Write-Offs, Loopholes, and How to Pay Less Next Year

Dave:
Hey everyone. Welcome to On the Market. I’m your host, Dave Meyer, joined by Henry Washington.

Henry:
What’s up buddy? Good to be here. Good to see your smiling face.

Dave:
Oh yeah. It’s all fake right now. I’m sick as I told you before, but I’m faking it as much as I can.

Henry:
Hey, well you’re doing a fantastic job, Dave Meyer.

Dave:
Oh, thank you. Well, no one’s going to hear the times during the interview with Amanda where my brain just melted down and I couldn’t speak. Thankfully they’ll edit all that out and it’ll maybe sound good during this episode.

Henry:
Absolutely.

Dave:
Well, it was a fun episode. This is a really cool episode because tax is not always the most fun, but I feel like this was actually a very entertaining, enjoyable conversation where I learned a lot.

Henry:
I totally agree with you and you’re right. The fact that it’s typically not a fun topic is the exact same reason why most people don’t think about it until they have to. And we talk exactly about why you should not do that in this episode, and it was really both and helpful for me.

Dave:
Yeah. I think most people, we talk about this a little bit during the interview, start to pay attention to their taxes on April 11th or whatever, a couple days before. But I think one of the main points that Amanda brought up is that tax planning is perhaps most beneficial around this time of year. You should be doing it year round, but there are a couple tips she gives that you can do even before the end of the year. I know this episode is airing with five days left in the year, but there’s still some things you can do to improve your tax situation by the end of the year.
And starting in the beginning of the year, starting 2023 off right is the best way to maximize your tax position because you have a full year to think of new ideas and implement those ideas to improve your tax situation. This is a really good timing and really important for you to start thinking about these tax strategies that Amanda shares either for this year and going into next year.
We are going to take a quick break and then we’ll be back with Amanda Han. All right. Well, let’s welcome Amanda Han, who is … I don’t know. CEO, Founder of Keystone CPA? What’s your title there?

Amanda:
I don’t really know. I kind of do everything here. I’m technically one of the managing directors.

Dave:
Okay. Managing Director of Keystone CPA, and author of two excellent textbooks, which I’m holding up here, which are books I have been reading over the last couple of weeks, perusing as we get into tax planning season. Amanda, thank you so much for being here.

Amanda:
Yeah, I’m so excited to be here. This is my first time on this show.

Dave:
Well, thank you for joining us. We know that we don’t have the same cachet as The Real Estate Show, but we’re glad that we were able to book you finally.

Amanda:
Oh, I hear this is the show to be on actually. I’m really starstruck to be here with you guys.

Dave:
Oh, well hopefully we live up to that, Henry. I don’t know.

Henry:
It’s definitely you. It’s not me, Dave.

Dave:
I don’t know. Well, hopefully we’ll ask some intelligent questions and impress you, Amanda. Well, thank you again for being here. Realistically, you are one of the most prominent experts on real estate tax in the entire industry. As we come to the end of the year, we thought it would be helpful to help our audience understand if just any, first and foremost, what they should be thinking about as real estate investors right now. Then we’re going to talk about some of the changes that did and wound up not happening in the tax world in 2022. Amanda, I’m going to just ask you a couple rapid fire questions so that everyone who’s dreading doing their taxes next year has some inspiration for actually doing this properly. When do you recommend real estate investors start their yearly planning for taxes?

Amanda:
Oh, that’s a great question. Tax planning really should be happening all year round. The earlier you do planning, the more options you have. Before the end of the year definitely is kind of the last point in time when you can do planning. My husband, Matt, and I like to joke that tax planning is sort of watching sports. When you’re playing a basketball game, one team might be up in the scores, the other one might be up at different times during the quarter, but what really matters, the winner of the game is determined by where the score is at the end of the game. And that works exactly the same way for tax planning and numbers. Where your income and expenses are on December 31st is going to determine how much or how little taxes you pay. All year long is good for tax planning, but year end is a huge … You want to end up on a high note.

Dave:
All right. Well, this show is coming out with five days less than the year. Everyone who’s listening to this. Cancel all of your holiday plans-

Henry:
Go, go, go, go.

