Earlier this month the IRS clarified the rules on the 20 percent deduction on qualified business income from pass-through entities that include sole proprietorships to S corporations.
The 199A deduction, commonly referred to as the qualified business income deduction, was a welcome (and vague) part of the Tax Cuts and Jobs Act Congress passed in December 2017.
The deduction was designed for businesses owners who pay their taxes on their personal tax returns — partnerships, limited liability companies and S corporations if they earn less than $157,500, or $315,000 for a married couple. In it’s first year, however, tax professionals were left scratching their heads when it came to interpreting the code when it came to real estate activity.
The language stated real estate activity must rise to the level of a ‘trade or business’ and wasn’t clear enough for most tax preparers to act on.
This year’s proposed regulations added much needed clarification and has been welcome news to an estimated 15 million investors nationwide. To qualify for the deduction property owners, including the people they hire (think painters, contractors, etc) must spend at least 250 hours a year on the business and keep records of all activities.
The proposal further qualifies a real estate business as “…services performed by owners, employees, and independent contractors and time spent on maintenance, repairs, collection of rent, payment of expenses, provision of services to tenants, and efforts to rent the property. Hours spent by any person with respect to the owner’s capacity as an investor, such as arranging financing, procuring property, reviewing financial statements or reports on operations, planning, managing, or constructing long-term capital improvements, and traveling to and from the real estate are not considered to be hours of service with respect to the enterprise.”
If you have rental properties and think you qualify, share the 199A details with your tax professional for review.
January 26, 2019
If you like the idea of growing your wealth or adding to your income or retirement income stream with real estate but don’t want any of the headaches that go along with it, start where I did: Turn Key Real Estate Investing.
A turnkey real estate investment is an income producing rental property that was most likely a distressed property that has been completely renovated and is sold to an investor with tenant in place and cash flowing.
The beauty of the perfect turn key experience is after you have chosen from a list of homes and gone through the purchase process, all you have to do is collect rent payments via the provider less their management fee which can range from 8-10% –and worth every penny as your investment property is most likely to be in another state. They handle the placement of renters, collection of rents, and most tenant / repair issues.
Across the country there are some fantastic turn key providers, and there are some you should steer clear of, so always do your due diligence. Here are some questions you should ask in your search for a reputable turn key provider.
How many rentals do you personally own?
You want someone who’s in the game and ‘eats at the same restaurant they manage’ so to speak. If they don’t own a few of the properties themselves, you need to pause and ask why that is.
Is there a guarantee?
After selecting your property from their list of options, get your own home inspection from a third party inspector. The turn key provider should offer a one year home warranty if the home was just completely rehabbed.
What’s your experience?
How long have they been a turnkey provider? Do they understand the nuances of the neighborhoods and markets in which they provide? Always ssk for references and contact current or previous investors and ask them what they wish they had known before going into business with the operator. Would they recommend them? Use them again in the future?
Who will be managing my property?
Many providers manage their own properties, and this can make for a seamless experience. Typically in this scenario you will have the same teams maintaining the property that renovated it in the first place. Ask how they handle the maintenance, and what tools and systems are in place to communicate with their property owners. They should be using web based tools where you the owner can track all income, bills, and property activity via you own user portal.
How do you arrive at the rate you charge for rents?
We all want to maximize performance from our rental properties, but not at the cost of frequent vacancies. Choosing a rent price at the lower end of the market will keep your tenants in place longer, maximizing your returns. As long as the ‘cash on cash’ fits with your performance expectations this is the best strategy. Personally, I will not choose a property that doesn’t return at least 12% cash on cash return.
How do you determine the ‘Location. Location. Location?’
We all know the importance of location in real estate and it’s equally important when investing in turn key investments. Every town has it’s wealthy areas and it’s ‘other side of the tracks’ areas also known as ‘war zones’ to some real estate professionals. The middle is where it’s at: middle class, middle price point. Cash flow is more important than appreciation in this type of investment and as always, you want to minimize risk. Stable, middle class neighborhoods with good schools and nice parks is the sweet spot. Never invest in an area you wouldn’t want to live in yourself.
Real Estate investing isn’t for everybody. For the first half of my life I didn’t think it was for me because one, I feared the upfront cost and two, I never took the time to really understand the power of it. Fast forward to today, where, after much research and reading I sit with several single family homes in my portfolio averaging an 18% Cash on Cash return. It’s hard to match the returns of leveraged real estate. If I could go back in time to my twenties, I would invest more in real estate and less in my 401k.
