S-Corporation Tax Scenarios

Rental Property Investor · Beverly Hills, CA · Member since 2018 · 21 posts · 2 votes

Hi guys,

I've been trying to understand the tax implications of different entity types. I've developed a really short, brief model of how an S-Corp would be taxed, provided that it is 100% comprised of rental properties. My results came out quite counterintuitive; the higher the income, the lower the effective tax rate is (I assume this is because Social Security Tax becomes more and more insignificant, as it is capped at $128,000 of salary).

Anyway, I attached the quick model. Not sure how accurate it is, if at all. Could you please take a look and vet it?

Thanks everyone!

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Ashish AcharyaBusiness Member

CPA, CFP®, PFS · Sarasota, FL · Member since 2017 · 5k+ posts · 3k+ votes

Originally posted by @Nur Al Sharif:

I think I have narrowed down my confusion - Is the 20% QBI deduction applied to Net Income, or to Retained Earnings? Nur,

It is almost never good idea to run your rental activity via S Corp.

People get S Corp to avoid SE taxes, but rental income is not subject to SE taxes anyway, so no need to get an S-Corp.

Also even if you would get an s Corp, paying salary would subject Payroll tax on the income that would otherwise wouldn’t be subject to SE tax. SE and payroll tax are similar taxes named differently.

If you don’t have s Corp, then you don’t have to pay salary, the SE tax and payroll taxes are not relevant.

Also you don’t need S Corp for 20%QBI deduction. The Retained earning has nothing to with tax so. QBI is one of the most complicated stuffs, so don’t tackle it yourself.

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James Miller
Attorney · Fort Worth, TX · Member since 2015 · 372 posts · 176 votes
8y
Originally posted by @Maugno M.:

@James Miller @Ashish Acharya @Lawrence Stepovich

I just had a consultation with a CPA. I just created two entities, one for my flipping side and one for my rental side. My cpa just told me that if i put my rentals into the llc i created, either way i'd be paying SE tax. Something about using depreciation so either way it comes out neutral. I didnt really understand that part. I always thought that my rentals were passive and wouldnt be charged SE. CPA thinks otherwise.

He told me not do to the scorp till my profits were over 128k or so cause then thats where id be maximizing tax benefits.

So for now, he said i'd do the LLC as a disregarded entitiy, and that all my profits from llc flow to my 1040. he said that each of my LLC's would have to be on schedule c, my flipping llc and my rental llc

Feedback ?
Huh? Rentals shouldn't have to pay SE unless you're a hotel (or some other exception applies). S-corp makes sense if you have about $30-40k in profit to pay out as part W2 and part distribution. (Gotta have enough profit to overcome the extra tax prep and payroll filings).
The main reason rentals don't go into an S-Corp is not due to SE tax; it's that S-Corps make exiting a property harder. Really any appreciating property in an S-Corp is not wise, not just rentals.
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Linda WeygantPro Member
Investor and CPA · Arvada, CO · Member since 2015 · 2k+ posts · 3k+ votes
8y
Originally posted by @Maugno M.:

@Linda Weygant I wonder why this CPA guy then told me the scorp is a bad idea then unless i make enough profit... If i leave as is i'd be paying SE tax on all my profit.
That's correct. It would appear that you understand these concepts better than your CPA. Which is why my first piece of advice to you was to consider finding a new CPA.
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Maugno M.
Flipper / Landlord · Tyler, TX · Member since 2016 · 255 posts · 126 votes
8y
@James Miller @Linda Weygant I dont understand if he didnt understand me or what and he has a big practice here in my town. So i did an LLC for flips and one for rentals. One for my active side, and one for my passive side (rentals). He said either way i pay SE tax on that rentall LLC unless i had a property management company. . . He took my total profit this year on flips and total profit from rentals and added them together. It was an example of 20k on both. He then said i'd be taxed the 15.3 for total, and then on top of that my regular tax which i would fall under the 22% tax bracket. Maybe i should of had a consultation with you @Linda Weygant
I need to fully understand the Scorp thing better because maybe itll benefit me more. I plan on doing alot more flips now then rentals finishing of this year and the coming years.
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James Miller
Attorney · Fort Worth, TX · Member since 2015 · 372 posts · 176 votes
8y
Originally posted by @Maugno M.:

@James Miller @Linda Weygant I dont understand if he didnt understand me or what and he has a big practice here in my town. So i did an LLC for flips and one for rentals. One for my active side, and one for my passive side (rentals). He said either way i pay SE tax on that rentall LLC unless i had a property management company. . . He took my total profit this year on flips and total profit from rentals and added them together. It was an example of 20k on both. He then said i'd be taxed the 15.3 for total, and then on top of that my regular tax which i would fall under the 22% tax bracket. Maybe i should of had a consultation with you @Linda Weygant
I need to fully understand the Scorp thing better because maybe itll benefit me more. I plan on doing alot more flips now then rentals finishing of this year and the coming years.
I'd get a second opinion from a different CPA. Splitting up LLCs is just fine. But the rest of that doesn't make much sense to me.
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Maugno M.
Flipper / Landlord · Tyler, TX · Member since 2016 · 255 posts · 126 votes
8y
@James Miller @Linda Weygant How are LLC's that have rentals in them suppose to do it? Last year i did my taxes on my own and it was the first time i ever had rentals, and i used turbo tax and they put my rentals on Schedule E. The CPA says he'd put each LLC on a schedule C.
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James Miller
Attorney · Fort Worth, TX · Member since 2015 · 372 posts · 176 votes
8y
Originally posted by @Maugno M.:

@James Miller @Linda Weygant How are LLC's that have rentals in them suppose to do it? Last year i did my taxes on my own and it was the first time i ever had rentals, and i used turbo tax and they put my rentals on Schedule E. The CPA says he'd put each LLC on a schedule C.
If your entity was disregarded, you'd do your personal taxes as if the LLC didn't exist and you owned the rentals in your personal name. Hence "disregarded".
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Maugno M.
Flipper / Landlord · Tyler, TX · Member since 2016 · 255 posts · 126 votes
8y
THats how i told him i wanted it, disregarded. He said both LLC'S go on Shedule C's
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Linda WeygantPro Member
Investor and CPA · Arvada, CO · Member since 2015 · 2k+ posts · 3k+ votes
8y
Originally posted by @Maugno M.:

THats how i told him i wanted it, disregarded. He said both LLC'S go on Shedule C's
I think instead of trying to figure out this guy, your best option is to find somebody else. I don't care how big his firm is (omg....that sounds dirty no matter how I type it), the guy is clearly not understanding this situation. Run far. Run fast.
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Eamonn McElroy
Accountant · Atlanta, GA · Member since 2015 · 1k+ posts · 1k+ votes
8y
@Maugno M. You need to get second and third opinions. Either there are facts being left out that are causing information asymmetry between what we know and what your CPA knows (and thus the wide chasm of opinion), or he isn't qualified to handle this type of fact pattern for you.
Generally, you'll keep your rentals separate from flip activity in their own LLC. It will usually be advantageous to have that LLC taxed as a 'disregarded entity' (if SMLLC) or a 'partnership' (if MMLLC). If a disregarded entity -- i.e. you are the sole owner of the LLC -- you will report the rental on Schedule E of your 1040 as if the LLC does not exist. Again this is general. As @Linda Weygant weighed out, a rental should not be subject to SE taxes unless it is short-term and substantial "hotel like" services are rendered -- e.g. daily maid services, continental breakfast, shuttles, laundry, etc.
Your flips should be in a separate LLC. This LLC can make an S election once you reach a taxable income level that makes sense and assuming the LLC meets all the hurdles for making an S election. S Corps begin to make sense once the savings on self-employment taxes outweigh the additional overhead of administering a corp for tax purposes. I tell my clients that, on average, S Corps begin to make sense around $50k of net taxable income. Material savings, again on average, are realized around $60k of net taxable. It really requires an analysis of your both your business and your involvement in the business to determine what is 'reasonable compensation' in relation to net taxable income.
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Maugno M.
Flipper / Landlord · Tyler, TX · Member since 2016 · 255 posts · 126 votes
8y
@Linda Weygant @Eamonn McElroy @James Miller So him telling me he'd put both LLC's on schedules c's is wrong? Should my rental LLC be on my schedule E and my flipping LLC on my schedule c?

It is a husband/wife llc, which should still be able to do disregarded. we both have w2 income from our jobs.
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James Miller
Attorney · Fort Worth, TX · Member since 2015 · 372 posts · 176 votes
8y
Originally posted by @Maugno M.:

@Linda Weygant @Eamonn McElroy @James Miller So him telling me he'd put both LLC's on schedules c's is wrong? Should my rental LLC be on my schedule E and my flipping LLC on my schedule c?