Dave:
… and just spend the next five days doing everything Amanda says for the next 45 minutes.

Amanda:
Yeah, look me up on social media, YouTube, watch all that, do everything in a couple days. But I think even knowing that, right? If you don’t have enough time for strategies in the next couple days, it’s still a good idea to take some time to plan ahead, right? Because if you didn’t do things right already this year, we still have all of next year to plan, especially as you do more real estate, make more income. I mean, we’ll continue to have taxes and pay taxes, that’s not going away. The planning is always going to be beneficial. Still do it for next year if you haven’t done it already this year.

Henry:
I mean, at year end, is it really tax planning or is it more tax damage control?

Dave:
Tax scrambling?

Amanda:
Yeah. Yeah, I like the way you put it. I just put it a little bit more nicely, I guess. But yes, I mean, there’s still things that could be done before the end of the year. I mean, not for every single investor, but certainly for some investors there are things, and I mean, there are also things you can do after the end of the year to save on taxes, but those are just a lot more limited. When we start planning in January, there’s maybe like 101 ways you can reduce your taxes. Halfway through the year there might be 30, 40 ways to do it. In the next couple days before year end, there might be, I don’t know, five, six things you could consider. But even then those might be very powerful too.

Henry:
Well, it’s kind of like you’re a savant because that’s exactly what we were going to ask you for the next question, is what are the things investors can be doing to minimize their tax burden for 2022 with 10 seconds left on the clock?

Amanda:
Yeah. I mean, I think a couple major things for investors, major ones for year end planning. We’re looking at how do we shift income so that we pay the least amount of tax? If you’re having a big taxable event, and we’re talking with real estate investors, so if you’re potentially selling a property or getting a large amount of income from tenants and things like that, if you can defer it by even just one day from December 31st of this year to January 1st of next year, that could significantly defer your taxes for one whole year. Whatever income you make now, you’re going to pay taxes on it possibly in April, but if you delay it into January now you don’t have to pay the tax until January … I mean, April, 2024. You have a whole year to be happy and invest your money, more time with your money, but also just a lot more time for you to strategize.

Henry:
Give it a little hug.

Amanda:
But just a lot more time to strategize, right? Because we’re talking about okay, so this year if I’m going to sell a property, I’m going to have a huge gain of, I don’t know, a hundred thousand dollars. I have four days on how am I going to offset it? But if I just waited until January to sell, then I have all of next year to think about 101 ways I can defer taxes on the sale of that particular property. That’s one thing. Then I think on the flip side, we look at accelerating expenses.
That’s looking ahead at what are some of the recurring expenses that you have as a real estate investor and can I prepay for some of those before the end of the year to get a tax deduction? Whether it’s marketing or software, computers, any of those things that, or even repair costs, appliances for your properties, things that you know will have to spend in early next year, why not prepay for that before year end so you can get a tax deduction? And I think what people don’t know too is you don’t actually have to pay cash for a lot of those things. If you charge it on your credit card, a lot of times those are deductible this year as well.

Dave:
Oh wow. Well, I think this was strategic of us. We didn’t want to overwhelm you with advice for taxes in this year, so we gave you just five to do in 2022. But for those of us who are going to try and be more diligent next year, what are a couple of the strategies that people should be considering? Like we’re at the turn of the year starting in 2023, how do you get off on the right foot into the next year?

Amanda:
I think the way I look at tax planning, it sort of follows what your investment plan is. I think if as an investor, well hopefully you’re doing some goal setting, right? 2023, here’s what I want to accomplish. I’m going to buy X number of long-term rentals, or short-term or midterm or whatever, subject two deals. Then from there is having that conversation with your tax advisor and looking at what types of strategies would make sense in those scenarios. For example, if you are a short-term rental investor or you plan to buy a lot of short-term rentals, then looking at where are the properties that will give you the best maybe depreciation? Obviously we want cash flow and depreciation, but which properties will give you the best tax depreciation and what do you need to do to get enough hours so that you can actually use all those tax benefits to offset not just your rental income, but maybe income from your W-2 job or some other business you might be running. I think that the tax planning should follow whatever your investment goals are going to be for next year.

