All Forum Posts by: Eric Williams

Quote from @Michael Plaks:

Quote from @Courtney Nguyen:

Quote from @Account Closed:

Recording insurance proceeds and expenses for property repairs or improvements can vary depending on your specific financial and accounting situation. Generally, insurance proceeds for property damage are not considered taxable income. However, you should consult with a tax professional or accountant for advice tailored to your specific circumstances. Here's a general guideline on how you might handle these transactions:

Scenario 1: Insurance Pays $20,000, Roofer Charges $25,000

1. Insurance Proceeds: The $20,000 you receive from the insurance company is not considered taxable income. Therefore, you do not need to report it as income.
2. Roofer Charges: The $25,000 you pay the roofer should be recorded as an expense. This expense can be categorized as a capital improvement or a repair, depending on your accounting and tax strategy.
   • Capital Improvement: If the new roof substantially increases the value of the property or extends its useful life, you can capitalize it and depreciate the cost over time. Consult with your accountant to determine if this is the best approach.
   • Repair: If it's considered a necessary repair to maintain the property but doesn't significantly improve its value, you can expense it in the year you paid for it.

Scenario 2: Insurance Pays $20,000, Roofer Charges $19,000

1. Insurance Proceeds: Again, the $20,000 from the insurance company is not taxable income.
2. Roofer Charges: In this case, you can record the $19,000 paid to the roofer as an expense. This should be treated as a repair expense for the property.

In both scenarios, you should maintain detailed records of the insurance claim, including receipts, invoices, and any correspondence with the insurance company. This documentation will be valuable for tax purposes and in case you need to justify your expenses to the IRS.

It's worth noting that tax laws and regulations can change, and your specific circumstances may vary. Therefore, it's always a good idea to consult with a tax professional or accountant who can provide personalized guidance based on your financial situation and the tax laws applicable in your jurisdiction.

 Thank you so much for the quick and detailed response!  I really appreciate it.

In addition to what Kislay said, two more transactions are part of the deal:

1. You have a $5,000 casualty loss
2. You must reduce the basis of your property by $25,000

 This is my take but tell me what I'm missing.

States: The first question you ask is do I have nexus.

If so then do I have a filing obligation. I may have a filing obligation even where there is no income tax due.

Each state is given pretty broad authority in establishing their jurisdiction (nexus is just the right/jurisdiction to deprive one of property essentially).

So Ohio I know is complex because I had to prepare a couple.

Basically for state income tax nexus is determined by situs of real property. 

Who Must File | Department of Taxation (ohio.gov)

Since you have Ohio sourced income you have a filing requirement.

Then I look for the exception to the general rule, which I looked briefly and couldn't find but the preparer may spend more time to check.

So I think you have an OH 1040.

I don't think you have a school district tax.

I don't think you have a CAT tax.

You may have a municipal tax.

I don't think you have a Wyoming filing requirement because to do so would create double-taxation.

You're already being taxed on the income in Ohio by Ohio. Why would the same dollar of income get allocated to Ohio and Wyoming?

How does Wyoming establish nexus when the property is located in Ohio?

If Ohio taxes the income, then income flows to Wyoming and gets taxed, then flows to CA and gets taxed, that's like triple taxation plus Federal.

It's a basic tenant of the Federal income tax system each dollar is only taxed once. The principles applies at the state level in various forms such as apportionment and allocation.

In this case, I can directly allocate the income to Ohio.

Taxes paid to Ohio become a credit in CA I'm guessing to avoid double-taxation. The states piggyback of Federal often times so if two states are starting from AGI, they both include rental income. So I need a credit from the one paid to the other state to ensure it's only taxed once.

Correct me if wrong.

Quote from @Matt W.:

Hi BP, 

I wanted to post to make sure I'm understanding the depreciation recapture process using an overly simplified example.  I'm leaving out deductions for closing costs, maintenance, repairs etc.

Say I buy a house for $300k, land value is $100k. I know you deduct the standard 1/27.5th of the improvement value, $200k.  After 5 years I sell the house for $400k.

So $200k x 3.636% x 5 years = $36,360 deducted. So when I sell the profit is actually $100k plus $36,360, correct? 

Also, does it really matter if I am "adding to the profit" side of the equation or "deducting from the basis" side? Seems like it's just 6 of one, half dozen of the other.

Thanks.

 Another CPA can correct me if wrong but I don't think there's going to be any recapture here.

27.5 to me implies 1250 property and if acquired after 75' means no additional depreciation to recapture.

