All Forum Posts by: Dylan Brown

@Austin Moore Sorry - try this!

https://tinyurl.com/repairflowchart

@Chris Seveney Your line:

"There are a lot of compliance issues therefore we engaged a broker dealer and a legit company to perform our annual audits"

Amen to that - well worth the cost I am sure.  If you invest with OPM (Other people's money) you really need air tight books and more than one set of eyes on everything.

Thanks for posting this - I have always thought this co-GP arrangement is such a sham.  Most of the "co-GPs" that I talk to wouldn't know a thing about operating a real estate asset and are merely along for the ride because they were able to cobble up a million bucks of friends and family money.

The private equity side of the real estate business has really been the wild west for the last 5/10 years!

"What is simply a repair and what do I need to capitalize?"
I get this question a lot.


Back in 2015, we saw lots of clarifications around this issue. Luckily, I don't need to reinvent the wheel to explain it, there is a plethora of publications out there on it. Here is the gist:

T. Regs. §1.263(a)-3 (2015 Tangible Property Regulations):

The general rule of Regs. Sec. 1.263(a)-3 requires that amounts paid to improve a unit of property must be capitalized. An amount paid is considered an improvement to a unit of property if it results in:
(1) betterment,
(2) restoration, or
(3) adaptation to or of the unit of property.

What does that even mean?

That is where it gets a bit complicated...

Rather than explaining it, I just linked my FAVORITE resource (published by KBKG - Tax Credits, Incentives & Cost Recovery way back in 2018) that I still use to this day. I even use this graphic to help train new hires!


^^^^^^^^

If you are a CPA, download it.

If you have a CPA, download it and send it to them.

This is low-hanging fruit for anyone that owns real estate. Don't miss deductions just because you or your CPA didn't know the nuance of the Tangible Repair Regs.

Why are GPs in R/E so fixated on receiving tax losses
When they should be focusing on structuring away earned income?



You only really need tax losses if you are trying to offset taxable income, right?

So why not just get rid of the income sources?



Obviously, its not that simple, but hear me out.


~75% of the syndicators and GP’s I talk to receive some form of acquisition fee for their services and often times use part (or all) of those fees to to re-invest into the deal.

What is tough about that is that the fee was taxable, but the taxpayer just invested the fee so they don’t have the cash left over to pay the tax.

Instead, what if the portion that they reinvested was actually re-structured to be paid out on the back end as a GP catchup in the waterfall instead of on the front end as a fee? If the GP didn’t need the funds and was going to invest them anyway, wouldn’t this be a no-brainer?

There is obviously a lot to this since the GP would want to avoid a scenario where the receipt of the partnership interest that entitled them to the GP catchup wouldn’t be taxable on day one.

That’s why you need a CPA that understands IRC Sec. 707, 83, and Rev Proc. 93-27 and 2001-43.

If done properly, the GP could defer income recognition to the back end and also convert it from taxable ordinary income into long term capital gains.

The catch here is that the GP needs to be willing to stomach the risk that the payout is now dependent on the performance of the asset. If the deal goes south, the GP won’t get any of the acquisition fee that they would have gotten otherwise. But hey, I know a million LPs that would actually see this as a positive and potentially agree to a higher fee knowing its only payable out of the projects upside!

Let me know your thoughts below. I included a snip from "Understanding Partnership and LLC Taxation" that is relevant to the discussion.

This is something that I think a lot of people get wrong.

Let's say you spend 100% of your working hours putting together funds for the sole purpose of using investor capital to invest in real estate.

You partner with sponsors that are running deals, and you are a co-sponsor (co-GP).

Your main responsibility is to underwrite, raise capital, and monitor performance. You are probably pretty savvy with real estate and may even have some prior experience being the lead sponsor on some deals in the past.

As a co-sponsor, you also have a stake in the property yourself, and you receive a K-1 with significant losses for the first year.

Unfortunately, you are just a passive investor like the rest of the investors in your fund, so those losses will not be offset against your other forms of earned income.

The crux of the issue here is that in order to make REPS status, you have to be involved in a real property trade or business which deal financing and underwriting does not qualify for.  The kicker is that if this is you, your hours actually count against REPS, not simply just tossed out.

I can’t speak to whether this will change your SSDI but I can tell you from the tax perspective you won’t have issues related to the SSDI.

you need to make sure you have a written timelog.

Everybody here is giving some great advice!

talk to your CPA!

It's hard for me to add to all these splendid posts!  I just can't help myself from recommending you find a solid tax advisor because you'll find on this journey that one of the coolest parts of real estate investing is seeing how it can impact your tax bill (in a good way).

I highly recommend you search for terms like "depreciation" and "cost segregation study" in these forums and on YouTube. You should try to educate yourself as much as you can before seeking third-party assistance. With that said, I highly recommend you at least make sure you have a solid CPA in your corner prior to closing on your first property. They can always answer your questions about basic structuring and what to avoid. 

my other piece of advice would be to take what some attorneys have to say about your structure with the grain of salt. Attorneys are fantastic at mitigating liability, but I have seen many new investors fall for the overly complex structures that attorneys make tons of fees setting up, even though their situation likely doesn't warrant something that robust.

it is still important to consult an attorney as you scale, but you should always do so with the help of another trusted advisor just to make sure that attorney isn't setting you up with more than you need to start.

I really wish it was that simple. I would be giving out rough estimates on this for him all the time!

The truth is, it is very highly dependent on your situation in the type of property you plan on acquiring. You can generally expect about 20 to 30% of a properties purchase price to be categorized to bonus eligible property using a cost segregation study. Though that can be significantly higher or lower, depending on the type of property. It also highly depends on the value of the land as well because highly valued land can be contracted from the value contributed to the property that’s depreciable.

If you assume 20% of a purchase price ends up being bonus eligible and in 2025, it’s 40% bonus depreciation- you would need a property acquisition with a purchase price of around $2.5 million to net $200,000 of bonus depreciation. Of course that really is meaningless because of how many variables there are here. You could get the same deductions with $1 million property or you might need a $5 million property.

What’s super awesome here is you have an opportunity to potentially even tap into the short term rental loophole if you’re planning on or are open to having a short term rental.

That would allow you to have the best of both worlds. You would be able to unlock the losses so that they aren’t passive well. Still keeping your W-2 job.

There are also tons and tons of strategies relating to real estate deductions that I can’t really get into with the post here. But if you truly have the capacity to begin doing this on a quasi-part-time or full-time basis, you should really be connecting with a CPA.