BiggerPockets Money Podcast

BiggerPockets Money Podcast 112: Choosing the Right Tax Professional for YOUR Specific Needs with Natalie Kolodij

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Natalie Kolodij is a tax strategist. (You’ve probably seen her in the forums!) With April 15 looming around the corner, we’re going to chat about ways to choose the RIGHT tax professional who can best serve YOUR specific needs.

Natalie also shares a few red flags about potential tax preparers, as well as specific things your tax pro should be asking for—and what it means if they do not.

She’ll also share some common missed deductions that can cost you BIG and how to prepare and organize your documents so your tax pro can process your returns quickly, efficiently, and with the least amount of time billed to you.

Looking for that seemingly-elusive real estate professional status? Natalie explains in detail how to qualify for this lucrative benefit. She even shares how long you can depreciate a kangaroo!

If you’re a taxpayer, this show can help you save time and money. If you’re a real estate investor/taxpayer, you can’t afford NOT to listen to Natalie’s advice!

Click here to listen on iTunes.

Listen to the Podcast Here

Read the Transcript Here

Mindy:
Welcome to the BiggerPockets Money podcast show number 112 where we interview Natalie Kolodij from Kolotax and hear tax tips for aspiring real estate investors.

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Natalie:
Just be mindful of your taxes. Don’t believe everything you read on the internet that people tell you you can or can’t do, check with a professional, a lot of stuff gets set up wrong. And just make sure that, like I said, that you’re as organized as you can be, that you just give all of the information in some way or another. You don’t need to know all of the tax laws, that’s not your job. If you’re hiring this out to someone else, then that’s their job, is to know how to maximize things for you. But they need the details, they need to know as much as possible to do that.

Mindy:
Hello, hello, hello. My name is Mindy Jensen and with me as always is my astounding co-host, Scott Trench. Scott and I are here to make financial independence less scary, less just for somebody else and show you that by following the proven steps, you can put yourself on the road to early financial freedom and get money out of the way so you can live your best life.

Scott:
Wherever you are in your financial or life journey, you can begin rapidly moving towards a position you’re capable of generating a great income, saving a huge percentage of that income and setting yourself up to make larger and larger investments on your way to financial freedom. Whether you want to retire early and travel the world, go on to make big time investments in assets like real estate or start your own business, we’ll help you build a financial position capable of launching yourself towards your dreams.

Mindy:
Scott, I am so excited to talk to Natalie today. Taxes is not something that people normally get excited about, but since we are huge money dorks, we are going to get very excited about these taxes because Natalie is not talking about how to pay more tax, Natalie is talking about ways to pay less tax, which is my favorite amount of tax to pay.

Scott:
Absolutely, and just to give you kind of a heads up for today’s show, if you have a W-2 job and don’t have any other income streams or real estate or any other meaningful assets, then to say right upfront, this show’s not going to be really be of that much value to you, unless you’re planning to do those things in an upcoming year, you’ll probably get a lot of value out of it. If you own real estate, if you have an over six figure income, if you have a small business, I think you can get a lot of value out of today’s episode.

Scott:
And you're going to get especially a lot of value if you are house hacking for the first time in 2019 or 2020, because we're going to go through exactly how to treat a house hack where you have additional rooms in your property, a live in flip, a duplex, where you rent out one unit and live in the other. We're going to talk you how to walk through that tax treatment. And we all understand the trade-off that a new house hackers making where maybe they're not earning a ton of income and a tax professional is going to be a big bite out of their expenses. But I think we'll make a good case for how you should think about that and whether you should consider using a tax professional if you are house hacking.

Mindy:
Yes, also, if you are the owner of a petting zoo, Natalie has some really great tips for you on how long you can depreciate your kangaroo.

Scott:
That’s right.

Mindy:
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Mindy:
Okay, huge thanks to the sponsor of today’s show, Natalie Kolodij from Kolotax. Welcome to the BiggerPockets money podcast. I’m so excited to have you today.

Natalie:
Hi, thanks for having me.

Mindy:
Natalie is a tax strategist and with April 15th looming around the corner, she’s here today to share tips for choosing a tax professional who best serves your specific needs, including some things to look out for and some things to be concerned about if your tax pro doesn’t ask for. She’ll also share some common missed deductions that can cost you big and how to prepare your documents for your tax pro so they can prepare your returns quickly, efficiently, and with the least amount of time billed to you. So Natalie, welcome to the show.

Natalie:
Thank you, thanks for having me.

Mindy:
I'm really, really excited because when I was a kid, I worked at Dairy Queen and I did my taxes or, well my dad did my taxes for me. I'm old enough that TurboTax wasn't around, just a little too old for TurboTax at the time, the internet wasn't even around when I first did my taxes. But I didn't need a tax pro because I worked at Dairy Queen. I was making $3.35 an hour and I had no deductions. My dad wouldn't even let me deduct me, which I was very angry at for a while. And was, "Why do you get to deduct me?" He's like, "I'm paying for your housing, your food, your everything, so I get the deduction." But then I didn't need them, now, I need it because I have an LLC, I have rental properties, I have all these random things. At what point does somebody start looking for a tax professional?

Natalie:
Yeah, so I normally tell people it kind of depends on you and your circumstance. So there are some people where from the beginning they spend a lot of time researching, they kind of figure things out really well on their own and they feel really comfortable even if they get that first property or they are self employed or kind of step outside the realm of just a W-2 job.

Natalie:
If all you have is your W-2 job, there’s nothing too complicated, you can very easily file by yourself. Or like I said, if once you move a step beyond that, if you feel like you’ve put in the research and you won’t be mad at yourself if you do miss something because that’s always possible, then that’s probably sort of the point where at that time you can kind of hit a fork in the road, you can either start building a relationship with someone early even though you may not need them yet, or you can try it on your own for a little bit and see how you fare in the waters.

Scott:
Well, thank you for giving us the scoop on Mindy’s Dairy Queen tax bill, that was great of you. But could you give us a little overview of hey, Mindy working at Dairy Queen, maybe she doesn’t need a professional tax preparer, she doesn’t need a tax professional to help her prepare for her several thousand dollars perhaps in part time income. But where does that lie in cross? Where do you begin approaching that barrier where you might need to hire a tax professional?

Natalie:
Yeah, what I typically tell people is when your tax situation is pretty common, I think a lot of the listeners have probably been preparing their own taxes. If you work a W-2 job, you’re not a high income earner, which is typically considered six digits. So if you’re under that amount then there’s a good chance you can prepare it yourself and be comfortable with it and not miss any kind of those basic deductions that you qualify for.

Natalie:
If you just work sort of a nine to five job, maybe you put some money in your 401(k), there’s nothing crazy or exuberant at that point. What I would say is once you reach that six digit income where now you’re limited on some of your deductions you can take regarding retirement and you kind of need a little more planning, or once you add in anything that is kind of one step further. If you added a rental property, you adding a business, anything that you would need to know a little more tax law for where there’s going to be some guidelines to it, at that point, I would recommend reaching out to someone to at least establish the relationship, even if you don’t need them that year.

Scott:
Great, so most of what we’re going to talk about is probably going to apply to that, those kind of bigger earners with rental properties or with business or other types of income outside of W-2, is that right?

Natalie:
Yes, for the most part that’s the point where you would reach out, where you start having some different options and having a strategy that you can apply. Before that point is pretty cut and dry, so there’s less kind of creativity you can put into your taxes to help you save money before that point.

Scott:
Okay, great. Are there any things to look out for that person with that profile of a… let’s call it $75-80,000 a year job whose kind of taken ordinary deductions, is there any advice you have for them before we move on to the meat of the show here?

Natalie:
Yeah, the biggest thing at this point to consider is that, part of that tax cuts and drawback, that big tax change we had last year, they doubled the standard deduction on your taxes and you get to either take that or a bunch of little itemized deductions, which gives you benefit for owning a home and donating to charity. So make sure you’re looking at that and seeing if you actually make enough to itemize so that if you do, you can maximize that, track them, make sure you’re putting as much to that as possible and if not, it might be a good idea to start a small side business so that you can still deduct some of those expenses somewhere. So that’s kind of the biggest thing when you’re just a W-2 employee is making sure that if you are not taking the standard deduction, that you’re maximizing those itemized deductions.

Scott:
And could you quickly walk us through that standard deduction and what change occurred there and who that might affect.

Natalie:
Yeah, so the change that they made was they doubled that. So it used to be right about $6,000, so it was really easy for people to itemize instead, you get whatever is the better deduction of the two. So as long as your mortgage interest, your property taxes, your donations, potentially your medical expenses, if all of those things were greater than the 6,000 that was the deduction you got, you got whatever was more beneficial to you. So last year they doubled it to $12,000 and so now it's a lot harder for people to kind of get above that hurdle. And so what we're seeing now is people are a little bit almost discouraged because there's not really a direct tax incentive, there's not a direct benefit for owning your own home right now as your primary residence for a lot of people.

Scott:
So for most people with this increase in the standard deduction, most people are going to pay less taxes in that bracket, because they’re going to have a higher deduction and offset more of their income which is… But it also means that there’s no specific advantage to mortgage interest and those other things, is that right? So just making it very simple for the majority of kind of maybe lower than six-figure income earners filing the taxes this year.

Natalie:
Yeah, exactly, so you’re going to get the bigger deductions, so that was kind of the goal was to simplify it, have less people have to track all of those little deductions. So you’re going to get, like I said, a $12,000 right off the bat. But some people, like I said, it kind of… I feel like they feel a little jaded about it, that they’re not getting that direct benefit now.