Henry:
That’s super cool. People have a general understanding of writing off helps me save on taxes. But I think when people think of tax write-offs, everybody thinks of the same things, right? What are some of those tax write-offs that real estate investors can do that maybe aren’t so common, or things that investors just forget about or miss completely that they’re not typically writing off that you see as a big miss?

Amanda:
Gosh, that’s such an interesting question. I’ve never been asked that before. It’s funny because I feel like people know what they can write off, but then it’s a little bit different when it comes to actually writing things off or actually tracking it. I always tell people like, “Hey, when you go to these real estate conferences or meetups,” right? You can write off all those expenses, your travel costs and hotel and meals. Then what happens is when I’m actually talking to the investors at tax time, I don’t see those things. I don’t see it on their financial stuff. And I’m like, “I know I saw you at BPCON. Where is all that stuff?”
I think it’s more important than just understanding what you write off, but also tracking it and making sure you give it to your tax person when they’re doing tax returns. But yeah, it’s all those things that are like we all know we can write off property specific things like repairs and insurance and property tax, but it’s all those kind of what I consider overhead, things that I got some personal enjoyment out of doing it. It’s not really for my property on Main Street, those are also deductible too, as long as it’s related to your real estate activities. There’s like a hundred different write-offs that fall into that category. Like cars and home office and travel, education, all that good stuff.

Henry:
No, you’re 100% right, because it really comes down to being diligent in the moment when you are thinking about your taxes. I think we as normal people, I think we want to think about taxes only one time a year, right? But to truly get the most benefit, you have to be thinking about it and be taking action on it throughout the year. I’m 100% guilty of that, of knowing that, “Hey, I can write this trip off” and then not being diligent about keeping track of expenses or receipts and things and then come tax time, I’m trying to dig back through emails and receipts to make sure that I can get that write-off. And I probably don’t realize the full potential of what I could have written off by not being diligent. That’s a great point. Thanks for sharing that.

Amanda:
I feel like I struck a chord with you when I said that too. Your reaction.

Henry:
I feel like you were talking to me, so thank you.

Dave:
That’s so true though. And it really is a mindset to start thinking in each interaction, everything that you do as an investor about how to create tax advantages for yourself. And it does seem like it’s the last piece of the puzzle for a lot of investors. You try and learn how to analyze deals, you get your deal flow, you work on operations, and then once you start having checks to the IRS that are big enough to start hurting, then you’re like, “Okay, now it’s time for me to start adopting the proper mindset.”

Amanda:
Yeah. I think I have two things to add to that. Henry, for you, one simple thing you can do is if you have a credit card or a bank account that’s dedicated to your real estate stuff, again, it doesn’t have to be for a property, but having that one bank account, one credit card, and you use that, it’s always in your wallet, you’re using it every time anything is business related, that will help a lot. And because then you know, you download all those transactions, those are just your business stuff, and you don’t have to go through your emails and calendar and try to figure out what this was.
And I think the other thing you guys said, taxes, the last on our mind, Henry only wants to think about it one time a year. But really what you want to do is just have it in the back of your mind every day. Whenever you’re spending money on something, ask yourself, is this reasonable that it would be a business expense? Am I doing it to better my real estate? And if so, charge it on that card. Not that you have to become a CPA or anything, but just always ask yourself that little question when you spend money. I think that’s going to go a long way. If you’re in a 30, 40, 50% tax bracket, a hundred dollars in expenses, it’s going to save you 30 to 50 bucks of cash.

Henry:
You know Amanda, I thought we agreed in the pre-planning for this that we were going to say I was asking for a friend. I feel like you just [inaudible 00:14:42] me out. But it’s cool. I appreciate it.

Dave:
You were talking about Henry and Amanda, about people who forget about this. Amanda, I’ve been wanting to ask a CPA this question for a long time. Does anyone actually keep track of their mileage when they’re driving around? I just feel like that’s a myth that people are able to do that. Because who has the discipline to keep track of everywhere they drive?