I think there would be unrecaptured 1250 in the amount of the depreciation taken previously, max 25% at ordinary rates.

The total gain less unrecaptured 1250 I believe would be 1231 capital gains, not considering other factors like look back and netting rules.

Also the land would be 1231 and would get capital gains treatment.

And personally I would subtract selling costs as a capitalized selling cost.

Amount Realized

Less: Adjusted Basis

Realized Gain/Loss

Less: Selling Expenses

Recognized Gain 1001

I could be wrong though so correct me if so.

Article for those interested:

Depreciation recapture in the partnership context (thetaxadviser.com)

While Sec. 1250 only requires additional depreciation to be recaptured as ordinary income, Sec. 1(h)(1)(E) subjects unrecaptured Sec. 1250 gain to a maximum tax rate of 25%. Unrecaptured Sec. 1250 gain is the long-term capital gain that would be treated as ordinary income under Sec. 1250 if all depreciation was treated as additional depreciation (Sec. 1(h)(6)(A)(i))

Quote from @Sean Li:

Hello, anyone here can recommend a firm who can help set up Dependent Care Assistance Program for self-employed so that we can deduct the childcare expenses? Thanks.

 May not work if you are full owners. 

(4)Principal shareholders or owners

Not more than 25 percent of the amounts paid or incurred by the employer for dependent care assistance during the year may be provided for the class of individuals who are shareholders or owners (or their spouses or dependents), each of whom (on any day of the year) owns more than 5 percent of the stock or of the capital or profits interest in the employer.

Quote from @Michael Plaks:

Quote from @Kevin Parekh:

I would really like to hear your thoughts and opinions.

You don't want our thoughts and opinions. We all have opinions, and none of us are qualified to share them because asset protection is a legal issue, and we are not attorneys.

Same as asking for our thoughts and opinions on Covid or foreign policy or history. There's no shortage of opinions. There's a severe shortage of actual knowledge though.

What you already found talking to qualified people, aka attorneys, is that there is zero consensus on asset protection between them, either. If you get one lawyer's opinion and then get a second opinion, it will contradict the first one. And the opinion of a third lawyer will contradict both the first and the second one.

Solution: find ONE lawyer who you like and trust (trusting an attorney is a stretch, I know) - and subscribe to that attorney's religion on asset protection. Do what that attorney says and don't listen to other attorneys.

And certainly do NOT listen to all of us here on public forums playing attorneys online.

 I second this. Asset partitioning and legal structures are pretty intense. When I was at Exxon they had a gang of attorneys who would do organizational structures and entity selection all day.

The tax accountants generally took a passenger seat and assistance role.

Make sure you have a clear understanding of what your active role in maintaining any liability shields are.

Quote from @Haickel Padron:

I have an HSA thru my job. If i transfer money from that HSA to my bank account is considered cashing out? What kind of 1099 they will issue? I want to invest it in my own bank with interest but how can I show to the IRS i’m not using the money and it will be invested.

Should I not transferred to my account and invest it in the options my HSA account have? Even tho they are less earning interest investment ? 

 So I'm going to provide an alternative conclusion than Kislay, and I may be wrong so please correct me if so.

A transfer from the HSA account to your bank account may be considered a distribution from an HSA.

You would know for sure if you got a 1099-SA.

To the extent not used for qualified medical, it could be taxable.

Honestly most CPAs just set the distribution equal to medical on the 8889.

Sec 223

(f)Tax treatment of distributions(1)Amounts used for qualified medical expenses

Any amount paid or distributed out of a health savings account which is used exclusively to pay qualified medical expenses of any account beneficiary shall not be includible in gross income.

(2)Inclusion of amounts not used for qualified medical expenses

Any amount paid or distributed out of a health savings account which is not used exclusively to pay the qualified medical expenses of the account beneficiary shall be included in the gross income of such beneficiary.

Quote from @Michael Plaks:

@Ashana Singhania

You should never own rental properties, long-term or short-term, in an S-corp.

Depending on the timing of your S-corp election, you have ways to undo it.

 Yeah I agree here for a number of reasons but I'll just provide a link that may help you get started in right direction.

Revoking a Subchapter S Election | Internal Revenue Service (irs.gov)

From what I've read the IRS is pretty understanding when it comes to S Corporation mishaps.

Quote from @Account Closed:

Quote from @Eric Williams:

Rev. Proc. 2002-69

I found this guidance and thought I would provide a summary:

It was issued to remove uncertainty surrounding treatment of an entity owned solely by a husband and wife in a community property state.