Scott:
Fair enough. All right, so I have decided that my income is high enough or I have complex enough streams of income that I need to go and hire a tax preparer this year. What do I need to do to go about finding one of these people?

Natalie:
Yeah, so there are several things to look for that are both good and bad. I would recommend talking to other people in your same industry, if you want to work with someone local head to some local events related to what you do, if you have a business or if you have real estate and ask for referrals locally. If you want to work with someone who specializes in what you do, you might need to look outside of your area. Most accountants, most tax professionals work remotely now. It’s 2020, it’s the actual Jetson’s future, so you can work with someone all over the country.

Natalie:
Something that I would say to look for is ask them about their experience. So if you're in real estate, ask them if they own rentals, if they're involved in real estate and kind of what they feel their confidence level is with that. You want someone who really understands your specific reason that you're reaching out to a professional. If you're starting a dog grooming business, find someone who specializes in that, whatever it is that your key point is, where you need kind of this advising, that's what you want them to be an expert in.

Natalie:
One of the other things to look for is their history and their experience, check out LinkedIn, check out some local reviews and if what they advertise, if kind of their main thing on their page is that they can get you a bigger refund than everyone else, go the other way. Because legally, there’s only one refund you’re entitled to, there’s some strategy there. But if their main key point is how much money they can get you back from the government instead of how much money they can save you from paying the government to begin with, they’re kind of approaching it backwards.

Natalie:
And a lot of those people we see who do that are sort of these seasonal preparers, they just decide to open a tax preparation business in December and in January they're advertising as an expert. So those are kind of the people to avoid. It's always good to work with someone who is credentialed, does CPA, an enrolled agent who has experience in what you're looking for, those are all great things. And like I said, look for their background, check out their LinkedIn, checkout what they say their history has been and what kind of environment they've worked in.

Mindy:
Okay, you just said the seasonal preparer as though you don’t have to be a CPA do taxes.

Natalie:
Yeah, you don’t, it boggles my mind actually, this is one of the few industries where you don’t have to have any kind of license. You literally just need to apply for a PTIN and an EFIN which is the number that lets you file tax returns with the IRS and you can open a tax shop. So this time of year especially, you’ll see people who, their job experience from last week was they were like the checkout girl at a fast-food restaurant and today they’re a tax pro. So you’ve got to be really careful and really look at what their history is because they can market whatever they want, they can fluff themselves up to sound as good as they want, but you need to do the digging.

Mindy:
Okay, that brings me back to what you were just saying about make sure that they’re professional or they have these different criteria. Wow, the more I learn, the more I am shocked at things like this where you don’t have to have any sort of special education to be a tax preparer, that’s just shocking to me. So I want to know that my person is professional, is qualified, what are those things again that I’m looking for? I just want to reiterate that for people. I can’t believe anybody can go be a “tax pro.”

Natalie:
Yeah, it’s shocking, this time of year, all of the online groups get filled with brand new tax preparers and literally you look on their Facebook at what their job was a week ago and it was like they did hair and now they’re doing taxes. So you’ve really got to dig into their background. So I say check LinkedIn, that’s always a good one. Anyone who worked at kind of a professional tax firm, you were forced to have a LinkedIn that was part of college that was part of working at a CPA firm, they want you to show what your experience is and your education.

Natalie:
Ask someone if they went to college, see if they have a degree in finance or in accounting or ask if they’re an enrolled agent, if they’re licensed through the IRS. So there’s several different routes to be qualified. Just make sure they have some kind of experience. I know great preparers who didn’t go to college, but from the time they were 18 this is all they studied kind of on their own and really built their own knowledge base. So there’s no right or wrong way, just sort of dig back into their history, look at what their past experience is prior to opening their own tax firm and make sure they actually have something going on there.

Mindy:
Wow, okay, thank you.

Scott:
Now look, when you’re looking to find a expert in your field, how important is it that they have state-specific or local knowledge of the tax code and when does that begin to apply maybe more so to your situation then, I don’t know, industry expertise?

Natalie:
Yeah, there’s kind of a careful balance, so you’ll hear when someone works with someone remotely that they’re concerned that you might not know all of the state laws, but even a local firm, there’s a good chance that a good majority of their clients either have something from another state, an investment or something where you just kind of have to have a general knowledge of every state. And for tax professionals we have guides, we have updated education each year that kind of keeps us in the know on that. There’s certain states that are a little trickier, if you’re from California or New York, you might want to put someone local just because those states have more intense, state-specific kind of requirements and legislation related to their taxes. But for the most part, any good, experienced tax pro should be able to figure out the in and outs of any state that you are in or that you’re working with or where you have generated a tax return.

Scott:
Great, one of the things I’m kind of wondering about is, is it really okay to kind of get a generally good professional tax preparer for many people or is there a real need for niche experience and particularly with the real estate investing, for a real estate expert. If we need that specific expertise in real estate, what are some of those things that a true expert can bring to the table, your return?

Natalie:
Yeah, so I’m obviously a big fan of kind of the niche-bound specialized person, real estate is all I do. And literally the week before I started my own firm, I was sitting at a CPA firm and I got a new client that was a petting zoo and I had to look up how long you get to depreciate a kangaroo. And I sat there thinking how… what a ridiculous thing this was that I had to learn, I’m never going to use this again. And that’s kind of what happens when you go to a general firm, you need to know a little bit about every weird thing.

Natalie:
So when do you need to have someone who specializes? There’s no kind of cut and dry answer. For me, when I worked at CPA firms, we had clients with real estate and we filed it and it was pretty much correct, you probably wouldn’t go to jail for it. It was accurate, but there was no strategy applied. When you need to spend, like I said, you need to keep up on literally every industry, there’s no way to know every little detail. So a great example is like when I worked for a general firm, if someone had a rental and did $100,000 renovation, we just put the $100,000 renovation on the books, capitalize the whole thing, we didn’t look into details, we just added that to the value of the property.

Natalie:
Someone who specializes in real estate knows that there are parts of that we can depreciate on a shorter timeline that we don’t have to just add to the property, we can kind of break out things and give you a better deduction upfront. So that’s sort of what you’ll get is sort of that one step further where they’re going to actually kind of just know a little more and they’re just going to kind of dive into it a little deeper.

Natalie:
Another great example is when the property is first set up. So at a CPA firm, when you buy your rental, you get to depreciate only the building, not the land. So we would look up the tax assessor’s percentage to each of those building and land and that’s what we would use 100% of the time. There’s six other methods you can use, so someone who specializes will look at your appraisal, they’ll look at other options to see what’s the best option for you. So those are kind of the differences. So it’ll probably be right, it might not be the most strategic way.

Scott:
Love it, this is awesome. And just for the listeners’ sake, when you’re preparing a tax return, Natalie’s used some words like capitalized and expense. And the goal of the taxpayer in this situation as a real estate investor would be to avoid capitalizing wherever the law allows for that, the tax code allows for that, and instead expense that because that allows you to take a bigger deduction in the current year rather than in out years. And what Natalie was saying is that her methods can help you accelerate that and bring your expense just higher in the current year, lowering your taxable income, is that right?

Natalie:
Yes, absolutely.

Scott:
Awesome, and again, it’s a perfect example. Can I ask a specific question about an area of the tax? Go ahead, what happened did I freeze?

Mindy:
No, I’m just laughing at you, can I ask a specific question about my own specific situation.

Scott:
Okay, this is not necessarily specific to me, although it does apply to me to a certain extent. So I guess fine, it is selfish, but I’m going to ask it anyways.

Mindy:
You’re turning into Brandon Turner.

Scott:
One of the areas that I think a lot of people struggle with is the real estate professional area. And what this basically means is if I have a certain number of hours… well why don’t I let you explain what a real estate professional is and why it might or might not be to your advantage.

Natalie:
Yeah, I actually just did a YouTube video on this because there was just a tax case, I find it super interesting. So real estate professional is an IRS status where… So normally your rentals, hopefully on paper have a loss. You don't want them to lose money in the real world, that's… please don't do that. But after depreciation, you want a loss on paper. So that's one of the benefits of these properties. But if you earn above a certain amount, you're not allowed to use those losses. It's passive and ordinary and it's like oil and water, we can't mix them. So real estate professional is an IRS status that says, no matter how much money you make, we can use all of your passive losses. So whether you make $500 a year or $500,000, whether your real estate has a $5 loss or a $50,000 loss, we can use it every year.

Natalie:
Real estate status is really tricky because it's a huge benefit. So the IRS looks at it a lot and there's some weird hoops. There's two rules and people get all excited about the first one and then we just crush their dreams with the second one. So the first rule is that you have to have 750 hours in your real estate activity. So if you're an agent or a property manager, you're good, that is your whole job. If it's rentals, we often need to combine them together to meet that hours, so that's the first rule is the 750. And lots of people are like, "Oh, I do that all day long, that's so easy," second rule. The second rule says that you can't spend more time on any other activity than you do real estate.

Natalie:
So this is the rule that constantly gets people hung up. Because even if you have 10 rentals and you’ve spent the hours each week to hit that 750, if you work a full-time job that’s 2000 hours a year, it’s going to get disallowed, the tax court throws those cases out constantly. So real estate professionals is really great, but just know that if you have a full-time job, it’s going to be really hard to claim that. But the saving grace is if you’re married, only one of the two spouses need to qualify for you to both have the benefit. So rock, paper, scissors for it, see who wants to retire first, you get to quit your job and deal with the properties and the other spouse gets to keep working and then you can use all of your losses with no limit.

