Running into tax issue stemming from budding partnership

[Daniel Judge]

I was recently approached by a fellow investor who is looking to partner on a deal where he puts in all the money and I earn equity and cash flow by putting in sweat equity (running the property as a short term rental). Essentially, he is putting all money in to purchase an already cash flowing STR and, in exchange for me operating as the property manager, he is willing to cede 10% equity in the property (vested in four stages over the course of 2 years) and a percentage of gross income on the property (he's also planning to build a smaller geodome on the land, which I anticipate will juice revenue a decent amount).

The problem I'm running into is that when discussing the operating agreement with my CPA, he informed me that I'd be taxed on the equity as it is invested (he estimated at a tax rate of 30%). The anticipated tax hit largely offsets the cash flow I'd expect to get during those first couple years, so it's making what originally sounded like a great deal into something I'm feeling a bit more neutral/ambivalent about. 

I'm guessing others having encountered a similar situation when dealing with money/sweat equity partnerships and I'm wondering how you might have structured things in order to protect against taxes erasing the benefit of the cash flow (at least at the front end of the deal)? Thanks in advance for any insights!

[Michael Plaks]

@Daniel Judge

You may be overlooking the basic concept here. You're going to provide management services. Services are compensated for, unless you are a volunteer. Compensation for services is taxable when received.

If you receive compensation in the form of equity instead of cash - it is still compensation. Same as if you got paid cash and then turned around and bought equity with this cash.

The way to avoid taxes on compensation is to not receive the compensation in the first place - i.e. not receive equity. 

@Ashish Acharya was mentioning a very complex (and expensive to set up) approach to delaying your compensation, referred to as special allocations. Your CPA will know what it is.

But before trying anything along these lines, the fundamental question is: are you willing to defer being compensated (and thus risk being NOT compensated) merely to defer taxes on this compensation. Personally, I would not.