Amanda:
Yeah, I guess-

Dave:
You do it, don’t you, Amanda?

Amanda:
I have to say yes [inaudible 00:15:11] I tell people to do that. There’s great technology now, right? In the olden days, you have to write it down in a little notebook, which my father-in-law does. But no, there’s so many apps now that you can track it where you just turn it on and then it’ll do all the tracking for you. Just say, “Okay, this is business, this is personal.” MileIQ, there’s a lot of different ones out there that people use. But to answer your question, I mean, I hope people are tracking it. At least my clients tell me they are, but yeah.

Henry:
I cannot confirm nor deny. I use Everlance, which is a similar tool to what she talked about. It kind of tracks it in the background using the accelerometer on your phone and then you can just swipe whether it’s for business or personal.

Amanda:
Yeah. Yep, that’s exactly what I was saying. It’s just easy. You’re swiping on your phone all day anyways, guys, I’m sure you’re doing that. You just do it now for tax purposes.

Dave:
Okay. All right. Well, I just have one more tax 101 question for you. Then let’s move into some of the changes and updates about the tax code. What is one or two sort of more advanced strategies that most real estate investors overlook that you think they should be considering?

Amanda:
Gosh, advanced strategies. It’s hard for me to kind of determine what’s advanced for one person might not be advanced for another person.

Dave:
Well, one that’s from your book on advanced tax strategies and not from your one just for regular tax strategies.

Amanda:
Oh, thank you. Thank you for the plug of the books. Advanced strategies, one that we’ve been kind of talking a lot more about and hear a lot more about on social media recently is the concept of home home/rental. For newer investors, right? Where you have a primary home and then you are house hacking. Whether that’s turning later living there and then turning it to a rental, or you have a duplex where when you live in one and you sell the other one, that’s a rental. One of the strategies, there’s two separate things. One, we all know that if you live in a primary home for at least two out of the last five years, you can exclude up to $500,000 tax free. And as investors, we also know that when you sell a piece of rental property, you can 1031 exchange and defer the capital gains taxes.
Those two are somewhat simple strategies. But what I love about house hacking, if you’re doing it correctly, is that you can actually combine the two strategies. What that means is you can possibly sell, so if you have a home, you turn it into a rental and then later sell it, it’s possible for you to get up to $500,000 of gain tax free. And if your gain is beyond that, you can use a 1031 exchange to defer the rest of that gain too. I really like that because we’re seeing a lot of investors doing house hacking, whether it’s … I think a lot of people think house hacking is for newbie investors, but I have a lot of clients that are very experienced and they do house hacking because it’s one of the few ways that you can get tax free money, just a rehab and move every couple years. But that’s a really great one that you can combine two different strategies into one to get a really significant tax savings.

Dave:
Good idea.

Amanda:
You want me to do another one, right? Because you asked for two advanced.

Dave:
Take whatever you got. I’m writing notes right now.

Henry:
We’re going to let you talk about tax strategies as long as you want to.

Amanda:
As long as I want.

Henry:
Go on.

Amanda:
I’ll just share a client example, okay? This is a good one because we’re talking about year end and we’re talking about more advanced strategy. I have a client who is going to come across a big windfall. This happens to be a dentist who’s going to sell his dental practice. We’re working with them to try to delay the closing of that sale. Everything’s moving forward, all the due diligence, everything’s moving forward, but we are trying to help him to delay the sale until January of next year. This is a couple million dollars worth of gain and taxes that they’re looking at. By delaying it to next year, the two benefits. One, we’re delaying the taxes, but two, it’s going to give him all of next year to help plan for ways to offset that couple million dollars of gain from taxes.
The significance for this particular person is that this year they’re still working full-time, right? They have their dental practice, there’s no way for them to use rental losses to offset all that huge gain, but next year they’re going to be out of the dental practice, they’re going all in real estate. They’re going to have a bunch of properties, active real estate, passive syndications, and we’ll be able to use that to offset all this significant amount of capital gains tax. Just the power of how proactive planning across multiple years can really make a huge tax difference.