Mindy:
Okay, so I work at BiggerPockets and I talk about real estate all day long, am I a real estate professional? That’s my full-time job.

Natalie:
We were just talking about that. Scott and I, and its kind of a gray area. So I could see the argument for it, I think we could make that argument but you’re not… it’s almost more like an educational role to me, like more of a kind of a marketing… And so it would be like you could argue it, you can argue anything you want with the IRS. It’s just kind of an aggressive stance, I think, but you could. You could say that especially if you also have your own real estate, also coach people locally, like if it’s offline as well. Yeah, I think we could make that argument and you could potentially qualify.

Scott:
And this is why I hire a tax professional to help me prepare my annual tax return and make some of these decisions. Because there’s a lot of, as you pointed out, gray area in what you can… what you have to capitalize, what you can accelerate, what you can expense in a given year, and what your status is just in real estate. And I guess particularly in zoo keeping, oh my goodness, yeah.

Mindy:
How long can you depreciate the kangaroo?

Natalie:
I think it was seven years.

Scott:
Oh my God, so you just have that in your pouch if you need in the future.

Mindy:
Oh God, I quit.

Natalie:
You made a marsupial joke.

Mindy:
I quit, I’m out, goodbye, I no longer work in BiggerPockets. That was actually quite clever.

Natalie:
That was good.

Mindy:
Scott is like that all day, every day.

Scott:
Perfect.

Mindy:
Okay, so back to tech stuff that affects more than just petting zoos. We have a lot of newer real estate investor listeners or even people who have not yet started investing but they want to. Can a tax professional help give guidance before a purchase? Is there any benefit to consulting someone prior to making an offer or prior to making to buying a property?

Natalie:
Yeah, there can be, and it depends on the professional. So a lot of tax firms, like I said, they based on their time. So this was kind of the problem with when I had real estate clients at a CPA firm was they would call about a property they may or may not buy or they haven’t bought their first one yet. And you have to bill them for each phone call, you’re billing for consulting and that’s a huge bummer when you’re not even sure if you’re going to buy this or not.

Natalie:
So if you work with someone where consulting is kind of part of their service, then it can be worth it for people because what it comes down to, is in the beginning, do you need need someone, will things just go totally awry and like will your computer catch fire if you try to do your taxes without a professional, probably not, you could be okay. But keep in mind that the same mistakes you can make with a $2 million apartment building you can make with your duplex, you just bought that you’re house hacking, that might even be a little more complicated because you’re living in part.

Natalie:
So it’s not a matter of if one property justifies that, it’s just a matter of how comfortable you are and being aware that it’s easy to make mistakes early on and it’s almost better I think to start with a professional to kind of get you set up correctly than to end with one who has to backtrack and fix things.

Scott:
Love it. Well, later on in the episode, I want to ask you specifically for how you would think about approaching a tax return for a house hacked duplex. However, before we get to that, can we quickly talk about how to go about preparing to meet your tax preparer once you’ve decided to go and hire one?

Natalie:
Yeah, so the biggest tip there is be organized. We see this question on the forums a lot, people will say, “What do you use to track your expenses? What do you use, how do you do it?” There’s no cut and dry answer, just don’t be the person who goes into a tax office with a big box of papers, you’re going to pay someone to open your mail, that’s not adding any value to you. There’s a bunch of different things that you can do to help you be organized and figure out what works for you. So a lot of people use a spreadsheet, it can be a very simple spreadsheet, track any income. If you’re not sure if an expense is deductible, put it down anyway, put a note there. Just say, “I don’t know, can I deduct my Audible account? Not sure.” Let them decide. But anything you don’t write down or put on a sheet and give to their preparer, they don’t know you have, we don’t have crystal balls so we need you to tell us.

Natalie:
So that’s kind of the first thing is just be organized in some way. Another suggestion I have, especially for new investors, if you only have one or two properties, an easy way to sort of keep track of things when you’re figuring it all out… We don’t want people getting hung up on how to organize their expenses and not taking action. So a really easy method is if you have a single bank account for each property, most banks and credit unions let you categorize your expenses in your online app. So they do this for personal so that you can track and see how much money you spent eating out this month. But you can just as easily assign categories to your business, your real… you can call the categories whatever.

Natalie:
So if you're looking for kind of an easy way to track your overall income and expenses for a property, there's a good chance you can do it within your online banking and then use that year-end report to provide your accountant. So what it comes down to is just being organized, keeping track of anything, even if you're not sure, if you don't know if you'll get to deduct something, it's always better to ask. And another important thing to keep in mind is that you might need to track some additional things if you use home equity financing or if you partner with someone. So anything you can think of that happened because of your investment or happened because of your business, write it down in some way, whether it's a spreadsheet, or just notes in a Google doc, whatever works for you just make sure the information is all available to them.

Scott:
Love it, what I’m hearing is this activity of organizing all of the numbers and presenting a picture of your financial position is called bookkeeping in business. And your accountant or your tax preparer is not your bookkeeper, bookkeeping is not a high dollar per hour activity. And if you’re paying them to do that, you’re probably likely way overpaying for that activity. So do it yourself or hire someone, an assistant or something like that to help you… to help do that for you but do not hand over your bookkeeping work to your tax preparer.

Natalie:
Yeah, exactly. You’ll pay a much higher rate for them to do the same work. Another easy thing to do if you’re not sure what you can or can’t deduct. If you have rentals, you can go to the IRS and see Form Schedule E, that’s what you’ll report the rentals on. And you can look at the categories they have for different expenses and just use those same categories. So doing things like that, anything that sort of streamlines the process for your tax preparer, is going to help save you money and we’ll give you a better idea of where your business or your property stand throughout the year so it’s not a fun surprise come February.

Scott:
Love it, and this activity of doing all of this work is not very fun for these people?

Natalie:
Yeah, that is the general feedback I get. And so it’s just one of those things. This is true across the board; no one opens a business to do… I mean, I guess bookkeepers, but no one else opens a business to do the bookkeeping. They open a bakery because they love baking and the bookkeeping is sort of the thorn in everyone’s side. So that’s why I stress figure out what works for you, whatever makes this the least painful for you, just make sure you do it.

Natalie:
There’ll come a time where it makes sense to hand it off and pay for someone to do it, it’s kind of that value of your time, at what point are you spending more money using your time on that than could you be finding your next deal or doing something more productive? But in the beginning, if you have to do it, figure out what works, figure out what will… it’s kind of like a new year’s resolution, a diet or exercise, figure out what kind of thing works for you. If you hate spin classes, don’t commit to that, do weight lifting, just figure out what works for you.

Scott:
Yeah, the answer is preparing to meet your tax preparer is not going to be fun, you’re not going to enjoy it, you’re not going to like it, too bad. You have to do it and otherwise, you’re going to be out of pocket by a lot of money, so.

Mindy:
I’m going to jump in here and give another tip. I’m going to say do it regularly. Waiting until December 30th to do all of your expenses for the whole year is going to make you want to quit investing. It’s going to make you want to just be like, “Beth, let’s see if the IRS is going to catch me this year.” I would even say do it weekly but definitely do it monthly. Be in your spreadsheet every single month for January… January, does 30 days or 31? I don’t remember. Anyway-

Scott:
31.

Mindy:
31, okay, so there’s 31 whole days of expenses. Now, do you have an expense every day? If you’ve got one or two properties, probably not, but doing those expenses for January, then you’ve got a clean slate. You get into February, this year February has 29 days, so you’ve got an extra day to get all your stuff done, but do it every month at the very minimum so that you’re not just tearing your hair out so you don’t miss a deduction. And so your tax preparer doesn’t look at you like, “Really?”

Scott:
Natalie is like my dream client and does all their stuff by December 30th. If they were doing it by December 30th you’re probably way ahead versus the guy who does it on April 10th, right?

Natalie:
Yeah, there’s all kinds.

Mindy:
No, I’m saying don’t wait till December 30th to do all of your whole spreadsheets for the whole year. So, well, this brings up a good question about timing. I know on the last, I think going into the last bit of March, Linda sends a note, Don’t anybody talk to me about anything, I’m ignoring you because I’m in full tax preparer mode. So at what point do I come to you with my things, what makes it the easiest?

Natalie:
As early as possible. So you always get people who… April 10th will be like, “Well I gave you everything, why can’t you get it done by the 15th?” “Well, because there’s people who gave me everything two weeks ago, so it’s kind of a first come first serve.” So you’ve got to keep in mind that even though, and it’s always the people who will tell you,” Oh, it’s so easy. It’s so easy, you can do this in an hour.” Well, okay, but I can’t skip everyone else.

Natalie:
So different firms will have a different cutoff, most places, I think it’s April 1st is kind of a pretty common industry standard. So try to get your stuff together as early as possible. We know some times you don’t get forms till later on, you’ve got to wait for something, that’s totally fine, just be in contact in some way. You don’t want to not talk to your tax preparer until April 10th and then suddenly have it be this last-minute crunch because there’s a good chance they’re just going to file an extension and they’ll handle your return later. So you’ve got to be kind of mindful of the time and how much work actually gets done in that short timeframe at most tax firms.

Mindy:
Let’s talk about an extension. I just learned about this recently because I thought April 15th was the drop dead, that’s it, there’s nothing, so I never even considered an extension. What does an extension do? Does it cost me any money? Does it hinder me in any way? Am I more likely to get audited? The dreaded audit, I’ve never been audited, but-

Natalie:
Knock on wood, Mindy.

Mindy:
Knock on wood.

