Real Estate Professional Status vs Real Estate as a Business

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Real Estate Professional Status vs Real Estate as a Business

Sam HaackPro Member
Real Estate Agent · Jackson Hole, WY · Member since 2019 · 27 posts · 39 votes

Hi, so I am trying to figure out the answer to this question: how does investing in real estate with a "real estate professional" status compare to investing as investing with an entity and having a business (LLC) behind it? Do they have different tax advantages? I understand the difference between passive investor, active investor, and real estate professional in the eyes of the IRS, but does investing using an LLC give unique tax advantages too? Is this a fair comparison or question to ask? Any help separating out these two lines out thought would help greatly.

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Christopher Smith
Investor · brentwood, CA · Member since 2016 · 1k+ posts · 730 votes
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An LLC (I'll assume you are referring to a single member LLC where no election has been made to be taxed as a C or S corporation) confers no tax advantages, it's primarily intended to be a risk / liability mitigation / management tool. In fact the entity is disregarded from it's owner for Federal Income tax purposes.

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  • Dusty Laurin
    Rental Property Investor · New Braunfels, TX · Member since 2020 · 39 posts · 18 votes
    5y

    @Samuel Haack, I would like to know the answer to this question as well!

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  • Christopher Smith
    Investor · brentwood, CA · Member since 2016 · 1k+ posts · 730 votes
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    An LLC (I'll assume you are referring to a single member LLC where no election has been made to be taxed as a C or S corporation) confers no tax advantages, it's primarily intended to be a risk / liability mitigation / management tool. In fact the entity is disregarded from it's owner for Federal Income tax purposes.

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  • Erickson Sainval
    Investor · San Diego, CA · Member since 2019 · 326 posts · 266 votes
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    LLC is more for protection and in some way choose at what your taxed and how based on your selection of being a S or C corp.

    Real estate pro is a exception which in itself has a lot of advantages in lowering your taxable income.

    You should try to use both these things to take full use of the benefits. It's not really picking one over the other. 

    I am also not a CPA or tax professional.

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  • Ashish AcharyaBusiness Member
    CPA, CFP®, PFS · Sarasota, FL · Member since 2017 · 5k+ posts · 3k+ votes
    5y
    Originally posted by @Sam Haack:

    Hi, so I am trying to figure out the answer to this question: how does investing in real estate with a "real estate professional" status compare to investing as investing with an entity and having a business (LLC) behind it? Do they have different tax advantages? I understand the difference between passive investor, active investor, and real estate professional in the eyes of the IRS, but does investing using an LLC give unique tax advantages too? Is this a fair comparison or question to ask? Any help separating out these two lines out thought would help greatly.

    Yes there are advantages with different types of entities if you are flipping.


    For rentals, not really. 

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  • David M.
    Morris County, NJ · Member since 2020 · 5k+ posts · 2k+ votes
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    @Sam Haack

    A legal entity such as a LLC is for liability limitation. They provide no tax benefits unless you are investing with a non-spousal partner at which point it only provides "apportionment" between the investors, but no real change in taxes.

    Unless you use a C Corp, all other entities (e.g. partnerships, LLC's, election for S Corp status) are called pass-through entities. The effective taxes are pass-through and taxed on the individual returns. Only a C Corp really files its own return. This is why you hear about double taxation with a C Corp as it is taxed its own return, then when you take the profit somehow, you get taxed on your individual return.

    As previously mentiond, a single member LLC is disregarded for Federal status. While it maybe a legal entity in the State that it is formed, the Feds just see it as just somethign you are doing. So you file a SchC or SchE (probably E since your example applies to passive investing).

    With a multi-member LLC, it is taxed as a partnership. Partnerships file a partnership return, a 1065 I think????, which spits out a k-1 (think of it like a 1099 or a W2) which reports what sort of income/loss each member/partner has to report. The partnership return doesn't pay any tax, it just reports to the irs, well what you did and via the k-1 what everybody will be reporting on this personal 1040's.

    I hope this helps.  Good luck.

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  • Chris Levarek
    Real Estate Syndicator · Phoenix, AZ · Member since 2018 · 903 posts · 1k+ votes
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    @Sam Haack Slight correction there, to be a real estate professional you almost always need to be an active investor. Rules have gotten a bit more stringent on qualifying. I recommend people buy/rent/flip a sfh/small multifamily to achieve status and combine with other more passive investment losses. Or obviously, work full-time in a property management business or other qualifying job...