Henry:
That’s super awesome because again, selfishly, I’m getting so much value out of this and I think people should really be taking notes on some of these advanced strategies because you’re right, you want to be as proactive as possible. And one thing we do know about taxes and tax laws and rules is that they change. Can you give us some insight as to what’s changing for the upcoming tax year so that we can start to be proactive about how we plan for those changes?

Amanda:
Yeah. Well, I think for real estate investors, there’s two major things. The one is the good news that I wanted to share, which is in the last couple years we heard a lot about Washington DC trying to punish real estate investors. The landlords are big bad wolf and we have all these unfair tax advantages. Really trying to take away some of the benefits of investors, whether that’s depreciation or writing off interest or 1031 exchange, that was something that was always on the chopping block. The good news coming into this next year is that a lot of those things that we had been monitoring are kind of at a standstill. Right now as a stands, we’ll be able to do 1031 exchanges going forward with no limitations. You can sell millions of dollars of real estate and pay no taxes if you’re doing the 1031 exchange correctly.
Those are all the good things about real estate. I think the one change that is not as good specifically for when we talk about real estate investors is the change in depreciation that’s coming up. Right now for this year, we have what’s called bonus depreciation where we can write off certain things at a hundred percent. Before the show we were joking about cars and things like that, right? If you did buy a large truck or SUV over 6,000 pounds this year, you can write off up to a hundred percent of that purchase price. If it’s used, primarily used for your real estate business of course. And also other things within real estate like the furniture, fixture, things you’re putting into your short term rentals. A lot of those right now, we can get a hundred percent bonus depreciation. The change that’s coming up for next year in 2023 is that 100% immediate write off a little bit to 80%.
The example will be if I spent a thousand dollars buying some furniture from my short-term rentals, instead of writing off a thousand immediately, I’ll be able to write off 800 bucks of it immediately. The other 200 bucks I’ll get to write off still over the next five, seven, or 15 years. It’s not like we’re losing out on the benefit, we’re just getting it a little bit delayed. That’s kind of the major change coming up and a reason why you’re seeing a lot of investors aggressively trying to close, buy assets and put properties into service before the end of the year.

Dave:
Amanda, could you tell us a little bit more about what bonus depreciation is? Because this is a relatively new thing, right? And how is it different from regular depreciation?

Amanda:
Yeah, so regular depreciation, so the way depreciation works in the tax world is you have a specific asset and let’s say it’s furniture for your rental properties or appliances. The IRS says, “Okay, you can write that off,” let’s say for over five years. Whatever the cost of that appliance was you, you’re deducting it over the next five years. Bonus depreciation basically says you don’t have to wait five years to write it off. I’m going to let you write off all of that first in the first year or in the current year that you’re putting into service. It’s not creating new deductions. It’s just saying, “I’m going to let you write off more of it upfront.” And obviously the significance of it is, as a real estate investor, if I can write off a bunch of things this year and save on taxes or get a refund, then that’s great because I have more money to invest rather than having to wait on that tax benefit over the next couple years

Dave:
With regular depreciation, right? It’s not actually you’re not paying taxes, it’s a deferral of tax, right? Is that the same with bonus depreciation? You still have to do a depreciation recapture when you go to sell?

Amanda:
Yes, yes, that’s correct. The way it works and recapture basically is just saying, “Hey, you bought something,” let’s say you bought something for a thousand dollars and then you wrote it off, right? And then later on down the road you’re going to sell it for 1200 bucks. Well, you already wrote off that thousand dollars, so the whole $1,200 is going to be taxable gain. You don’t get to get a benefit again for what you already wrote off. And yes, you’re right, that is the same whether it’s regular depreciation or bonus appreciation because you can’t write off the same thing or you can’t benefit from the same thing twice.

Dave:
Yeah. I think this is super important and something very misguided people ask me because as Amanda knows, I know nothing about taxes. We’re learning a little bit right now, but people are always sort of the same question comes up, which is like, why do I care about depreciation or deferring taxes if I just have to pay it anyway? And that’s true, but if you think about it as an investor, so much of how you generate returns is by having as much money invested into an interest bearing or return generating asset as possible, right? It’s like this compound interest machine. And what Amanda’s saying is that basically you’re going to be able to keep more money earning you money for a much longer period of time. You’re still going to have to pay taxes for it eventually, but it means that your principal, the amount of money that you have in your investments that are earning you money can be higher for longer. Is that a good way of describing it?