Natalie:
So an extension gives you six more months to file but not to pay. So this is really tricky for a lot of people because it means you can put off the actual submission, but you still need to do almost the whole return when you file to make sure you don’t owe anything or you’ll have penalties. So the amount of tax you owe is still due by April 15. So if you are in a position where you get money back every year, you’re really cautious, you pay an extra each quarter kind of thing, you’d be good. But if you’re one of those people who pays it all in April when you file and you do an extension, if you wait until September, October when you file it to pay, you’ll have late payment fees.

Natalie:
So there’s no cost for an extension, it’s free, it’s easy to do. But just keep in mind that if you think you’ll owe money or if something changed this year, like there will be people who’d never owe money, but this year you sold a bunch of stocks or you did something crazy, make sure your preparer knows about it when you ask for the extension, otherwise you’re going to get those penalties. Audit-wise doesn’t increase your risk, there’s kind of an old wives tale that decreases your risk. But the IRS is sort of a weird algorithm so we can’t guarantee that.

Mindy:
Okay, so I filed for an extension, I haven’t done all of my taxes yet or my tax preparer has done all my taxes yet. Do you just pay estimated, do you overshoot it? Is there a way to figure that out? Because if I come to you on April 10th and say, “Hey, I need to do my taxes.” You’re like, “We’re just going to do an extension,” but I owe money. How do you figure that out?

Natalie:
You do kind of a quick and dirty version of it, you’re just going to take sort of your basics, we’re going to ask, “Did anything major change this year?” If you’re like, “Oh yeah, I sold $50,000 worth of stock.” We’re going to drop in 50,000 more dollars and we’re going to kind of just look at that compared to last year and sort of rough estimated as close as we can kind of to cover yourself, you can always pay more. If you pay… if you want to make sure you don’t have penalties, if you make a big payment in April and then it turns out we overestimated everything and you don’t owe that much, you get it back when you file.

Mindy:
Okay.

Scott:
All right, hope you’re enjoying the show. We’ll be right back after a word from today’s show sponsor.

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Mindy:
What are some big mistakes that you see people making in returns? What’s a really common mistake or a common misconception that people have?

Natalie:
Yeah, so these are the things I would recommend whether you’re doing the return yourself or if you go to a preparer. Something to keep in mind that people, I don’t know if they just don’t realize it or forget, is even if you use a tax preparer, when you sign the return, you’re saying you looked over it and everything looked reasonable to you. So if you ever are audited and your preparer was one of those just started doing taxes last week people and they did a bunch of stuff wrong, now IRS… that can’t be a defense. You can’t say, “Oh, I didn’t know they did it for me.” You still have to kind of have reasonable knowledge of it, sort of general oversight. So before you sign the return or before you submit your return, these are kind of the three things I see errors on the most that you should look at.

Natalie:
So if you have real estate, if you have rentals, ask to look at your depreciation schedule first. This is normally the only horizontal sheet in your tax return, so it’s sideways it’s easy to find, it’s called either an asset or depreciation schedule. The biggest thing you want to look for on there is make sure there is a separate amount for the value of the land or make sure the amount they have listed is less than what you pay. Because the error we see a lot is you don’t get to depreciate land. It doesn’t have a life, it’s here forever, it is literally the earth. So you only get to depreciate what you paid for the building portion.

Natalie:
So you can’t put that whole amount as a depreciable amount of your tax return, we need to separate out land. So it’s important for you to check before you sign off to have it filed that they backed out that value for land. Otherwise, you’re claiming too high of a depreciation deduction each year and then when you go to a good preparer they’re going to fix it. But to fix it, you end up paying back money because you were taking too large of a deduction. So that’s one of those things to make sure you look at before you sign off. Also, good to look at on there, so land is kind of the key one. If you don’t see that separated out, you’re in a bad spot.

Natalie:
The next thing is if you did any renovations this year, if the preparer only asks you for the total, they don’t ask for any details and all they put on that depreciation schedule is the total, it’s okay. But like I said, there’s a more kind of more strategic way to do it. There’s a good chance you can break out a lot of those things. So kind of your… these should be sort of the easy freebies to spot, is appliances. If you know you bought appliances and you don’t see those separated out, if they left them in there, those are always something you can expense because they’re not attached to your building. So that should be kind of your… almost your test. If you know you bought them, your tax repair didn’t deduct them, they just lumped it in, then you should look a little deeper.

Natalie:
Another good thing to look for if you have rentals is make sure kind of the standard deductions are there. I see a lot of returns where, so you get a 1098 at the end of the year that tells you how much you paid in mortgage interest on the property. Often it also lists your real estate taxes. So those are pretty easy to grab. Very often though, I don’t see an amount for insurance. Insurance won’t be on that form. It’s not going to be on something a bank sends you or that is provided to you, it’s up to you to tell your preparer that amount.

Natalie:
But your preparer should also know that you probably insure your properties. So if you look at your return and there’s no amount for insurance, you’ve got to kind of circle back. So look for things that you know you paid that you know should be there. Same thing when you’re preparing, if you’re doing it yourself, just kind of think to yourself, “What expenses does our rental need? What did I definitely pay for?” And you’ve definitely paid for insurance. So anything like that if you think of it as what would I have not paid for if I didn’t own this property, make sure those all make it onto the return.

Mindy:
What about utilities? Are those… If I as the landlord and paying the utilities, that's an expense that I can deduct on my taxes?

Natalie:
Yes, but you have to make sure. So those are kind of sometimes tenants pay them, sometimes landlords pay them, sometimes landlord pays it and gets reimbursed. So it is actually a cost to you, the tenant doesn’t pay you back then you get to deduct that. So anything that you pay that you wouldn’t have paid for if you didn’t own that property, make sure it gets on there.

Scott:
What about when I go over there to fix the light bulb for the tenant, do I get to deduct my mileage and those other things?

Natalie:
Yeah, good question. So you get to deduct the light bulb, so we’ve got that going for us, you do not get to deduct your time. This is something I get asked a lot, your time that goes into properties is not deductible. So don’t issue yourself a 1099, don’t do anything crazy or you’ll hear people who want to set up a management company so they can charge themselves for their time. That’s not a good idea just turns your income into regular income with self-employment tax, so you’re paying more. Don’t do that just ignore your time, you don’t get to deduct it, move on. Your miles? So yes, this is one of the things I see missed on returns quite a bit is automotive or mileage expense.

Natalie:
Most people do the mileage rate, which gives you a standard rate per mile that you drive that you get to deduct something that makes it tricky is you are not allowed to deduct commuting. So same as your regular job if you go from home to work, that’s not deductible. If you go from home to a rental, that’s not deductible, it’s a commute. The way we make it deductible is you have to have a qualifying home office.

Natalie:
If you have a dedicated office space at your home, that is where you run the rentals from or where you run your business from. And it is an exclusive use for an office, now you’re going from business location A to business location B and now those miles are deductible. So home office expense is another one I see missed pretty often. Talk to your tax professional or kind of make sure it’s a dedicated space. It can’t be like your game room, you’ve got a big screen TV, your X-Box, 4,000 games and a little tiny card table in the corner where you put your laptop, it has to be its main purpose as an office.

Mindy:
Okay, completely random, totally not specific to my situation, what if it is the office and it also has a Murphy bed where sometimes when people sleepover they’d sleep in that room?

Natalie:
Probably okay, because the bed folds up, that’s still pretty gray area. I once worked for a CPA who said if a client ever has their home office audited, we’re going to just send some movers over to move the bed out of the room before the auditor shows up. So you’re probably okay if its main purpose is more of an office and it has a fold up bed kind of thing. But if it’s clearly a bedroom that just happens to have a desk, it’s sort of if it walks like a duck, quacks like a duck situation.

Mindy:
Okay, no, it’s actually an office and that’s just like 10 nights a year somebody sleeps over.

Natalie:
Yeah, that seems more like an office than a bedroom.

Mindy:
Okay, cool. How do you prefer somebody to keep track, do you have a favorite app or do you just write it down? I used to have a mileage thing. I had some complicated taxes at one point, but I just had a calendar in my… like a desk calendar, not a desk calendar, a book calendar. And every day I drove someplace I would just write down my mileage that day.

Natalie:
Yeah, so you can do that. They just want you to keep an ongoing log and track kind of the details of it. You can’t just say, “Oh, you know I drove 10,000 miles for the year. No, I can’t tell you where, or when, or what.” So as long as you have a daily log, it can be something if you are putting events and things really… Like on Wednesday you’re going to go to a property. On Thursday, you’re going to meet a realtor if you’re putting those on your calendar anyway, if you Google Maps it and just sort of save the mileage there, it just has to be something ongoing and tracking. But an easy way to track this is with an app called MileIQ and that’s what most people use. It’s kind of a swipe right if it was a business trip, swipe left if it was personal. And so at the end of each time when you arrive somewhere, you choose what kind of trip it was and it categorizes it for you.

Mindy:
Oh, neat.

Natalie:
It’s a really good one.

Scott:
Okay, so let’s transition here for a moment and let’s say that we have a new investor who has bought their first house hack duplex halfway through the year in, pick your city, local to you, Natalie.

Natalie:
Charlotte.

Scott:
All right, Charlotte. So I bought my first house hack duplex in Charlotte, how do I go about thinking through my tax return for last year?