Essentially, if that entity is a "qualified business entity", and the husband and wife choose to treat it as a disregarded entity, the IRS will respect that classification.

On the flipside, if they choose to treat it as a partnership for Federal tax purposes, and file a partnership return, the IRS will accept that the entity is a partnership for Federal tax purposes.

A business entity is a qualified entity if:

1) The business is wholly owned by a husband and wife as community property under relevant laws,

2) No person other than one or both spouses would be considered an owner for Federal tax purposes,

3) The entity is note treated as a corporation under Reg. 301.7701-2

That's a good coverage of it. I think for a lot of the audience, they aren't sure how or if that affects them.

If you could provide brief (Okay, I know, it's tax law, so nothing is brief) differences on the impact of a couple who earn $200,000 a year W2 and have one rental, that would help a whole lot of people understand why they should talk to you about their situation. Keep in mind, this is a TLDR (Too Long, Didn't Read) community just like any other.

I do Subject To investing and to help people understand what that means, I put together a Spreadsheet on one of my transactions that I provide as a download. It seems to answer a lot of questions for people. Maybe you could do something similar.

Like: John & Mary have a Single Member LLC, in AZ which is a community property state (definition here or list of states). They are W2 making $200,000 a year with an effective tax rate of ?? %. They used their SDIRA to buy a property using Subject To, saving $000 in expenses and now own a rental that is valued at $500,000 with a depreciation of $000 (and that saves them $000 per year in taxes). The LLC has rents of $000 and expenses of $000. Here is why they chose ( tax choices here), saved $000 and I can help you do the same. Talk to Mike for the Subject To education part, talk to me about Saving Big Taxes.

This is the season for tax preparation, because when the first of the year rolls around, I'll be so busy doing other's taxes, I won't be able to help you save $000 taxes until next year. So, let's check it out together, Now, while I can save you money.

Now, if only I had a clue about taxes. :-)

That's a good point. I failed to make this relevant to the reader. Thanks for that feedback. I'll try to do so next.

So I think the way this knowledge applies is that it could actually reduce the amount of effort and costs related to an operation for a married couple, fully owning say an LLC, in a community property state.

If I do in fact have a partnership for Federal tax purposes, and a filing requirement, I might have several additional items to consider:

1) Cost of filing a 1065 partnership tax return, time and money
2) Cost of any bookkeeping, book to tax adjustments, or any other efforts required to allocate amounts to respective partners on a GAAP or tax (depending on operation's accounting method)
3) Cost of any state filing requirements. For example, if you have an LLC in Texas, you may have a Texas Franchise Tax Return, even if there is no tax due; more time and money
4) Additional efforts required at the individual level given the K-1, Sch E, 8582, and any other additional forms that may be required; more time and money

So if I can avoid all those costs, every year, then naturally I think it safe to assume I'll have more money and time to invest in the operations.

For example, one firm I know of charged 2,100 minimum for a partnership, and 750 minimum for any state filings (Tx Franchise Tax).

Other CPAs here may chime in with what I may have forgot or where I may be wrong.

Sometimes as a CPA you have to ask, "Do I really want to file that?" or "Do I really have to file that?".

If I can avoid it legitimately I might be able to save the client money, myself time, and get the return back faster.

Rev. Proc. 2002-69

I found this guidance and thought I would provide a summary:

It was issued to remove uncertainty surrounding treatment of an entity owned solely by a husband and wife in a community property state.

Essentially, if that entity is a "qualified business entity", and the husband and wife choose to treat it as a disregarded entity, the IRS will respect that classification.

On the flipside, if they choose to treat it as a partnership for Federal tax purposes, and file a partnership return, the IRS will accept that the entity is a partnership for Federal tax purposes.

A business entity is a qualified entity if:

1) The business is wholly owned by a husband and wife as community property under relevant laws,

2) No person other than one or both spouses would be considered an owner for Federal tax purposes,

3) The entity is note treated as a corporation under Reg. 301.7701-2

Quote from @Account Closed:

The situation you described, where you are granted a 10% equity interest in a partnership as compensation for your services without contributing any cash, does have tax implications, and it's a complex area that often involves several tax rules and regulations. Here are some considerations:

1. Taxability of Sweat Equity:
   • The 10% equity grant can be considered a form of compensation for services, often referred to as "sweat equity." This can potentially be treated as ordinary income. The IRS typically considers the fair market value of the equity at the time of the grant as taxable income to the recipient.
   • In your example, if the 10% equity represents a value of $250,000, this amount might be subject to income tax in the year the grant is made.
2. Partnership Tax Return Implications:
   • When the partnership grants you the equity, it might not itself have to pay tax on the grant. However, partnerships are typically flow-through entities, which means the partnership's income, deductions, and credits pass through to the individual partners.
   • The partnership will allocate its income, deductions, and credits among the partners, including your 10% equity interest, which could affect your share of the partnership's taxable income.
3. Implications for Other Investors:
   • When you receive the 10% equity grant, the other investors' ownership percentages will be diluted. The dilution doesn't typically result in an immediate tax deduction for the other investors.
   • The dilution might affect the potential future profitability of their investments, but it doesn't directly create a tax-deductible expense for them.