Amanda:
Yeah, I mean, I always say if-

Dave:
No?

Amanda:
No, that’s the perfect way to say it. If I give you the choice, right, Dave? If I said, “Hey, you’re going to have to owe the IRS a hundred thousand dollars, do you want to pay for that now? Or do you want to pay for that five years from now or 10 years from now?” Right? Of course, I want to pay it later. Like we were saying earlier, right? I want time with my money, want time with my money so I can grow it, I can nurture it. When I pay it in taxes today, my ROI is zero, right? I mean, my ROI. Of course, I know the government is doing wonderful things with it, but my ROI on that money is zero. Because I gave it to the government.

Dave:
Absolutely. You pay it in deflated in money as well, and you get to invest it. There’s all sorts of benefits to it.

Amanda:
Yeah, and I say too, also, I know you mentioned people are concerned like, “Hey, I’m going to take all this tax benefit on depreciation, I’m just going to have to pay it back later anyways.” But that’s not always the case, or it doesn’t always have to be the case. Let’s say you have a property, you do depreciation, you sell it in a couple years. If you 1031 exchange it by buying more real estate, which most investors, that’s what they’re doing. They’re growing their portfolio. If you’re doing that, then you might not have to worry about depreciation recapture because you can still defer the taxes down the road over and over and over again. Then ultimately when we’re all super old, you pass away with the property and that property goes to the next generation, to your beneficiaries. And it might be possible that nobody pays taxes on any of that appreciation.

Henry:
Awesome. One question that I … Well, I’m sorry, asking for a friend.

Amanda:
A friend.

Dave:
Yeah. Your friend. He’s got a lot of questions.

Henry:
Hypothetically speaking, let’s say you’re a real estate investor and you have heard of this concept of depreciation, right? And you just talked about accelerated depreciation, but as real estate investors, we can also leverage what’s called cost segregation studies in order to help save on some taxes. But I think there’s a lot of either misinformation or people are a little bit confused about what exactly that is and what it means. Would you mind shedding some light on the cost segregation and how it benefits real estate investors?

Amanda:
Yeah, yeah. Cost segregation is basically a way to accelerate depreciation even more. Earlier we were talking about buy this appliance, I write it off over five years. Cost segregation does the same thing except on a larger scale. It’s not looking at appliances, it’s looking at the building that you just purchased. If you spend $1.2 million on a acquisition and it’s a million dollars worth of building, normally what’s going to happen is your tax repair is going to say, “Oh, there’s a million dollar building. I’m going to write it off over 27 and a half years,” right?
It’s a very small and slow depreciation. But what you can do is you can get a cost segregation study done. And what happens is that the cost segregation firm will look at the building and break out that million dollar building into different components like flooring, appliances, specialty plumbing and all that. The goal in breaking out those appliances and the various components is then you can get faster depreciation. Instead of maybe a small depreciation, you might get $300,000 depreciation in that first year. That’s the reason people utilize that as a strategy.

Henry:
Awesome. Thank you so much.

Dave:
All right, Amanda. I would like to ask you a little bit about something you mentioned earlier, which is that some of the proposed changes to tax law that were rumored in 2022 didn’t happen. Do you think there’s a chance that anything big is going to change in 2023? I know you’re not a politician, but from what you’re hearing, do you think there’s anything coming down the pipe we should be aware of?

Amanda:
Not really. I mean, not at this time for real estate investors, but like you say, yeah, anything could change. But right now there’s not a whole lot of talks about continuing forward with some of those things. Yeah, I think we’re probably in a good spot for now.

Dave:
Oh, great. Thank you. That made me feel a lot better. Good. I feel like sometimes I start to get a grasp on tax stuff and then everything changes and I’m like, “I just give up. I don’t know anything.” At least for one year now maybe I’ll have some understanding of what’s going on with the tax code.