Natalie:
Yeah, what I tell people is the easiest way to think of a house hack… Well, so let’s clarify that first. I guess there’s two kind of versions of house hack, I feel like that where the word gets used. One is if you buy a house and you rent out rooms in your house and one is if you buy a duplex or a fourplex and you rent out other units and there’s actually differences tax-wise. So if you buy a duplex, the easiest way to think of it is like you have two totally separate properties. You have a house you live in and you have a house do you rent and so everything gets split between them. All of your personal tax deductions that are applicable, like your mortgage interest and real estate taxes go on your schedule A, for your half. The other half would go on schedule E just like it was a standalone rental, so that’s assuming both are the same size.

Natalie:
You’ll just need to take all of your expenses that relate to the whole property and split them based on the square footage. So if your rental is 700 square foot and your personal is only three, the rental gets 70% of the expenses. So you just need to allocate your percentage to it, split it up and report it on their separate schedules.

Natalie:
If one has its own standalone expenses, say you go in and put in all new carpet in the rental, nothing gets put on your schedule A related to your half. If it was exclusive in the unit that’s a rental, report it just like it was a totally standalone separate rental. If it’s something that applies to both, say you have lawn care every week, you have someone come and do landscaping, you need to split those costs between the two. So that’s the easiest way to think of it.

Scott:
Well, what about a capitalized expense like a roof?

Natalie:
Yes, same thing. So if you did something like a roof and say it was $10,000 you would get to take 70% of that. So seven grand would get capitalized and depreciated on the rental part. Personally, it’s not deductible but you still want to track it because probably what you’re going to do is move out of this in a year and do this again. So on your half, you keep track of improvements in costs, but they don’t actually change anything tax-wise in the year they happen.

Scott:
So when I move out, do I begin depreciating the entire 10,000, say if it was $10,000, I lived there for a year and then I move out. So in the first year, 3,000 of that is not capitalized and I’m not seeing depreciation on that. But in year two, do I see depreciation on the full $10,000 improvement?

Natalie:
Yes, it gets added to the basis on your side and we start depreciating it. The difference will be when they began. So on that rental half, January 1st of year one, it goes into service. Your primary half, we don’t get to deduct anything year one. So your roof kind of shows up and begins getting depreciated January of year two when you moved out and it turned into a rental.

Scott:
This is fascinating. Hopefully I’m not the only one who loves this tax discussion here with this new stuff. I did not know that.

Mindy:
No, anybody who’s still listening is totally into this as well.

Scott:
All right.

Mindy:
So here’s a question that I have as a flipper. I’m a live in flipper, I move into a house, I rehab the whole thing and then after two years I sell it and find another one and do it all again. I know that as a flipper I can’t take depreciation on my supplies and things like that, but I don’t have a good way to explain why.

Natalie:
So depreciation is something we get to take on an asset which is considered by the IRS something you’re going to keep for a long time in business use that’s going to earn you income over an extended span. So kind of the theory to it is the older something gets, it should be worth less and since you’ll get to use it for 10 years instead of deducting it all at once, we want to kind of match it up with as it’s making you money, so we take a little bit of the cost over 10 years. In real estate with a rental, that’s true, you’re going to own it for a long time potentially, so it’s going to earn you money each year. So we’re going to go ahead and deduct against it each year a little bit of its value.

Natalie:
With a flip, it’s not really an asset that’s earning you money, it’s considered inventory. So inventory isn’t something you’re really going to keep for a long time necessarily. It’s something… the easiest way to think of it is instead of thinking of it as a house where you’re buying a house and then you’re buying drywall and carpet and fixtures and fixing it up and then you’re selling it in two years when you’re ready to move out. If it was, say a table-maker and you were buying wood and nails and varnish and building a table and then selling it, you don’t get to depreciate that table because it’s just your product, it’s just what you made to sell. So with a flip, it’s just a product that you’re going to resell so you don’t get to depreciate it, it’s not a longterm asset earning you money. It’s just something that you’re creating to put on the market and sell for profit.

Mindy:
Okay, wow. That was a good explanation, thank you.

Scott:
What about this, so a true flipper gets to expense everything that goes in because it’s inventory they’re a flip. A live in flipper, do they get to expense everything that goes into their project?

Natalie:
Yes, you’ve got to kind of a few options, but the best way to treat it is, while you’re living in it, you can still deduct your mortgage interest and taxes just like on a regular primary home. Even if you’re not a live in flipper, so to speak, even if you’re just living in a house and you fix it up while you’re living there, you want to track all of those expenses that go into it because when you sell those expenses get to reduce your gain. So same thing in this circumstance, what Mindy would do is she’d move into the house, so she lives there two years, then that means when she sells it as a primary home, there’s a good chance she gets to sell it tax-free, yes. If you’re married, you get to take $500,000 of gain tax-free.

Natalie:
So she can track all those expenses, she probably won’t really need them because the gain exclusion is so large, but you still want to see. You keep track of them the year you sell, you take those expenses and reduce your sale price buy them, all of your improvements, your fixtures, everything you put into the house and you get that final number. And in Mindy’s case it’s tax-free, but if it wasn’t a flip you lived in, if it was one you were doing just on the side, it would reduce the tax you pay and reduce your taxable gain from the project.

Scott:
Wonderful, very helpful with that, now-

Mindy:
I was going to say I’ve never hit the 500 yet, but I’m so-

Natalie:
Is it a goal?

Mindy:
It is a goal, I want to hit the 500 at some point.

Scott:
Mindy wants to pay taxes.

Mindy:
No, I don’t want to pay taxes I just want to maximize my capital gains, deferral? What’s that called? Exemption.

Natalie:
Yes, exclusion.

Mindy:
I want to maximize my capital gains exemption, I’ve never made it to the max before.

Scott:
I think you’d be happy to pay taxes if you ever… if you were in that situation.

Mindy:
This house has the potential to, yeah.

Scott:
All right, so question we kind of skipped past this, the, I bought a house hack and I’m renting the other rooms in my primary residence as a house hack, how do I think through that situation?

Natalie:
So this gets a little tricky and I see this messed up a lot too. So if it’s shared space, if it’s within the walls of yours, personal dwelling not a separate unit, you can only depreciate as business use the square footage that is exclusively business use. So if you have four bedrooms that are all the same size, yours isn’t business use, we got a scrap that. If you rent the other three, we can depreciate the portion that’s related to the square footage of those three and say there’s a guest bathroom for them we can depreciate that. But your living room, your kitchen, any of the space that is both personal and business, we can’t depreciate, it’s mixed use. So you’ve got to keep that in mind. What I’ll see people do is say, “Oh well, my room’s only 200 square feet, the other 1800 of the house is depreciable,” and that’s not the case.

Natalie:
So if it’s a shared space, we can’t depreciate it, but there’s a big benefit on the backside. So like we were just talking about with Mindy’s live in flips. If you both own and occupy a house for two out of five years, then you can sell it tax free. If it is something like a duplex, that’s not the case because now we have half as your house really and half is business property. Since we can’t depreciate those mixed use spaces, you’ve only got a small use in there.

Natalie:
What it comes down to is when you sell if you have just been renting rooms of your house, like your primary residence within your walls, you still qualify for that full primary resident 121 exclusion, so you can still sell that totally tax-free. The only gain you’re going to pay is that little bit of recapture on the little bit of depreciation you did take, but otherwise it fully qualifies, that’s kind of the trade off.

Scott:
Now, I love this discussion because if I’m in this circumstance and I have a four-bedroom house with two bathrooms or whatever, that I am renting out three of the bedrooms living in the other and I intend to move this into a rental property or sell it in the future, but I arguably have the most complex and difficult tax situation of anybody listening to this show. However, I’m probably also in this gray zone where I’m really not comfortable with my income or expense profile with hiring a tax professional. Is that kind of the situation… does that sum it up, do you think in some ways?

Natalie:
Yeah, it comes up quite a bit because it is, I think the starting move for a lot of people, but it is more complicated, now we’ve got all these allocations and especially when like if you’ve got a duplex, we have half business, half personal, you live in it for a year or two and then you move out now it’s all business, so like we have split between all these things year one and year two and then it totally changes and now it’s all business and we have to reallocate again.

Natalie:
So even though it’s kind of a beginner’s investing move, that’s why I was saying where I would almost recommend working with a tax pro your earlier years when you’re setting everything up, this is a great example, because there’s going to be a bunch of weird percentages on percentages, on percentages and splits of things and you want to make sure to get that right in the beginning. Otherwise, that’s the thing with rentals, you own them for years and years, it’s just wrong forever if you don’t fix it in the beginning.

Scott:
Love it, so at the beginning of the episode, we talked about how this might apply, most of this discussion to people that earning over six figures or with rental real estate or other income streams. Really, it seems like the complexities where it becomes really difficult to do it yourself are right here in this house hacking scenario and that maybe we should consider a couple of hundred to maybe a $1000 in expenses in tax preparation and getting this right upfront as part of the cost of doing business in a house hack.

Natalie:
Yes, and that’s one of those things I tell people like the way I’m set up, I do advising with my service. So even if you’ve got a simple circumstance, it lets you know that as you’re growing, as you’re kind of getting your next properties, you’ve got someone to know it’s getting set up correctly and you’re getting the most of it. Like I said, you don’t want to leave money on the table or do something wrong whether it’s one property or 10 properties. Losing money is a bummer, so you want to make sure you’re getting all the deductions you’re entitled to and not filing incorrectly.

