My question is not 100% related to buying or selling a piece of real estate but it does relate to financing and getting things in order to purchase my first investment property so I hope it can still get some answers.
So, I am an 1099 independent contractor. Currently I have a large balance due in taxes for some previous years (2017, 2018) that I am making $300 payments on. I have the money to pay it off in my savings but I dont want to deplete my savings an Im considering using that large amount to help purchase my first property house-hack style.
I now have a new balance for tax year 2020 (around $5,000). I am waiting on an invoice to be paid out for that same amount. At first, I was going keep paying my taxes monthly, adding my 2020 balance to my 2017 and 2018 balance, and use that invoice to fund my Roth IRA for 2020 before the April 15th deadline. So, should I fund my IRA for 2020 ($4,320 left to contribute), pay my tax bill for 2020 or keep saving for a property? I dont have to pay my taxes by April 15th as I already have a payment plan arranged and the interest on the payment plan is bearable. The IRA on the other hand must be paid in full by April 15th in order to maximize the amount allowed per year and I believe I can borrow from it later in regards to a investment purchase. Or should I keep saving and add that to what I have saved so far for a down payment on my first property?
I would use my savings to get current on my taxes. Next, I would use the money currently going to monthly tax payments to build up a 3-6 month emergency fund. After both of these are complete, I would start saving for a down payment on your first property. Once the taxes are paid up, your debt to income ratio will look better for a lender. You also need emergency fund/reserves set aside as a cushion before you purchase your first property.
so I should worry about the Roth later?
Also, when it comes to debt to income ratio, if my taxes are not on my credit as a debt/derogatory mark will that still be seen by the lender? Just curious never purchase a property. I am current on my payments and nothing on credit karma indicates that I have this debt. I know lenders may use a more in depth tool than credit karma though.
@Djuan Snowden I agree with Marci, I would take care of your tax debt first. I would think lenders would have access to your tax debt, but I don't know this for sure. I would also reach out to a broker or lender and find out for sure. I wouldn't start funding your Roth until you've purchased your 1st property. Once your 1st property is shored up and cash flowing, then you can start funding that Roth. I wish you the best on your real estate journey.
Yes, I would wait on the Roth for now.
@Djuan Snowden Absolutely, I would get current on taxes. You have time to purchase property in the future and the last thing you would want is for the IRS to be looking through your future deductions because of any red flags from past unpaid taxes. I also echo everyone else about debt to income, etc.
@Djuan Snowden once you get your financial affairs in order and start making more money you should look into truly self-directed Solo 401k retirement plan. As independent contractor you are eligible for this plan. It provides tremendous benefits such as high contribution limits (up to $58,000 for 2021), ability to borrow from it for personal needs, ability to invest in alternative assets such as real estate and much more.
@Michael Metzger thank you for this advice!
@Dmitriy Fomichenko I have heard of this and I appreciate you mentioning it. Will definitely look into once I get everything else in order.
Clear the tax debt first for these reasons.
1) The IRS has almost limitless power to screw up your life. They do not have to take you to court. If they decide to take the money, ZIP! it comes right out of your account. No day in court, no judge to talk to, no attorney to advise you....you wake up and find your account empty. Yes, I know you're making payments, but "mistakes happen"....especially in Govt.
2) If you don't disclose the debt on a mortgage application, you're not being honest with your lender even if it doesn't show up on your credit report. A lot of debts don't show up on credit reports, such as portfolio in-house commercial loans that don't report to credit bureaus unless you fall behind. When you are asked to list all debts, you need to list it, period. This isn't the time to play hide and seek.
3) You're not shouldering your share of the tax burden even though you have the capacity to do so right now, and your fellow tax payers would like you to take care of this rather than expect us to keep the Govt running while you pump up your personal savings and investing. Payment plans are for those who can't pay, not for those who can pay but would rather do something else. Call it doing your civic duty or being a responsible citizen or whatever.
The IRS is the last entity to whom you ever want to be in debt. Get 'er done.
Thanks, Erik. I will get on this immediately!
Completely agree with others on this post. Take care of the taxes, once you're free from that, you'll have more personal cash flow and will be able to save up emergency funds and contribute to your IRA much easier. Once you have the debt paid off, and a good cash cushion, start hunting for that first deal! Good luck!