Partnership, S-Corp or C-Corp LLC? for passive cash flow?

Question

Hi Guys

My dad and I are 50/50 Managing Members of an LLC (filed as "Partnership"). He is 62 and I'm 42.  A couple of years ago we just paid-off our bank loan, reduced our operating expenses to a bare minimum and are reaping very healthy pre-tax monthly cash-flow in which we live off.

Now the IRS issue...more taxes to pay Uncle Sam. In 2014, both my dad and I split $60k each (50/50 membership). He only paid $4,500 in taxes. I am held out for way more because I'm single. I also flipped two homes. All of this nice money I just put in the bank I now get to give half of it back to IRS! What the heck!! I take some risks and I figure I get rewarded and not penalized!

My head has been in a scramle to figure out how we (or at least me) can get the most tax deductions. Does anyone know if re-configuring our LLC from a Partnership LLC to either a C corp or S corp would be more beneficial? My CPA told me an that I would not benefit from opening an IRA in order to max out and shelter some money because I'm a passive income earner and not an "Earned" income earner.  Is anyone else in the same boat or was in the same boat and figure out the best way to go about this in order to shelter most of these gains -especially for a single person?

Thank you!

Brandon Hall · Answer

@John Canchola LLC all the way for rentals.

A C-Corp rarely, rarely ever makes sense. An S-Corp will make estate planning a huge pain as you lose many benefits an LLC has over gifting owned property and subsequently exposing your estate to huge tax implications.

When in doubt, keep it simple. LLC.

MJ S. · Answer

Late to the game in answering, but I wanted to second Kenneth's response above with an additional tidbit. You can keep your current entity, but elect to have it taxed as an S Corp by filing IRS form 2553. It's easiest to do within the first 90 days, but even though that time frame has already passed, it can still be done.

An LLC taxed as an S Corp is a great option for flippers, as you avoid the self-employment tax, and receive the tax benefits of an S Corp, but you don't have to do the extra tasks required with a corporation (meetings, minutes, etc depending on your state) In your case, you also avoid the inconvenience of dissolving one entity and setting up a new one.

You will have to pay yourself (and your Dad) a small salary, but the savings on distributions are well worth it.

There may be a delay in making the change so check with your tax accountant if it will qualify this year, or if it won't apply till next year.

One final note, LLCs taxed as S Corps are great for flippers due to the tax savings on distributions. However, if you are strictly buy and hold, an LLC without the S Corp election is best. If you do both, I would recommend using separate entities for flipping vs holding. Elect for S Corp taxation on the flipping entity, but not on the buy and hold LLC.

Kenneth LaVoie · Answer

Not an accountant but the bottom line facts as I know them...

1. USUALLY RE is "passive" vs. "earned" income. There are some exceptions. (Read this article here:

http://www.forbes.com/sites/anthonynitti/2013/11/2...)

Flipping can be considered earned, as you have indicated you're aware of.

2. Hence if you have enough "earned" you can setup S corp which allows you to take a small salary, which would be subject to SS/Fica but the REST of the earnings would just "flow through" as partnership income and only be subject to income tax.

3. Some ways I know of to reduce taxes on plain ol' cash flow are:

a.) depreciate appliances over 5 years vs. 27.5 years (I think they call this "asset allocation" or something similar)

b.) really go over your capex list to see if there is anything you can move to "repairs" -- repairs are a write off in current year, while capex has to be depreciated over 27.5 years.

Linda Weygant · Answer

The flipping income should be Earned Income, in which case an S-Corp may help you to lower the Self Employment portion of your taxes.  However, for any income that is deemed Passive Income, such as rental income or interest income through note investing or whatever, that remains passive and an S-Corp won't help you out much.

If your CPA is real estate savvy, ask him or her to do a full check up on all your income sources to see if there are some tax savings for you that they didn't see the first time around because maybe they were in the middle of tax season and too stressed out to do tax planning for you.

If your CPA is not real estate savvy, spend some time with one who is.

Dmitriy Fomichenko · Answer

@John Canchola

you mentioned that you did couple flips, that is active, earned income. Consider setting up Solo 401k which would enable you to shelter good chunk of your income (up to $53K) into qualified plan.

John Canchola · Answer

Thank you Dmitriy, Linda, and Mark for the responses.

I do understand my flipping activity allows me for earned income filing in order to be able to do an IRA., But the question remains on passive income members best filing fit - Partnership, S Corp or C corp?

Mark Nolan · Answer

@John Canchola

Because the earned income was generated in 2014, it is too late to put it into a solo 401k plan as the plan had to bet setup by 12/31.

Partnership, S-Corp or C-Corp LLC? for passive cash flow?

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