Natalie:
Like I said, what I see quite often is people get to their third or fourth property and they’re like, “Okay, I’m ready to work with someone,” and I look at all their last years and they’re all wrong. Now we’ve got to backtrack and fix them all. It’s often a lot easier to just do it correctly from the beginning, work with someone from the beginning and get it set up right and know it’s going forward correctly and then you’ll know what to do [inaudible 01:00:32]for your next properties instead of if you do it wrong year one and no one helps you, you’ll do it wrong year two, and year three, and year four. So it kind of it’s based on your circumstance. But yeah, I’m a big fan of working with someone from the jump to make sure they’re set up correctly to begin with.

Mindy:
Well, okay. Let’s say I’m listening to this episode and I’m recognizing issues with past returns. “Oh, I never saw that sideways depreciation schedule and I know that they depreciated the exact amount that I paid for it.” What do you do when there’s a mistake? Are you just out of luck?

Natalie:
Yeah, it’s the worst. You just have to give up, quit investing and go home. No, so we can fix it. We can always… And in conclusion, everyone just give up, this is too hard. So what we can do is we can amend it. So you can always go backwards and kind of refile a return. Where it gets tricky is with depreciation, this big thing, this huge benefit in real estate, if it’s wrong for more than one year, it establishes what’s called kind of a pattern of that with the IRS. And then there’s a special form you have to file to fix it. So kind of the worst scenario is if depreciation, say someone has two rental properties, they owned one for two years, they bought one, year one and one, year two and they both had depreciation wrong. If it’s wrong for one year, we have to amend, if it’s wrong for two years we have to file another form. Now you have both and we have to file both.

Natalie:
So I see that kind of a lot where, like I said, if you don’t know you did it wrong the first time, you’ll do it wrong the second time and then it could add to what we have to do to fix it. And it’s one of those things where a lot of good tax pros can’t move forward without fixing it even if it does cost you money, that’s a bummer, but we’ve got to make it correct because a good tax professional won’t knowingly file a wrong or an incorrect tax return. And so depreciation flows forward for the rest of the life, we’d be filing it wrong every single year if we didn’t fix it.

Mindy:
Okay, well it sounds like it would compound and the IRS doesn’t take too kindly to not giving them all the money that they are due, is my understanding. So you want to do it right. If you have a problem, fix it and move on, okay. And I don’t really know how to bring up the fact that the IRS assumes that you take depreciation even if you do not. But I want to throw that in here because that was something that I learned probably the first week I started working at BiggerPockets, I read this somewhere, the IRS assumes that you are taking depreciation on your property and when you don’t take depreciation on your property, they still assume you are. So when you sell it, you have to do this depreciation recapture, which is something I know but don’t know how to explain. So I’m going to throw that whole depreciation bomb your way and have you explain it.

Natalie:
So depreciation recapture, like we had mentioned earlier, the reason you get to take depreciation is because IRS assumes the longer you own something it’s worth less and less. So they’re saying if you bought a car year one by year 10 it shouldn’t really be worth anything anymore. So you’ve gotten to kind of deduct its whole value by then. Real estate just sort of threw a wrench into that. So where recapture comes in is basically if this item that they’ve said this should be worth less and less each year, now you go to sell it and it’s worth more. And they’re like, “Wait a second, we gave you a deduction for 20 years. What do you mean it’s worth more?” So now what they’re going to do is do a tax on that profit.

Natalie:
So any amount of your gain related to that depreciation is taxed at a slightly higher rate. It’s at your ordinary income tax rates instead capital gains. And it’s just their way of saying, “We gave you kind of this… sort of this freebie, sort of this deduction all these years based on the fact it would be worth less. But because it’s worth more, we want you to pay some of that back to us.” And like you mentioned, they assume so depreciation is what’s called allowed or allowable meaning that they’re assuming you did it. So if you, you’ll hear this, sometimes people say, “Oh, I won’t appreciate it because then I won’t pay that tax when I sell.” You will pay that tax when you sell and you just missed out on the deduction for all those years. So it’s important to make sure your depreciation is happening and happening correctly.

Mindy:
Okay, and coupling back with the comment about you recognize issues and amending returns, how far back can you amend your return once… I’ve had a rental property for seven years and I’ve never taken depreciation on it, can I go back and amend all seven years to take the depreciation? Do I have to pay a penalty on that?

Natalie:
So if depreciation is the only thing wrong and it was wrong for more than one year, there’s just a special form we file with the current year. But kind of the bummer of that is say for seven years you were deducting depreciation based on the entire purchase, not just the building. So now in year seven we file this form and correct it and it turns out each year for the last seven years you were deducting an extra $10,000. Now in year seven you kind of have to pick up $70,000 of all of that overclaimed expense. So in the year when you fix it, if you were deducting more than you should’ve been, you pay it all back all in one year and it makes for a really rough year.

Mindy:
What if I wasn’t deducting it at all?

Natalie:
Same thing, so then though it gets better. So I just had someone who did that actually where they didn’t depreciate their property for quite a while, it was like seven or eight years. And so then in the year they came to me, we got to put it on the books, set it up correctly, take all of that missed depreciation. So then in that year they have a big deduction for all of those prior years, depreciation expenses that they missed out on.

Mindy:
Okay, so they would get more money back in theory?

Natalie:
Yes.

Mindy:
Okay, Oh, so hey, if you haven’t been taking depreciation, now’s the time to take it.

Natalie:
Yeah, I was just talking to another tax pro who just called himself a 3115 hero, which is the name of the form you file to get all that back because that’s exactly what happened. The client came in, hadn’t been taking it, and he got to be like, “Guess what? Here’s $50,000 in deductions.” And they were so excited. He didn’t do anything special, it’s just what you do to fix it but it makes for a really good looking year on paper.

Mindy:
Oh, sure, and then the next year it’s just a regular return? You’re not penalized or anything just because you fixed it?

Natalie:
Correct, now we’re just back to normal.

Mindy:
Okay, oh well, that’s awesome. Yeah, okay. Natalie, is there anything else you want to share about taxes or preparing for your taxes or anything like that before we get to our famous four?

Natalie:
I think that is really it, just be mindful of your taxes. Don’t believe everything you read on the internet that people tell you you can or can’t do, check with a professional. A lot of stuff gets set up wrong and just make sure that, like I said, that you’re as organized as you can be, that you just give all of the information in some way or another. You don’t need to know all of the tax laws, that’s not your job. If you’re hiring this out to someone else then that’s their job is to know how to maximize things for you. But they need the details, they need to know as much as possible to do that.

Natalie:
So if you do a renovation, make sure they get the details of that, that they know what was done, how much it costs, kind of all of these little breakdowns because if you just tell them I spent $10,000 on a house, they can’t do anything with that really, they’re just going to add it. So make sure you just track everything as well as you can in a method that works for you. Don’t wait till the last minute and find someone who you work well with that’s I think a really important thing. There’s lots of good tax preparers, they’re not always a good fit for you and what you are comfortable with.

Natalie:
I'm very kind of tech-based and very automated so if someone is very on paper, they don't know what a PDF is or how to open it, we wouldn't work well together. So find someone you work well with, figuring out a system that works well for you and just make sure that even from the beginning that you know you're working with someone. If you want to make sure you're actually maximizing the tax benefits of your real estate.

Mindy:
Wow, that was a great wrap up. Okay, it is now time for our famous four questions. These are the same questions we ask of all of our guests. Natalie, what is your favorite finance book?

Natalie:
For a finance book, probably one of the better ones I’ve read is the Cashflow Quadrant, which I’m sure everyone kind of brings up, but it’s a good one. It’s a good one to kind of get people started. That’s one of the Rich Dad, Poor Dad kind of series of books, so I think that’s a good one.

Mindy:
That is a good one, I haven’t actually read that yet.

Scott:
We’ve not heard that one mentioned before. I do like that book a lot and it’s a very good intro to the framework of how we think about assets and income in those types of things and liabilities. All right, what was your biggest money mistake… Or let’s change that up, today, what is the biggest mistake that a new real estate investor is making on their tax returns?

Natalie:
On their tax returns, the biggest mistake I think someone is making is not getting all of their deductions, there’s a lot of little things people miss. Two, that I see a lot are your cell phone and your home internet. It’s like I said, 2020 we’re running our businesses from our phones these days, so you get to deduct a portion of those. So the biggest mistake I see people making is leaving money on the table. If you are legally allowed to deduct it, you want to deduct it.

Scott:
Love it.

Mindy:
That’s awesome. What is your best piece of advice for people who are just starting out? I think that kind of tags on with the biggest money mistake there.

Natalie:
Best advice for someone new would be not to get hung up on all of the tax and accounting. All day long, I talk to people who don’t even have a property yet, but they’re talking to me for two hours. They’re wondering about LLCs, they’re wwondering about QuickBooks. Make sure that you put your time into the business first and the rest kind of follows it, so don’t put your cart before the horse. It’s easy to kind of feel productive with busy work, feel like you’re working towards your first deal because you’re talking to me for an hour, but I’m not going to make you any money that’s not my job. So make sure you’re actually putting your time into income-generating activities and not sort of spending forever making spreadsheets about hypothetical imaginary things.

Scott:
Love it, the saying that I’ve heard and maybe correct me if I’m wrong, is don’t let the accounting tail wag the biggest business dog, make money first and then let your accounting take care of itself.

Natalie:
Yeah, absolutely.

Scott:
All right, what is your favorite joke to tell at parties?

Natalie:
How do you find Will Smith in a snow storm? You look for the fresh prints.

Scott:
Aah, nice.

Mindy:
That was good, I like that.

Natalie:
That’s a good one for winter time.

Mindy:
Okay, Natalie, where can people find out more about you?

