With graduation celebrations underway, many people are looking forward to summer vacations.
One of the perks of being a real estate investor is the ability to turn certain personal expenses into legitimate business deductions. This summer, why not have Uncle Sam help pay for part of your travel costs? Although there are ways to accomplish this, it is important to take note of the rules on how to do this correctly. Knowing what to do and what not to do today can help you turn a personal expense into a large tax write-off come next April.
Here are the four key items to know when deducting your summer travel this year.
The way to deduct any personal expenses is to ensure there are business reasons for incurring them. To maximize your travel costs this summer, make sure to have a business purpose for the trip. By ensuring that your trip is primarily for business, you can potentially turn a personal nondeductible travel cost into a valid business deduction.
Keep in mind that when we say “business purpose,” we don’t necessarily mean having an LLC, Partnership, or a Corporation. “Business” can simply refer to your rental real estate business or your fix and flip real estate business. The IRS does not care whether you have a legal entity setup. As long as your expenses are ordinary and necessary for your real estate business, you may be able to take a tax deduction for that cost. In other words, even if you are a landlord and you own your rentals in your personal name, it is possible for you to write off your travel costs that are ordinary for your rental business.
If you are serious about writing off your travel cost this summer, you need to pay attention to this very important rule of having predetermined activities. Under the IRS code, your travel costs would only be business-related if you can show that you have predetermined business reason for being there. What exactly is predetermined business purpose, and how does it work? Let’s take a look at an example.
Let’s say that you plan a trip to Orlando, Florida with the family this summer. Real estate is the last thing on your mind when making your reservation. While in Orlando, you start to notice that there is a lot of new construction going up in the area. You take that as a sign that the market here may still be appreciating and start thinking it may be a good idea to invest in Orlando. While on your way to Disney World, you decided to pull over to visit the model home of one of the new high rise condos. You ask for the business card of the sales person and then throw it in your suitcase, thinking this is how you will now deduct your Orlando trip.
The problem with this example is that although the business card of the salesperson you met with can help to prove the business purpose of the trip, it does not help you to substantiate that you had “predetermined” business purpose. In order to justify the travel costs as a business deduction, we must also prove that the purpose (or reason) you went on this trip was for business purposes.
In the above example, we did not show that our intention of being in Orlando was for real estate investing. Rather, we intended on a family vacation and just happened to also look at an investment property. Now, this does not mean that we are precluded from deducting anything at all. If we cannot prove the reason we went to Orlando was to look for investment properties, we can still deduct any expenses specifically related to the business activity itself. Let’s say that we decided to drive around with our rental car to look at a few more properties. Those specific costs can still be tax deductions. If we were nice and decided to take the real estate agent at the sales office to lunch to pick his brain on the real estate market, that meal can certainly still be a tax deduction. However, without predetermined purposes, most of our travel costs (i.e. flight, hotel, etc.) would not be tax deductible.
To establish predetermined business purposes and maximize our tax deduction, we need to do a little more proactive planning. In the same example as above, if we could show that before we booked our flight, we had pre-arranged business activities prior to leaving on the trip, then it may be possible to prove our intent. One way to create a predetermined business purpose is to have documentation on the business activities scheduled ahead of time. Examples can be signing up for a real estate conference, meetings scheduled with a local real estate agent or property manager, or maybe even meeting with someone in Orlando who may be a potential investor. Having proof of these predetermined meetings and activities can help you to prove that the reason for your trip was business-related. Once you can substantiate a predetermined business purpose, part or all of your travel and hotel costs may be tax deductible.
Level of Business Activities
To maximize the tax write-off of your travel costs, it is important to make sure that you have as much business activity as possible. Now, this does not mean you should be doing real estate all day, every day. Let’s face it, what kind of vacation would that be? It is important, however, that a decent portion of your time is business-related. The ideal result is that you are spending more than 50 percent of your time on business activities. Let’s take a look at what this means.
If you flew to Orlando on a Thursday, that can be considered a business day. On Friday, you have a few predetermined meetings with a few real estate agents, which constitutes a business day. Saturday and Sunday, you and your family have a great time at Disney World. On Monday, you meet with a potential private investor who may want to fund your next real estate deal. This is also a business day. On Tuesday, you fly home ,and this is also a business day. In this scenario, the majority of your time was business-related, so it is possible to write off the entire flight and hotel costs of this trip.
What About Family?
I just mentioned that it is possible to write off the entire cost of the hotel and flight in the above scenario. But what about the cost of flights and hotels for your spouse and kids? For the most part, flight costs of spouse and kids are only deductible if it is ordinary and necessary for them to be there for the business trip. So if you have older kids who are partners in your real estate deals, it is possible that there is a legitimate business reason for them to be in Florida with you.
On the other hand, if your kids are three and five years old, odds are it would be hard to justify they had a “business purpose” in flying to Orlando with you. A similar test would apply to your spouse and any other family members who travel with you. This also can apply to hotel costs. If the kids have no business reason for being there, then the cost of their hotel room would not be tax deductible. On the other hand, if the kids stay in your hotel room, the entire cost of the hotel room can still be a potential tax deduction since having a hotel room would be an ordinary expense so you have a place to sleep.
As with anything in the tax world, make sure that you keep good documentation of your trip. Keeping copies of email, receipts, and other correspondences prior to leaving for your trip can help you to support predetermined activities. Keeping copies of receipts for your car rentals, meals, hotels, and other incidental expenses can help you prove the expenses were actually incurred. For those of you who hate receipts, consider taking a picture of the receipt and filing those pictures away in a safe place in the event of a potential IRS audit. Plan ahead to make sure that you maximize your summer travel this summer. Get some work done while you are away, but don’t forget to have lots of fun in between!
For more information on entities and tax strategies, check out Amanda’s book The Book on Tax Strategies for the Savvy Real Estate Investor — coming soon in paperback!
Investors: Do you plan on making any real estate-related trips this summer? Any tips you’d add regarding travel expense deductions?
Leave your comments below!