For purposes of reducing my personal taxable income, is it effective to run rental income & expenses through a business? I need some of the rental income for personal household expenses which would be a salary (right?). With a business, at least I'd be able to control the amount of income to myself vs. the business.
No, I don't have a business for the rentals yet because I'm avoiding any more financial complexity. I only have one bank account and one credit card account and use Quicken reports for allocation. I'd expect another bank account and another credit card for the business. That will make sense most of the time but certain times it won't, like vacation trips that are also searching for rental property.
Due to the infamous 'due on sale' clause of lenders, it is unlikely that I'd transfer the rentals to the (LLC) business.
Raj, that's a loaded question, but I will give you an unloaded answer.
I use an LLC bank account, credit card, debit card for my rentals. This doesn't reduce any of my tax liability, but just makes it easier for me to separate the expenses, especially for audit purposes.
If I ever have to draw money from my rentals, I will draw it, the IRS doesn't care. What the IRS cares, is what you file a rental expense when you do your taxes. If you are audited, would you be able to prove that what you stated was a rental expense was indeed a rental expense?
A vacation trip for rental search may have only a portion of that trip directly attributable to the search as a valid rental expense. How I divvy it up is whatever helps me sleep at night, knowing that if I am audited, I can stand on firm ground with the proper evidence. If I am not able to clearly defend myself, to an imaginary IRS auditor, I will pass on those 'expenses'. Sometimes, it is not worth it, sometimes it is.
I am not a tax accountant nor an attorney:
If LLCs are single-member LLCs, I think the tax obligations just flow through to your personal return. Multi-member LLCs have to file their own returns but the idea is the same, your ownership % of the LLC flows through to your taxes.
We are owners (members) of our LLC, not employees, so we don't get salaries. The LLC can make distributions to its members, but taxes happen at the time the income is generated, not when distributions happen. Taxes are based on income, which is revenue less expenses. You can include fun things like depreciation as an expense, but expenses need to be related to the business you are doing. Income can be negative, which can offset other income you might have on your tax return.
I don't think you can be a W-2 employee of an LLC of which you are a member.
If you want to be an employee you might have to be incorporated as a s-corp/c-corp/etc, of which I know nothing.
Hopefully someone smarter than me will be able to help you with that.
@Jai Reddy thanks for the reply. It makes sense but I should clarify my question better. The IRS has certain magic income limits and that's what I'm trying to control. There's no way to avoid taxes but there are deductions that are phased-out based on income.
Say, for example the magic limit is $100k and last year my combined income was $95k. This year I'm expecting a $10k increase in salary & rental income which would put me over the limit.
Can I split myself :) so that my income is $75k in personal salary and $30k in rental business (assuming it is true)? Further, I might take $20k in salary from the business and leave $10k as assets for the business. That should keep my personal income under the $100k magic limit.
"Further, I might take $20k in salary from the business and leave $10k as assets for the business".
I would like a CPA to chime in here.
I think it is possible depending on how your entity is structured (@Frank B. comments come to mind).
I however think, that in the end, your overall tax liability on that $10K wont be reduced when you actually receive the $10K (when the owner makes a draw), unless it is done when your combined income from all sources falls below a deduction phase-out limit.
I wish I knew the answer, as my deductions are almost gone, and I would like to see how I can avoid/reduce taxes (which is legal).
I will bring this up with my CAP when I meet him.
As my CPA has explained it, any monies in any type of LLC not allocated (expenditures) is taxable. So by only paying yourself less will not change the taxable amount unless it is a multi-member LLC. I recommend meeting with a CPA immediately.
Secondly, you need to set up a LLC and structure yourself legal/financially to protect yourself!!! Right now you are leaving yourself wide open to litigation. Recommend you read real estate loop holes from the rich dad poor dad series to get a idea about this. Next meet with a lawyer and a CPA to structure yourself for the best defense. Tax and legal defense.
@Raj Gandhi The logic is smart, but doesn't work with a purely passive, single member LLC, rental business.
To truly shift your tax burden, you need to actually run a business and will want to look at utilizing a S-Corp or C-Corp for said business.
But when it comes down to it, you are over thinking it. Instead of shifting your income to your LLC, why not look at putting more money away into your 401k or setting up a SDIRA? Keep it simple.
An LLC has it's place. I have a CPA but not a lawyer (just lawyer friends). I've read Rich Dad Poor Dad, it is an inspirational book, not a recipe book for business. ;)
I already contribute to 401k and am approaching the contribution limit. Bumping up my 401k contribution might work for 2015 but it will fail in 2016 or 2017.
Along the lines of NOT simple... maybe I could form a multi-member LLC with my mom and negotiate that she "gift" me money similar to the LLC proceeds.
No worries, I found a solution to my specific problem with one IRS income limit.
After reading through this thread @Raj Gandhi I think what you realized is what many people here on BP fail to realize. Setting up an LLC is not the solution for every investor. An LLC has its place but when you get down to it, you usually figure out that there are ways to accomplish your goals without the expense of setting up another entity and adding to your expenses through filing fees, attorney's fees, accounting fees...etc...
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