Natalie:
So the best place to find me is on my website. It is kolotax.com, K-O-L-O-T-A-X. And I’ve also got a YouTube, Real Estate Tax Strategist. And of course you can find me on BiggerPockets, I’m on there every day answering questions and talking with people.

Scott:
All right, and you do prepare taxes for real estate investors?

Natalie:
Yeah, I do that in between my time on BiggerPockets when I’m not too busy.

Scott:
Well, thank you so much for coming on the show today. This was really informative. As you can tell, I am very enthusiastic about taxes, so I really appreciated this conversation and learned a lot.

Natalie:
All right, perfect. Thank you guys for having me.

Mindy:
I think I need to correct Scott. I think you’re very enthusiastic about paying as little tax as possible.

Scott:
That’s right, yeah, how do I tax efficiently distribute returns to shareholders, which is myself in my real estate.

Mindy:
Okay, Natalie, thank you so much for your time today and we’ll talk soon.

Natalie:
All right, thanks guys.

Mindy:
From episode 112 of the BiggerPockes Money Podcast, that was Natalie Kolodij. Scott, how did you think of that show went today?

Scott:
I thought it was fantastic. I think we talked about a lot of the big points in the show. I just wanted to give a quick shout out to Natalie as being one of our newest moderators on the BiggerPockets forums. You can see her and her thousands of posts or contributions to our BiggerPockets forums by checking out her profile on BiggerPockets.

Mindy:
Yes, and you can find the link to Natalie’s profile along with links to all of the rest of the things we discussed in today’s show notes at… which can be found at biggerpockets.com/moneyshow112. Scott, I am about done with today, how about you?

Scott:
Let’s get out of here.

Mindy:
Okay, from episode 112 of the BiggerPockets money podcast, she was Natalie Kolodij, he is Scott Trench and I am Mindy Jensen and we are hopping out of here to continue on with that kangaroo thing, your pouch joke was much better.

Scott:
I like the hopping joke, let’s jump on out.

Mindy:
Let’s jump out… See, that’s better too. Scott is just so quick with it. Okay, bye.

 

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In This Episode We Cover:

  • The right time for somebody to start looking for a tax professional
  • How to find a tax professional
  • How important state-specific knowledge is
  • What a true expert can bring to the table regarding your return
  • What a real estate professional is
  • Benefits of consulting a tax professional prior to buying a property
  • How to prepare for a meeting with your tax professional
  • 3 most common errors—check these before submitting your return
  • How to approach a tax return for a house hack or duplex
  • What to do if you recognize issues with past returns
  • What depreciation recapture is
  • And SO much more!

Links from the Show

Books Mentioned in this Show:

Tweetable Topic:

  • “Just be mindful of your taxes. Don’t believe everything you read in the internet.” (Tweet This!)
  • “Find someone you work well with. Figure out a system that works well for you.” (Tweet This!)
  • “The biggest mistake I see people making is leaving money on the table.” (Tweet This!)
  • “Make sure that you put your time into the business first and the rest will follow.” (Tweet This!)

Connect with Natalie:

The BiggerPockets Money Podcast is for anyone who has money… or want to have more! Join BiggerPockets Community Manager and Podcast Director Mindy Jensen and CEO Scott Trench weekly for the BiggerP...
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    Steve Wilner from Nong Phok, Chang Wat Roi Et
    Replied 7 months ago
    I am looking for a tax advisor and advice.
    JD Martin Rock Star Extraordinaire from Northeast, TN
    Replied 7 months ago
    Excellent job Natalie!
    Tom Rietkerk Investor from Everett, Washington
    Replied 7 months ago
    Great podcast! I'm studying for my IRS Enrolled Agent certification and hope to be up and running in 2021. Would love to work with other rental property owners.
    Katie Rogers from Santa Barbara, California
    Replied 7 months ago
    Just a nitpik. The IRS is pretty adamant that they do not "certify" enrolled agents. The word "enroll" is similar to enrolling your child in a school. Your child's name goes on a list. The word "agent" means an unrelated third party speaking on behalf of a taxpayer. When you pass the three exams, the IRS puts your name on a list of agents. Thus you are an enrolled agent. Once enrolled, you will have to clarify to everyone that you DO NOT work for the IRS. You represent the taxpayer. The National Association of Enrolled Agents suggests the term "federally-licensed."
    Julie Marquez Investor from Seattle, WA
    Replied 7 months ago
    Natalie - that was a fantastic podcast! I had to slow down and take notes. This motivated me to work on my tax preparation documents, which are extra complicated this year with so many new acquisitions. Thanks for all the clear, and helpful information!
    Tony Wooldridge Rental Property Investor from Walla Walla, WA
    Replied 7 months ago
    Very informative Natalie, thanks! It's AWESOME to see your CPA being featured on BP, just reassuring that you have GR8 people on your team helping make your business successful. Thanks again Natalie keep up the good work!
    Natalie Kolodij Accountant from Charlotte, NC
    Replied 5 months ago
    Thanks Tony! Appreciate the kind words.
    Greg Hiers from Atlanta, GA
    Replied 6 months ago
    Like many of you, I watched this video and really loved Natalie's advice. Right after, I booked a session to speak with her online. I only have 2 multifamily properties but will soon add another and specifically told Natalie this during our call. I explained how another CPA met with me and promised to contact me with next steps but never did so I was little sensitive about that. I specifically asked her to let me know if I was not a fit for her business upfront so that I could find someone else and she reassured me that she loved working with smaller operations. She said to give her a few business days (even though her automated message says 7-10 BD after our conversation) to get back to me with pricing options. I gave her the full 10 business days time and emailed and then I emailed again and then I called and left a voicemail. Needless to say, Natalie never responded to either email or my voicemail and I've wasted a month+. I can understand if maybe she was overworked due to her interview on Bigger Pockets Money but to not ever respond AT ALL??? That is unacceptable. If CPA's don't want to work with a smaller client why cant they just put their big boy/girls pants on and be honest? Is honesty and decency not a thing anymore?
    Natalie Kolodij Accountant from Charlotte, NC
    Replied 5 months ago
    Sent you an Email
    Eric Hollowaty Investor from Austin, TX
    Replied 5 months ago
    Bigger Pockets Subscribers: I am currently a client of Natalie's, and I strongly suggest AGAINST working with her - she is unbelievably unprofessional. (By the way, note that she's NOT a CPA - she's a licensed tax preparer, which may or may not be fine for what you're looking for. Not a judgment, just a clarification.) Here's why: 1-She doesn't give out her phone no. to her clients voluntarily; the only way to communicate with her is via email. 2-She got my original price quote incorrect for doing my taxes (despite my being 100% transparent about the scope of the work I wanted her to do), and then she came back later after she realized her mistake and wanted to "true up" the amount and charge me more. When I pushed back and and told her I wouldn't pay more because I'd tried to correct her misunderstanding upon her issuing me a preliminary quote (i.e., pointed out her error, thereby freeing her to actually quote me MORE before I signed my engagement letter), she started giving me the cold shoulder/passive aggressive treatment - most particularly, not responding to my email questions about the status of my taxes in a timely way (if at all- many times she would open my emails almost immediately but simply not respond at all). 3-She has not communicated with me proactively at ANY time about the status of my taxes, including when I might see a draft, etc. Basically her behavior says, "don't 'call' me, I'll 'call' you." 4-Returns for 2019 for LLCs were due at midnight on April 15, 2020. I received a system-generated email from Natalie that her first draft of my LLC return was ready for my review at...7.23pm CT, even though she'd had all the documentation she needed to prepare my return for over four weeks. At 9pm local time on the day the return was due, she was still asking me to sign, scan and email back to her authorization to e-file my return. (Incidentally, for what it's worth, on the return there's a box for tax preparers to check regarding whether they give the IRS permission to contact them on the taxpayer's behalf if there is a question about the return - she denied it/checked "no.") 5-Continuing on the aforementioned cold shoulder/passive aggressive theme, Natalie sent out a bulletin to her clients in late March 2020 regarding the IRS's extension of the filing deadline for individuals from April 15 to July 15 due to the coronavirus. Upon receiving this, I emailed Natalie the following verbatim: "Natalie, I received your email regarding the IRS' extension of the filing deadline until July 15 for personal returns. While I am sure the extension is welcome news for people that have been displaced and owe the IRS money this year, for me any extended deadline actually creates a hardship as my fiancee (who is currently unemployed) and I will need to rely on my refund to help meet our own near-term living expenses. To that end, I expect that we'll continue to work toward the originally agreed-upon April 15 deadline for my personal return; you already have all of the supporting documents needed to finish my return, which should require minimal effort as it is not that complex now that the S-corp. filing has been done. If for some reason April 15 is not a doable deadline for YOU, I'd appreciate your letting me know ASAP so we can discuss alternatives. Many thanks, Eric" She responded (verbatim): "Hi Eric, No worries I'm not planning to purposely take until July - Just letting people know it's an option. Thanks! Natalie" As I write this review, it is 7.33pm CT on April 16, 2020, and I have yet to hear anything from Natalie about my return (despite my emailing her this morning asking where it is). Bottom line: I'd stay away, she is bad news.
    Steven Hamilton II Accountant, Enrolled Agent from Grayslake, IL
    Replied 5 months ago
    I agree 100% please don't contact my firm. You wouldn't be welcome. We are literally buried in everyone applying for PPP loans, EIDL loans, calling us crying at about their businesses closing, their stimulus checks etc. And then tax returns still need to be filed. You're being selfish and a downright terrorist to someone's business during a worldwide pandemic. You clearly think you're more important than everyone else.
    Linda Weygant Investor and CPA from Arvada, Colorado
    Replied 5 months ago
    Wow. Where to even start with this. Tax pros usually have 10 weeks to service their clients. Working efficiently and effectively is the ONLY way to get through it with any degree of speed and accuracy. And when it comes down to speed and accuracy being in conflict, the best tax pros will choose accuracy every time. One way to be efficient is to work, head down and balls to the wall while ignoring the phone, a lot of email, your health, your hygiene and your family. The very last thing you do is send out status update emails as to where each client is in the queue. I literally cannot imagine providing these kinds of updates and to insinuate that she should have been doing so is unrealistic. Like it or not, tax season is very much a "I'll get back in touch with you when I can" scenario. Tax pros are sorting through their email and reading the ones that are providing them the info they are waiting for and generally doing everything they can to keep the queue moving. Every time there's a "status request" from a client, it just slows things down. We all try to provide great customer service, but there's the reality of that 10 week sprint to deal with. I'm not sure if you're aware of it or not, but there's been a global pandemic that just happens to coincide with the timing of your complaint. The response to it in the US included over 800 pages of new tax law that is effective RIGHT NOW. The vast majority of quality tax pros that really care about their clients put all of their tax prep work on hold and switched focus to learn these 800 pages and also start helping their clients learn about the benefits they would and could qualify for and help them get registered for them. Not only was this desperately needed, but it was the right thing to do. People whose entire livelihood is crashing down around them were turning to their tax pros for help. I'd have been highly disappointed to hear that a caring and compassionate person was turning those people away in favor of somebody who clearly does not value her or her efforts. After learning about these 800 pages, the best tax pros created tools to analyze a client's needs to figure out which specific programs they should apply for. Since some of the programs are mutually exclusive, it really took a lot of work - beyond the classes - to design systems to help clients. And then communicating with those clients... it's truly a labor of love to make sure that your entire client list is being looked after according to their needs. The fact that you got a proof copy to review in the time you did is freaking amazing, as far as I'm concerned. Your need for your refund is indeed an issue, but your fiancee now qualifies for unemployment - as do 22 million other Americans. There are mortgage deferrals, rent deferrals and various other programs to help out you and your fiancee - which is exactly what Natalie was probably trying to do. She was performing triage to get people the resources they need and you're just salty because you didn't make the first round of cuts. Your issue with the checkbox about IRS contact is a non-issue and I'm not even sure why you bring it up. The box is pretty worthless as the only thing they'll communicate to your tax pro without a Power of Attorney is whether or not the return was received. A passive aggressive communication to update about a major change with the IRS and tax law? How could that possibly have been worded in a passive aggressive manner? Your response to it is the real tragedy. Your attitude of "I know there's a world pandemic on, but ME FIRST" is sickening. Congratulations, you've alerted every Real Estate focused tax pro on BP to decline your calls/emails. In short, YTA here.
    Steven Hamilton II Accountant, Enrolled Agent from Grayslake, IL
    Replied 5 months ago
    I agree 100% please don't contact my firm. You wouldn't be welcome. We are literally buried in everyone applying for PPP loans, EIDL loans, calling us crying at about their businesses closing, their stimulus checks etc. And then tax returns still need to be filed. You're being selfish and a downright terrorist to someone's business during a worldwide pandemic.
    Natalie Kolodij Accountant from Charlotte, NC
    Replied 5 months ago
    Hi Eric, I'm sorry you've found the service to be so bad. Admittedly this season has been extremely busy, and then adding the Covid-19 issues things were delayed. Nothing states I'm a CPA (I've currently passed 2 of the 4 exams so I can't use that credential until I finish the exam) My phone number is on my BP profile, My website and my email signature. I do discourage unscheduled calls as if I'm always answering calls doing work becomes difficult. I do this so I can focus on existing clients and their needs. There is a booking tool directly on my website for existing clients to schedule phone calls as well. There was some confusion with your initial quote- your consulting form you filled out noted you had an LLC, not an S corporation. I talk to lots of people each week, I apologize if there was a misunderstanding on the call- we're all human. I felt that sending clients an emailing letting them know about the delayed deadlines, and that we were focusing on clients who needed help the most first (for loans to stay open, for stimulus checks ect) was being proactive - not passive aggressive. I received countless emails back from clients thanking me for that. You were the only one who took it as a negative statement- and even more so....who used it as a time to demand your return by the initial date. You had also made demands of your S corp to be done by 3/15 as well, and I did finish it by that date. And you're still upset. Additionally, there was extension filed just in case. Since I was also doing the 1040 we needed it to finish it before I carried the information to your 1040 to complete it. There was no purpose for it needing to be finished on 3/15 except your desire- and I still got it filed on time because I knew that was important to you. And yes I unchecked that box- checking the box saying we want your IRS correspondence means that until either you or my self contacted them to REMOVE that permission- I'd receive all of your IRS correspondence mailed to me going forward. So as we discussed today - I didn't break any terms of the engagement since the due date is 7/15. I apologize that there were delays in response this season - and that part isn't acceptable and I will admit to that. But someone taking long to email back seems like a small reason to threaten legal action.
    Linda Weygant Investor and CPA from Arvada, Colorado
    Replied 5 months ago
    Wait, what? He threatened legal action over this? That really takes the cake. Too bad BP censors all of my best words. He deserves every one of them.
    John Hyre Accountant / Attorney from San Juan, PR
    Replied 5 months ago
    If I am understanding correctly - the return was to have been done by 4/15 and was not? But only missed deadline by a day, if that? With no harm done other than "I wanted it on 4/15, damn you!" and "now my refund will arrive a day or two later"? No FASFA deadlines that the client disclosed missed? No bank financing falling through? Etc. I do see some warning signs as to the client. I have learned over 25 years of practice to turn certain personality types down. Thank God I am very good at what I do. I can keep the best clients and avoid or fire the remainder. Clients who badger us get fired, and quickly. You know the type, they want updates constantly. They like to pound the table "me, me, me, now, now, now". Sorry, I have work that requires focus. Don't like it? Don't hire me. I won't miss an important deadline, though I might miss an arbitrary one ("I want it now") if triage of other clients calls for it. Of course, if you are one day the client gushing arterial blood (so to speak), I might put someone's else's work (if they won't be harmed, that's the point of triage) to the side to deal with your emergency. That cuts two ways! And these last few weeks....there has been a lot of triage. Things are not normal, to say the least. - The real red flag here for me is the griping about "Return not done on exact day promised, or too late on that day, or a day later". As far as I can tell, the only harm was "I wanted it now" and "my refund will be a day late". It'd be different if there was actual damage - I don't see that here. Going ballistic over that to the point of posting indicates a dangerous client who will make a big deal out of not getting what they want, no matter the circumstances or the triviality of what they want. I avoid such people at all costs, not worth the stress, bad energy, or brain damage. - I do not give my cell out. Period. The vast majority of my calls are by appointment only, period. People who send emails saying "call me" better have a bona-fide emergency (as defined by me). And if they have too many emergencies....we get rid of them. Their problems do not get to be my problems or other clients' problems. Most communication is via email, unless it is more efficient to discuss matters via a scheduled call. Did I mention "scheduled"? - Pricing change......rare for us, but they do happen. Don't know enough to judge in this case. - "Cold shoulder"? If I have questions, I will ask, normally via email, perhaps via a scheduled call if they are extensive. Otherwise, I am working on your stuff. If I think I will be late, I will let you know. Otherwise, we are not talking. I am busy. Get a dog, talk to it. - "Proactive communication" as to status. If you do not here from me, we are on track. Your jumpiness & nervous energy are not my problem. Get a dog. or quaaludes. - She had his materials for four weeks? And got it done in that period, March 15 to April 15 (well 16th or so)? That's good during a normal year and excellent this crazy year. We do 4 weeks when we have the last piece of info from you, and 6 weeks if we get it from you after March 1 (or August 1 for September 15 deadline, etc.). - We normally check "no" on the permission box. There's liability for checking "yes". If we check "yes", we get client's permission AND an hourly engagement letter to bill for time spent with IRS. This client bringing up things that are trivial such as checking "no" in this box and lack of CPA (I do not believe Natalie ever said she was a CPA) indicates an OCD, demanding, and vindictive personality....really someone who is "reaching" to paint a nasty picture here. That's not nice. High odds we are dealing with an attorney, engineer or software person, no offense to people in those professions, they just tend to produce more of these sorts of personalities. I do not see how informing clients of IRS developments such as new deadlines in a weird and fast-moving environment could possibly be viewed as "passive-aggressive". It's proactive. Seriously, how do you spin that as negative? Bottom line: Client post struck me as a tantrum. Client seem to require constant reassurance - I charge extra for that if choose to deal with it at all. I have actually included an extra "Pain in the Ass" fee (with exactly that wording) on clients year 2 engagement letters, assuming I like them enough not to fire them on the spot. They call to discuss the fee. We agree to waive it if they agree to act like proper humans and then do so. Or we fire them. Never had one pay it. Client really likes to spin things in a nasty manner (attorneys do that a lot, so there's my bet on the profession. Or maybe journalist?). I mean, passive-aggressive communication in re new IRS deadlines? Really? Seems like a client who would loudly demand you put other clients to the side to deal with him, but would not be willing to take "his turn in the barrel" when other clients are in need. The meltdown over a harmless delay during a very odd time is the major warning sign. As they said in the Monty Python skit: Run away! Run away!
    Steven Hamilton II Accountant, Enrolled Agent from Grayslake, IL
    Replied 5 months ago
    Amen!