Simple Taxation Questions

[Jack Lee]

Lately, because of the large amount of confusing and low quality information I have read online and my inability to access my book collections, I am confused about taxes.

I have the following questions:

1. Are there any significant differences between a LLC taxed as a proprietor vs a LLC taxed as a S-corp? Both are flow through but I have heard a lot of conflicting information about which is better for real estate.

2. Taxation rates? So let us assume that we maximized our deductions and still end up with an annual net rental income of $1000. Do we pay a self employment tax on this? No right? We pay federal and state at the personal bracket level?

3. In addition, would a growing portfolio of rentals trigger the wrath of the Alternative Minimum Tax?

Thanks

[Steven Hamilton II]

Jack Lee,

Welcome to the board. First let me suggest that you use the search function here and you will find a wealth of information. We love your questions; however, many are repeated regularly.

To answer your questions This only pertains to rental income.

. Are there any significant differences between a LLC taxed as a proprietor vs a LLC taxed as a S-corp? Both are flow through but I have heard a lot of conflicting information about which is better for real estate.

First we need to know what you plan to do as an investor. Are you going to continue to have rental property only or engage in flipping activities? If you plan to only engage as a landlord I recommend keeping the LLC taxed as a disregarded entity. This means that you will not have to file an extra tax return. You also could find that you lose some benefits by this scenario. Simple put: Disregarded LLC is best; however, if you are operating with a partner either a C-Corp or partnership are usually best.

This is only pertaining to rental income. Other income can be a significant factor.

And LLC taxed as a _______.
Disregarded entity: Reports on Form Schedule E attached to the personal 1040 pays no self employment tax. Default if there is only one LLC Member.

[b]Partnership:[\b] Reports on Form 1065 which issues a k-1 to each partner who must report on their personal 1040. The general partner may be subject to Self-Employment Tax on their earnings. Increased costs in accounting and reporting. Default if there is more than one LLC Member.

S-corporation: Reports on Form 1120S which issues a K-1 to each shareholder to report on their personal 1040. A "reasonable salary" must be paid. Social Security and medicare will be incurred upon any salary issued. Increased costs in accounting and reporting.

[b]C-Corporation:[\b] Reports on Form 1120. No reporting is done on the personal 1040. Good for high income individuals in the 28% tax bracket and higher. Increased accounting costs and reporting costs. No salary must be paid. Taxed at 15% on first $50,000 of income. Good for long-term investing in which funds will be reinvested.

2. Taxation rates? So let us assume that we maximized our deductions and still end up with an annual net rental income of $1000. Do we pay a self employment tax on this? No right? We pay federal and state at the personal bracket level?

And LLC taxed as a _______.

Disregarded entity(Single-Member LLC) you will only pay ordinary income tax rates on your rental income. No self emloymeny tax will be paid on rental income.

[b]Partnership:[\b] You will pay at the Ordinary Income tax rates on income passed to your 1040. The general partner may be subject to Self-Employment Tax.

LLC taxed as an S-Corp you will pay ordinary tax; however, once you have an established income the IRS likes to see that individuals are paying the operators a "reasonable salary" for the work being done. That means there will be Self-employment Tax.

[b]C-Corp[\b] you will not have to worry about paying Self-Employmet Tax except for any salary that the corporation decides to pay. There are no salary requirements and if you plan to keep the income in the corporation for a very long time you will not be subject to any double taxation.

3. In addition, would a growing portfolio of rentals trigger the wrath of the Alternative Minimum Tax?

Depending upon the income(positive or negative) of the rentals AMT(Alternative Minimum Tax) may or may not be a factor. A portfolio of rentals in which a loss is shown can be a significant help whereas a portfolio in which there is a large income can be a detriment. There is more cause when the deductions on Form 1040 Schedule A are higher than average.

-Steven the Tax Guy

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