it. Now it’s a write off.” Wrong, straight to jail. That’s also not true. In terms of the next option for an entity and what can help you, you’ll hear people throw around an S corp and an S corp can be a good point of tax savings if you have ordinary income. If you’re flipping houses, if you’re a dog groomer, if you own a hotdog stand, I don’t know, if you have any kind of ordinary income. If you get to a certain point, I keep increasing this amount year to year because costs for operating keep going up, but close to a hundred grand. If you’re not making over a hundred grand, the costs of operating an S corp because there’s so much more administrative, you have to have really good books, you have to do payroll, you have to actually treat it like a separate company, the costs don’t offset the savings.
An S corp saves you money by saving on those payroll taxes, that self-employment tax, but there’s costs for it too. If it’s for your rental income, your rentals already do not pay payroll taxes. They’re not subject to that. Please, please, please do not put your rentals in S Corps. Please don’t. I didn’t wear my t-shirt today. I have this. That’s why Mindy’s laughing. I have it on a t-shirt. I own the domain of don’t put rentals in S Corps. Like just stop doing it. It creates a bunch of tax headache and it doesn’t offer you any tax savings. The answer is it depends.
But either just operating in your personal name or if for legal purposes you’d like the idea of having that LLC there to separate you out, cool, get a single member LLC. Don’t add your spouse to it because they want to feel involved even if they’re not part of the business because now you have a whole separate tax return filing that costs more money. Open them up in single person names like just your name or just your spouse’s name. As soon as you add two people, you have a partnership tax return, and talk to an attorney and see what your actual liability is and see if you might be better covered by good insurance. And also if you are the kind of person who will actually maintain it separately, I would say 85-90% of books I see aren’t maintained well enough where the LLC isn’t pierced in some way.
There’s not your gym membership going through there like the trip to the zoo with your kids. You have to treat it like a business for it to even have a benefit. Make sure you’re ready to do that. Make sure you’re ready for the extra cost and they makes sense in your business. Talk to your tax pro, talk to your attorney, loop them in on a Zoom together if you can. Then make a choice. Again, don’t go rogue. That’s like the motto, the motto of this show. Just don’t go rogue, just loop and professional.

Mindy:
So there was a Beastie Boys song called No Sleep Till Brooklyn. And every time I hear your no rentals in S-corps, I sing that song. No rentals in S Corps. You can sing that song too when you think of Natalie, when you’re thinking of putting your rental in an S-corp, just remember, no. The IRS does not give points for creativity. They give fines for creativity. They give you jail time for creativity. Okay, well thank you, Natalie. That was an awesome answer. One last question if you’ve got the time. What is the best way to find a CPA that operates across multiple states and is not only familiar with real estate, including house hacking, but some of the other strategies such as Roth conversions that can be used within stock investing? And I’m going to chime in here and say, hey, if you have to pick one of these, which one is the better one to focus on?

Natalie:
Yeah, I typically tell people to find a tax professional who is most specialized, who is specialized in whatever your biggest kind of complication is or your biggest income source. If you are focusing on real estate investing and that’s a big part of your retirement plan, that’s who you should work with. If you have a main business and you are a travel nurse or something like that, that’s who you should work with. Always find your main person who someone specialized in whatever your passion is, whatever your focus on, or you are planning to use this as your biggest source of getting to your financial goals because you want them to understand it and know what to do with your specific tax situation. And that’s hard to do if they don’t understand what you’re actually doing. That would be my biggest advice is find someone who based on your number one thing, and if they’re … I’ve never met a real estate specialized person who didn’t also know about retirement accounts and other things related to FIRE, they tend to go hand in hand.
If your two things are completely, completely opposite ends of the spectrum, you might want two different professionals or you might have someone handle your taxes and bring in someone else for advising. If you have a large company that’s a very specific in a farming industry or ministry or something that has its own kind of niche of the tax code, you can do that too. Then how to find them, there’s a few different options. BiggerPockets now has a tax professional directory. If you’re looking for a real estate tax pro, check that out. That’s a great place. I also recommend interviewing a few different people and seeing who you get along with because we’re people, and I know we seem like robots, but we’re people too. Someone might hear this interview be like, “Oh, I would never work with her.”
That’s fine. There’s someone out there for you. Talk to people who meet the knowledge base you want and then who you’re going to work well with. And that’s really important too. And check the BiggerPockets directory, check the BiggerPockets forums, talk to other people in your industry, talk to your colleagues, see who they’ve worked with, get experience from things like that. If you’re looking for real estate, look for a real estate tax strategist specifically. You don’t just want a tax preparer, you want someone who’s going to plan with you too. Those are kind of my biggest tips and run back through some of the BiggerPockets podcasts. And I know there’s been some blogs and different things on what questions to ask a tax professional, use those as a guide to kind of interview. You’re interviewing them and they’re interviewing you, but asking the right questions tells you from the jump if they really understand what it is you’ve got going on with your investing and your real estate and your retirement goals.

Kyle:
Yeah, just to piggyback on what Natalie said right at the end there, there’s some personal responsibility here that if you’re looking for any professional, you need to be doing some of the research yourself. And if you’re listening to this podcast, that’s the great start. But you need to know what questions to ask for your specific situation. The more research you can do ahead of time, the faster when you’re interviewing a professional, you’re going to be able to find out if they’re a good fit, if they know what they’re talking about, if they don’t know what they’re talking about. Whether that’s a CPA, an EA, a CFP, an attorney, anything along those lines, the more you can research ahead of time to know what good questions to ask, the better off you’re going to be and the less likely you’re going far down the line with that professional before you realize it’s not who you want to work with. If you can head that off earlier on, that’s going to help you out a lot.

Mindy:
I love that. All right, so this episode is airing right before taxes are due. While this information might not help you right now today for this tax year, these are definitely things you can think about throughout the year and as you are preparing to do your taxes for next year. It’s also a really great thing to keep in mind when you are interviewing tax pros for next year. We also did an episode with Natalie, episode 360, where we talked about different things to include in your interview when you’re finding a new tax pro. Natalie, where can people find out more about you?

Natalie:
Yeah, you can find me. My website is KoloTax.com. K-O-L-O-T-A-X. And follow me on social. That’s kind of the best place to find me and get some good tax information. And I don’t want to say it tends to be on the fly, but it is. It tends to be a lot of things that are like, “Here’s something I saw wrong, how you can avoid it, here’s a great update.” Things like that. Follow me on Instagram, @re_tax_strategist. There’s just underscores between those. Real Estate Tax Strategist on YouTube, and you can just find me on Facebook.

Mindy:
Thank you, Natalie, for sharing your huge tax nerd brain with us today. And Kyle, where can people find out more about you?

Kyle:
Just KyleMast.com or at financial … Excuse me, @financialkyle on Twitter. I sometimes post there. You might be waiting a while. Depends on how busy I am with the kids.

Mindy:
All right. I am going to pay homage to Scott who is not here today with a joke. What is the difference between an alligator and a crocodile? One you will see later and one you will see in a while. I think they have ears too, but I don’t know. All right, that wraps up this episode of the BiggerPockets Money podcast. He is Kyle Mast and she is Natalie Kolodij, and we are out of here.

Audio:
If you enjoyed today’s episode, please give us a five star review on Spotify or Apple. And if you’re looking for even more money content, feel free to visit our YouTube channel at youtube.com/biggerpocketsmoney.

Mindy:
BiggerPockets Money was created by Mindy Jensen and Scott Trench, produced by Kailyn Bennett, editing by Exodus Media, copywriting by Nate Weintraub. Lastly, a big thank you to the BiggerPockets team for making this show possible.

 

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Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.

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