Within real estate there are many ways to invest. REITs, notes, multi-family, mobile home parks, commercial buildings, to name a few but for many, including myself, single family homes are where it’s at. Even if the numbers don’t work out in your particular neighborhood or city, it’s easier than you think to buy real estate in other markets or even other states.
Single family homes aren’t as easy to invest in as buying stocks, but the long term gains are worth it. It’s all about the cash flow and making your money work for you. Think you can’t afford to get started? Less than $15,000 can get you 20% down (to avoid PMI) in some rent favorable areas of the country. Save and snowball your earnings to accumulate more properties and eventually you can look at early (or certainly more secure) retirement. Single family homes command higher rents than apartments and appreciate faster than apartments or condos. The utilities are typically up to the renters so the only monthly commitment from you is the mortgage, which should include the property tax already.
Paying a property management company 8-10% can be worth it’s weight in gold -certainly if your investment property is long distance. From finding quality tenants, collecting rent, and responding to their needs a good property management company should handle almost everything for you, including giving you access to an online portal you can use to virtually manage your property and collect rents. Having multiple rental properties doesn’t have to require a large time investment on your part and can easily be done while you continue to work full time.
The new tax bill allows for a 20% deduction for pass through businesses like rental properties. You may also be able to deduct certain expenses including mortgage interest, property tax, operating expenses, depreciation, and repairs. You can deduct the ordinary expenses for managing, conserving and maintaining your rental property.
Property appreciation and the equity you build with single family homes are just additional, albeit very important benefits to this type of investment. The trick is to just get started. Themoneybeat will feature a thorough getting started guide for investing in rental real estate later this year.
If you want to have more wealth and future security, you have to do what the wealthy do. Property ownership should be one part of your plan and is well worth the effort.
The difference between people who retire happy with investments / money in the bank and people who end up poor and relying on social security, is understanding the basics of personal finance. It’s infuriating that most parents and schools don’t teach our youth about managing the one tool that controls so many aspects of our lives, our happiness and our ability to one day be free from the 40 hour work week: money.
Understanding and truly practicing the following five common cents basics will allow you to have a happier and less stressful future.
Spend Less Than You Earn
This is the obvious one, yet clearly most people don’t put it into practice. In fact, the average credit card debt in the US last year was $15,654, with many households paying hundred of dollars per month in interest fees alone. If your money isn’t working for you, it’s working against you. Until you learn to spend less than you make you will never reach your financial goals. No matter how little you earn, you must prioritize what’s most important to you. You will be surprised how little you miss the things you cut out of your life to get your financial house in order.
Track Those Dollars
Track every dollar that comes in, and every dollar that goes out. A budget is a great place to start, but sticking to the budget and keeping your will power to stay focused on the future is key. There are many tools available online and apps you can use to track every purchase. Mint, Level Money, PocketGuard, Mvelopes, and You Need a Budget are just a few. There’s no excuse these days to not track your spending. You will be very surprised to find where your hard earned money is leaving your account for unimportant things. Stop the money leaks across all your accounts -especially monthly charges to your credit card for unimportant services. For a bigger picture of your finances, the free service from https://www.talkable.com/x/oD847I is a very useful financial tool.
A new house, a new car, saving for a vacation, all great reasons to save, but your first goals should be paying down credit cards, and having five months of an emergency fund saved away. Doing these two things will put you light years ahead of your neighbors and more importantly allow you to sleep better at night knowing your money isn’t working against you, and you are protected in case of medical emergency or job loss.
Saving money is easier if you never see it in the first place. Set up a certain percentage of your income to be directly moved to a savings account and ignore it. Once you have at least a five month emergency fund, consider taking the extra and investing it. The power of time is on your side to help your money grow. Here’s a basic example: Invest $1,000 in a fund that averages 5% return. By contributing just $150 per month to this fund for 20 years and you will end up with $63,772. That’s the power of interest and time. See why the credit companies love for you to have a large balance?
Get Out of and Stay Out of Debt
If you’re like most americans with massive credit card debt, this is going to take stamina and strategy. First step: stop all spending on your cards, and make a plan to pay down your highest interest cards first, then second, etc. Again, there are many tools and calculators freely available to us to use. I used and recommend this one, it’s free and gives you options such as highest interested first, and Snowball: https://www.vertex42.com/Calculators/debt-reduction-calculator.html
Once you have completely paid off a credit card balance, do not celebrate by closing the account. One factor of your credit score is the age of your credit cards, so always keep the very first credit card account you had opened, and without a balance that carrys over from month to month. Very important.
All of the information and tools in the world will not help you and your situation; only Action and self discipline will get you closer to your financial goals.