It is a husband/wife llc, which should still be able to do disregarded. we both have w2 income from our jobs.
As I said before, I think you need a second opinion from another CPA.
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Daniel DietzPro Member
Rental Property Investor · Reedsburg, WI · Member since 2011 · 1k+ posts · 857 votes
8y
@Maugno M. I am coming at this from being a partner in 25 units and having a pretty good grasp on the general concept of taxes on the rental side (I dont do flips). We also use an accountant who HIMSELF has had up to about 50 rentals at one point before he started downsizing.
To me, it sounds like for what ever reason , your existing guy is not either understanding what you are doing or giving you bad advice. The pros here are spot on to what my accountant says. The debate about at what level of income the flipping LLC should go s corp could be debated a bit. I can't imagine why he would have EITHER in a C Corp from what I know.
I would HIGHLY recommend getting another opinion(s) from someone that you are SURE has experience with smaller real estate things like you or I do. I *think* Linda, and probably some of the other professionals on here, do things 'remotely' AND they have the experience that can serve what you need. If I didn't have a local guy that 'gets it' I would use a remote person in a heartbeat if that is what it took to get things right.
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Stanley Bronstein
Attorney, CPA, Broker & Author · Scottsdale, AZ · Member since 2018 · 532 posts · 488 votes
8y
@Eamonn McElroy I agree with you. S Corps aren't for everyone. I always ask clients how much paperwork they fill like filling out. S Corps, as you know, require a lot more administrative work. Some clients are happy to fill out an endless amount of paper is it saves them $5 in taxes. I have others who don't want to mess with the extra paperwork unless it saves them a lot more than $5.
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Eamonn McElroy
Accountant · Atlanta, GA · Member since 2015 · 1k+ posts · 1k+ votes
8y
@Maugno M. "So him telling me he'd put both LLC's on schedules c's is wrong? Should my rental LLC be on my schedule E and my flipping LLC on my schedule c?"
No one on this forum can tell you that with 100% accuracy without knowing your facts and circumstances. We're all suggesting you get at least one third party opinion because something is amiss.
"It is a husband/wife llc, which should still be able to do disregarded. we both have w2 income from our jobs."
As you are in a community property state this is correct. Rev Proc 2002-69 reinforces the position. W-2 income and other activities are irrelevant.
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Eamonn McElroy
Accountant · Atlanta, GA · Member since 2015 · 1k+ posts · 1k+ votes
8y
@Stanley Bronstein You understand then that there are qualitative aspects as well as quantitative aspects to an S election. Agree 100%
I have clients with $100-200k of net taxable but they don't want to make an S election and don't mind paying more in self-employment taxes. They like to keep things simple. These are the type that like to take as much as they want out of the business at a moment's notice and don't want to run payroll. They like things streamlined.
An S election conversation with a client is like a tailored suit, not one size fits most. It's different for everyone. Quantitative data as well as qualitative preferences need to be considered, and ultimately, it is the client's call on what he/she wants to do. Not the advisor's call.
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Stanley Bronstein
Attorney, CPA, Broker & Author · Scottsdale, AZ · Member since 2018 · 532 posts · 488 votes
8y
@Eamonn McElroy Bingo ! Sounds like we have the same clients (grin) ...
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Maugno M.
Flipper / Landlord · Tyler, TX · Member since 2016 · 255 posts · 126 votes
8y
@Eamonn McElroy But from what i just posted on the forum, what do you think about that ? That the CPA says he'll put both of my llc's on Schedule C's. just in general, im not trying to get exact advise i understand you are not my CPA. Just want to know .. I think i should do my flipping LLC in Schedule C and Rental LLC on my schedule E.

I will get another opinion or two, just want to see what BP professionals think. There isnt much to my circumstances, im married(just married last month) make about 60k from my w2, about 20k this year in flips and 10k in rentals. I like simple, so i wouldnt do a Scorp right now either, prolly till i got alot bigger if that happens.
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Eamonn McElroy
Accountant · Atlanta, GA · Member since 2015 · 1k+ posts · 1k+ votes
8y
@Maugno M. I'm not going to say your current CPA is wrong. You and I haven't had a conversation about your exact facts and circumstances.
I will say it's highly intriguing and doesn't seem right based on the fact pattern you've laid out.
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Maugno M.
Flipper / Landlord · Tyler, TX · Member since 2016 · 255 posts · 126 votes
8y
@Eamonn McElroy THan you, im going to get this right either way. appreciate everyones feedback.
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Natalie KolodijBusiness Member
Moderator
Tax Strategist| National Tax Educator| Accepting New Clients · Member since 2014 · 3k+ posts · 4k+ votes
8y
Originally posted by @Maugno M.:

@Eamonn McElroy THan you, im going to get this right either way. appreciate everyones feedback.
You need a new tax person.
Are your rentals all Short term rentals where you offer hotel services? Meals, house keeping, ect?
If not then your current tax guy is soooo wrong.
I've worked for big CPA firms where they were clueless on REI issues. Many don't know it.
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Natalie KolodijBusiness Member
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Tax Strategist| National Tax Educator| Accepting New Clients · Member since 2014 · 3k+ posts · 4k+ votes
8y
Originally posted by @Eamonn McElroy:

@Maugno M. I'm not going to say your current CPA is wrong. You and I haven't had a conversation about your exact facts and circumstances.
I will say it's highly intriguing and doesn't seem right based on the fact pattern you've laid out.
I'd say he's wrong and I'd say it to his face lol
The options are either:
A. The CPA has no clue
B. He let his client leave without understanding what he was explaining- which is his job.
Either way he's wrong.
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Artie Wrightson
Charlotte, NC · Member since 2018 · 40 posts · 7 votes
8y
@Ashish Acharya. Why not s-corp for rental? What designation is best?
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