Real Estate investors and construction groups have an entire body of special provisions in the tax code that requires an accounting firm familiar with them. From a requirement to rely upon contractors and subcontractors instead of employees, to 1031 exchanges, there are many areas of interest in the world of real estate that your neighborhood accountant may be unfamiliar with. In South Florida, may real estate groups may raise money from overseas investors, and accounting for foreign ownership can result in unreasonably large penalties when not properly handled. If you need a real estate specific knowledge, we may be the real estate CPA firm for you.
Passive, Non Passive, and Active Real Estate Investing
Passive losses can only offset passive income, which is problematic for new real estate investors. As your real estate empire builds, you will generate larger amounts of income on your older investments allowing you to offset passive losses on your newer investments. For new investors, however, their investments may be cash flow positive, but showing a paper loss because of depreciation and other real estate specific rules, resulting in losses that simply build up until the property is sold. In addition to understanding how to account for passive, non-passive, and active income, we can work with you to structure your businesses to minimize this problem. By developing a strategy to move losses into the non-passive category, we can help you lower your taxes today, but only if we are involved early in the process to help you set up the vehicles properly.
Accounting and Tax Effects of “Fixing and Flipping”
Those that are engaged in fixing and flipping may find themselves with excessive short term capital gains, the inability to write-off what seems like obviously business related expenses, and failure to properly account for expenses may result in losing valuable deductions. If you fail to deduct your expenses, you may find your profitability drastically reduced by an artificial tax sword against your business, instead of the tax shields that real estate investing is known for. Engaging an accounting firm that specializes in real estate investment and construction issues will help you setup your chart of accounts and tax systems correctly from the beginning, avoiding these pitfalls.
Section 1031 “Like-Kind Exchanges” helps with deferring the taxes – a huge advantage for real estate. The rules were adjusted in the Tax Cuts and Jobs Act.
Tax-Free Income From Rental Properties
Most of the tax code that impacts individuals is based on cash accounting, meaning the dollars that go in and out of your account this year. Real estate is unique because of the high leverage available for investors, write-offs related to mortgage interest, and the ability to depreciate the asset during the time of ownership. By properly aligning your business setup, we attempt to pair your passive losses against your passive rental income, letting you collect tax free income for life. That tax shield is reclaimed by the government when you sell the asset. However, if the ownership is structured correctly, much of that tax shielding can be rolled forward throughout your life, largely disappearing in your estate and never being repaid.
While these structures will eventually involve your tax attorney and estate attorney, we can help you set up your initial structures to generate that tax free income and preserving the shield until you are ready to meet with your legal team.
How To Be a Real Estate Professional (in the Eyes of the IRS)
If you expect to have passive losses in excess of passive income, you will find yourself with an excessive tax bill at this time. It will be cold comfort to you that in 30 years you’ll reclaim that when you are writing a large check to the IRS. If you need to convert the losses to an active or non-passive status, we can work with you to structure your business operations to make the right income active. It may not be possible to convert all your losses into active or non-passive losses, but the more of the losses that can be offset against other income, the smaller your tax bill is today.
More Info: What is Passive Activity Income?
Advantages of a knowledgeable Real Estate CPA Firm
As you buy and sell real estate, or rent it out as a landlord, a Real Estate knowledgeable CPA can help you minimize your tax burden by maximizing the deferrals, deductions, and other ways that the tax code favors the real estate industry. You need to do things correctly during the tax year, you can’t necessarily fix things when you go to file, so make sure you check in with your real estate firm’s CPA as you conduct business, not just at tax time.