Amanda:
It’s funny because I think a lot of investors or just people in general hate taxes or hate tax or fear taxes, hate taxes. This is so boring and complicated. But actually I think a lot of my clients who have really benefited from tax planning, I find that they’re always talking about taxes. Sometimes I have to stop them. I’ll find my clients on social media or other people’s podcasts and just talking about like, “Oh, I saved so much in taxes doing this and this.” I mean, it’s definitely a good place to be where it’s like once you see the benefit, it becomes such an exciting thing to plan for and a good asset to help you grow your wealth rather than something to be really fearful of.

Dave:
That’s a very good way to put it. I do want to ask you a little bit about how to find good tax advice, but before we do, I have one more strategic question for you. Something you taught me about. Can you tell me a little bit more about short-term rentals and how they have this special position in being able to help you write off some of your taxes?

Amanda:
Yeah, yeah. Oh, I’m so glad you were candid. You didn’t say it was a friend, a question for a friend, like somebody.

Dave:
It was a friend and it was you who told me that.

Amanda:
Okay. Yes. For short term rentals, we refer, myself and a lot of other CPA colleagues, we refer to as the short term rental tax loophole. The reason we call it have tax loophole is that it’s a loophole for people who are still working full-time maybe at a W-2 job and have a high W-2 income. The reason it’s a loophole is because if you are investing in long-term rentals and you have all these losses, and assuming your income is high income, so over $150,000, your losses from your real estate can only offset taxes from your rental income. It’s not really able to offset taxes from your W-2 income.
That’s a little bit of a limitation for people who are still working full-time and have high income. Short-term rental loophole is treated completely differently. The way it works is even if you’re working full-time at a job, if you have short-term rental properties and you’re using all these other strategies like writing off your car or your depreciation, all that good stuff, if you create a loss, you might be able to use it to offset taxes, not just from the short-term rentals, but also your W-2 and your other business income as well.
The reason for that is because short-term rentals, just the IRS treats it differently. They don’t care that you’re spending more time in that than your job. You just have to meet a couple hours requirements. And once you meet those hours requirements, what we call material participation, so if you meet one of the material participation hours requirements, then you can use those short-term rental losses to offset all types of income. We really see that as a huge benefit for high income people who are doing real estate on the side, not being a full-time investor yet.

Dave:
And how much can you offset if you use that strategy?

Amanda:
It depends on the type of income you have. Let’s say you are a business owner, you have a corporation that you’re flipping or wholesaling or whatever, there’s no limit in terms of how much those short-term rental losses can offset income from your other businesses that you’re involved in. But if we’re talking strictly about W-2 income, there is a limitation. It’s around 540 for this year. Meaning if you even a million dollars of W-2 income, you had a million dollars of short-term rental losses, you can only offset up to about 540,000 as a married couple.

Dave:
It’s pretty good.

Amanda:
Yeah, that’s still really, really good, right?

Dave:
Not earning a million dollars a year, but I would love to have that problem where it was too much. Amanda, this has been super helpful. Before we get out of here, for people who are new to tax planning and want to get started in some of these strategies in 2023, what are some things that they should be looking for in a tax strategist or a CPA and if they’re trying to find some outside help to assist them with their tax?

Amanda:
Well, I think it’s really important to find a tax advisor who specializes in real estate. Preferably they also invest in real estate because real estate people, we probably don’t even feel it because we’re always around real estate, but there’s like a whole different language and lingo and the way that we kind of talk that not everybody understands all that. Definitely someone who understands real estate and invests in real estate. I think a mistake that I see people make all the time is they’ll contact a CPA and say, “Do you work with real estate investors?” The answer is always going to be, “Yes, I work with real estate investors,” right? Because maybe I have one client who invests in real estate. That’s not really a good question, it’s not very powerful because that’s kind of a canned question with a canned answer.
I think a better question might be like if they say they work with real estate investors, kind of probe a little bit more, “What type of real estate are your clients doing? Are they doing subject two deals? Are they doing wholesale?” See how in depth they can go with you on that conversation. Or also, what are some of your successful clients doing in real estate to save on taxes? Just very open-ended questions. Are they talking about cost segregation? Are they talking about what kind of things are they sharing with you? I think those will help you figure out if that’s someone who understands. And of course, Bigger Pockets forum is a great one. There are a lot of other CPAs on there who specialize in working with real estate people, too.

