Bring Your Tax Questions

[Brandon Hall]

Hey Folks,

April 15th is right around the corner and I constantly see the same tax questions pop up in the forums. Hopefully this thread can help serve as a running list of real estate tax questions and answers. Ideally, multiple tax pros will be providing support and answers and the question askers will read the thread in total before asking their specific question. 

While the advice is meant to be helpful, the usual disclosures are in place. Specifically, any and all advice received in this thread should not be taken as tax or legal advice. I cannot provide advice that can be relied upon without having all details relating to your unique tax situation. Do not use any advice received in this thread as a basis to support your tax position. 

Looking forward to questions!

[Brandon Hall]

@Kathryn M. It would be difficult to simply "re-route" the interest, however you have a few options here. This is routinely called "income shifting" and takes some creativity but is perfectly legal.

First you need to determine whether or not you are in the business of making loans. If you are not in the business of making loans, then you report interest income on form 1040 or Schedule B if interest received is less than $1,500 or more than $1,500 respectively. 

If you are in the business of lending money (you've done this before and you undertake these loans with the intent to profit) then interest received on loans is business income and reported on Schedule C.

In either case, a great way to shift income is to employ your children in some capacity and work it out so that the (reasonable) compensation they receive for their services equates roughly to the interest income you are receiving. While you will still receive and report the interest income, you can off-set it with the deduction for the expenses of your children's compensation. 

You can also set the note up and then gift your children "fractional interest" of the note. In this case, you have done the prep work so you know everything is set up the way you want it to be. You children then receive the interest and are liable for reporting the interest on their taxes. Of course the downside here is that you are giving away your money - something to think about. 

You can consider gifting them money prior to financing the note and instruct them on how to set everything up. Major downside here is that they may structure the note incorrectly or simply take your money and "run."

For gifting purposes, you are entitled to an annual gift exclusion of $14,000 ($28,000 if married) per child without having to file a gift tax return. So if you are going to extend an $84k loan and you have three children, you can set the loan up and gift each of them a third interest in the note without having to file a gift return. If you only have one child, you can still gift the full $84k, you just have to file a gift tax return. The difference between the value of the gift and your annual exclusion of $56k ($84-28k) is still not taxed (a common misconception) but rather decreases your annual gift exclusion of $5.43MM. 

If you have a child under 18 you will need to watch out for the "kddie tax" on investment income if you decide to go the gifting route.  

Your best bet will likely be to employ your children in some capacity and ensure they perform some level of work. You get the benefit of the services and they get to pocket some extra income. 

Regardless of the method, if you are claiming any of them as a dependent you will need to be careful in how much income shifting you do. If you shift enough income to where you are no longer providing over half of the child's support, you will lose the ability to claim them as a deduction. 

I hope this helps. Let me know if you have additional questions.