    Your question is actually one I've seen before. LLC's seem to get created for all sorts of reasons in real estate and in this forum, but at it's basis, they are for liability protection.

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  • Paul MoorePro Member
    Commercial Real Estate Fund Manager · Lynchburg, VA · Member since 2015 · 1k+ posts · 1k+ votes
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    @Sam Haack. Great question.  I agree with @Chris Levarek that the IRS is basically pushing you into only qualifying as a real estate professional if you are full time. The benefits can be quite significant. 
    If you're operating as a realtor, with a team that generates some semi-passive income for you, using an LLC can allow you to avoid some FICA. At 15.3%, this can be quite attractive. Many Realtors with teams pay themselves a salary from their LLC (say $50k) and run other (more passive) profit through the LLC. Saving FICA on the balance.
       Some do that in conjunction with being a qualified real estate professional to get even more benefits.  Good luck! 

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  • David M.
    Morris County, NJ · Member since 2020 · 5k+ posts · 2k+ votes
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    @Paul Moore

    That's not entirely complete.. A LLC with a S Corp election can potentially save you money by avoiding self-employment tax, technically not FICA. Furthermore, running the rental passive income through the LLC has no tax benefit unless its non-spousal business partners splitting up the profit/loss. Its still passive income regardless. Furthermore, real estate agents running their business through/with a LLC is not permissible in every State.

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  • Paul MoorePro Member
    Commercial Real Estate Fund Manager · Lynchburg, VA · Member since 2015 · 1k+ posts · 1k+ votes
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    @David M. I am unclear about what you mean by "self-employment tax" if it is anything other than FICA (7.65% x 2). Maybe there is a difference inside NJ, but speaking for federal, that is what I was referring to.  

    And I was not aware that real estate agents couldn't run their business through an LLC in some states. I can only speak to the few states I have been involved in. Thanks for bringing this up!

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  • David M.
    Morris County, NJ · Member since 2020 · 5k+ posts · 2k+ votes
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    @Paul Moore

    Well, what people "do" vs. what they are "supposed to or allowed to do" are two separate issues.  We see that on BP all the time, for example.

    While licensed Brokers can operate out of a LLC for their brokerage, agents can't always do that. For example, in NJ its not possible because the individual is licensed. I create a LLC all I want, but the LLC can't get a real estate license. So, all commissions get paid to me personally. Meanwhile, yes there are posts in BP from licensed agents in NJ running their real estate agent business through a LLC. Sure, for Federal purposes a single member LLC is a disregarded entity so the tax return looks "exactly" the same. So, from an accounting standpoint, my laymen's viewpoint is that one can say "its fine" since the tax return is the same. But, I'm guessing from a legal standpoint the LLC is this "ghost" having actually not done anything.

    For a team having formed a multi-member llc.. I don't know... My only GUESS they are operating like some of the recent discussion posts where if you 'take your earnings, give it to the LLC, then its the LLC's earnings...'

    (Its really strange how similar lines of questions and/or operating thoughts get posted on BP in groups.  They aren't actually sprinkled out...)

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  • Michael PlaksPro Member
    Tax Accountant / Enrolled Agent · Houston, TX · Member since 2014 · 5k+ posts · 6k+ votes
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    @Paul Moore

    @David M. brought up an important and controversial point. Per my non-lawyer understanding, commissions can only be paid to licensed agents, and only individuals can be licensed as agents. LLCs cannot be licensed and cannot receive commissions. So all income of agents (as opposed to brokers) is always reported as an income of an individual, under his/her SSN.

    You can run this agent income thru a single-member LLC that is disregarded for tax purposes. It breaks no rules, as far as I know, but neither does it create any tax advantage.

    To create the self-employment tax benefits discussed on this thread, you need to re-route such income into an S-corporation filing its own tax return under its own tax ID, aka EIN, as opposed to the agent's SSN. Such re-routing potentially creates problems with the state real estate regulations, with the IRS, with the state tax authorities, and/or with professional insurance. 

    Yes, agents do it all the time, often with their CPA's consent and even recommendation, but the legitimacy of such approach is debatable.

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  • Paul MoorePro Member
    Commercial Real Estate Fund Manager · Lynchburg, VA · Member since 2015 · 1k+ posts · 1k+ votes
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    Thanks for the comments @Michael Plaks and @David M.. Good stuff. The rules are different in Virginia. I know of agents who have a team that generates income for them and the commissions are paid straight to the LLC in full view of all regulators.

    I’m curious @Sam Haack... did we get mired in the weeds here?  Did we answer your original question about qualified real estate professional status?  

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