Dave:
Henry, I was just wondering if your friend had any other questions for Amanda?

Henry:
No, no, no. But I did want to highlight that that was a phenomenal tip. You guys should write that down. Being able to ask open-ended questions so you can gauge what they truly know. Because you’re right, we speak a different language. We do things that a lot of people in other businesses think are crazy. Having that, asking those open-ended questions, seeing if they speak your lingo and truly understand what it is that you do is a phenomenal tip. Because I’m sure when I got started, I was guilty of the exact same thing. I asked if you work with real estate investors, and I 100% got a yes answer, and then we worked with somebody that probably wasn’t the best for our business right away. Thank you for sharing that.

Amanda:
And Henry, your friend can always contact me anytime if they have more tax questions.

Henry:
I will be sure to let them know.

Dave:
All right. Well, thank you Amanda, so much for joining us. We really appreciate your time. Where if people want to connect with you, should they do that? Or Henry’s friend, where should he connect with you?

Amanda:
Yes. Yeah, I mean, if you guys, for any of you who want to know more about ways to save on taxes on my website, my firm’s website, we have a free downloadable tax savings toolkit where we talk more in depth about how do you pay your kids to get a tax write off? What’s the best legal entity for your real estate? All those things that we didn’t get to talk about today. You can download those at KeystoneCPA.com, and on social media, I can most frequently be found on Instagram. I am AmandaHanCPA on Instagram.

Dave:
All right, awesome. Thanks again, Amanda, who is the Managing Director of Keystone CPA and the author of two Bigger Pockets books. The Book on Tax Strategies for Savvy Real Estate Investors and The Book on Advanced Tax Strategies, Cracking The Code for Savvy Real Estate Investors. Amanda, it’s always a pleasure. Thanks again for coming on.

Amanda:
Yeah, thanks for having me.

Dave:
Man, your friend really knows nothing about taxes.

Henry:
Absolutely. But hey, we’re in a better place now because it was a mindset shift for me. And it’s just like anything else, right? With investing or getting into investing, you’ve got to change your mindset before you can truly find success. And I never even thought about having a tax mindset, and it will just help you make sure you stay prepared throughout the year because man, there’s definitely things I’ve dropped the ball on that when I heard her talk about it, I was like, “Oh yeah, I should be better at that.”

Dave:
Yeah, I feel like the path to being good at taxes is blazed with terrible mistakes and regrets. You just have to learn sometimes the hard way that there’s better ways to do it. Honestly, I was working at Bigger Pockets when Amanda’s first book came out and I was like, “Tax strategies, what does that even mean? You just pay the amount that your CPA tells you. What strategy is there? You just pay it.” But she has taught me a lot. Not just now, but she is super smart and a very generous with her time and knowledge, so very grateful to have her on. All right. Well, thank you so much for being here, Henry, as always. Appreciate your insights and help, and where should people connect with you if they want to learn more from you or your friend?

Henry:
Yeah, I’m @TheHenryWashington on Instagram. That is absolutely the best place to reach out to me and my friend Harry, he doesn’t have an Instagram yet. Just message me and I’ll make sure he gets it.

Dave:
Yeah, you got to be the intermediary. You can find me either on Bigger Pockets or on Instagram where I’m @TheDataDeli. If you have any questions about this, you can also reach out to Amanda. But for that, thank you all so much for listening. We’ll see you next time for On The Market. On The Market is created by me, Dave Meyer and Kailyn Bennett. Produced by Kailyn Bennett, editing by Joel Esparza and Onyx Media, researched by Pooja Jindal, and a big thanks to the entire Bigger Pockets team. The content on the show On The Market are opinions only. All listeners should independently verify data points, opinions, and investment strategies.

Audio:
Come on.