To navigate this situation correctly and comply with tax laws, it's strongly recommended that you consult with a qualified tax professional or CPA who is experienced with partnership structures and taxation. They can help you structure the arrangement properly, report the compensation correctly on your tax return, and ensure that the partnership's tax returns are accurately filed.

Keep in mind that the tax implications can vary depending on the specific terms and conditions of the equity grant, the structure of the partnership, and other factors. Tax law is complex and can change, so it's essential to seek professional guidance to avoid potential tax issues and penalties.

That's a good point and I missed something.

Generally one man's income is another man's deduction.

You will be taxed on compensation income equal to the value of the property received. This compensation being taxed actually creates basis in the partnership to avoid double-taxation. I would probably capitalize it at 250k but if you really wanted to get it valued I supposed you could (it might increase the basis which has several benefits).

In my opinion the amounts paid to you would be capitalized by the partnership.

If you wanted to get real technical the partnership could split the amounts paid (250k) between investigatory and transaction, capitalize to start-up under 195 and amortize and capitalize the rest to the building and depreciate.

Honestly I would just capitalize it to the building, as the amounts would be allocated across depreciable property and passed through to you.

Honestly for 250k I could justify talking to an attorney or someone who specializes in this stuff for alternative structures, like a big CPA firm. I'm wondering what convertible features or options might due for example but not my expertise (or contingency or vesting schedules).

(d) Compensation paid other than in cash—(1) In general. Except as otherwise provided in paragraph (d)(6)(i) of this section (relating to certain property transferred after June 30, 1969), if services are paid for in property, the fair market value of the property taken in payment must be included in income as compensation. If services are paid for in exchange for other services, the fair market value of such other services taken in payment must be included in income as compensation

(iii) Special rule for acquisitions of real property—(A) In general. Except as provided in paragraph (f)(2)(ii) of this section (relating to inherently facilitative amounts), an amount paid by the taxpayer in the process of investigating or otherwise pursuing the acquisition of real property does not facilitate the acquisition if it relates to activities performed in the process of determining whether to acquire real property and which real property to acquire.

B) Acquisitions of real and personal property in a single transaction. An amount paid by the taxpayer in the process of investigating or otherwise pursuing the acquisition of personal property facilitates the acquisition of such personal property, even if such property is acquired in a single transaction that also includes the acquisition of real property subject to the special rule set out in paragraph (f)(2)(iii)(A) of this section. A taxpayer may use a reasonable allocation method to determine which costs facilitate the acquisition of personal property and which costs relate to the acquisition of real property and are subject to the special rule of paragraph (f)(2)(iii)(A) of this section.

Quote from @Russell Brazil:

Quote from @Eric Williams:

Quote from @Michael Plaks:

@Deborah R.

Yes, it increases your audit risk. Especially due to your husband qualifying for REP status. The IRS actually has a targeted audit program against REP status. 

So what? If you actually qualify for the REP status and have good records, you don't have much to worry about. Yes, you can get audited. You can also get audited even if you don't employ these strategies. 

@Scott E. - I'm pretty sure you misunderstand how your CPA's audit insurance works. He cannot "assume all liability" from an audit. That would mean paying your taxes and interest+penalties for you. He won't do it. What audit insurance normally does is protects you from paying him additional money for defending you in case of an audit. But not from an adverse result of an audit, should it happen. Just like the best lawyers can lose a case, we can lose an audit. In this situation, you still have to pay the IRS additional taxes, interest and penalties.

@Michael Plaks

 Where did you hear about this targeted program?

I'm not denying it I would just like to read up on it. I Googled all over but could only find audit campaigns for LB&I (Large Business and International).

 He literally hyperlinked to the IRS notice on the computer scoring of returns selected to audit.

Right but I didn't see any details of that specific campaign in there.

I guess I was trying to figure out if there were specific transactions they look at that would be reported.

Often times you can anticipate by reviewing an IRM which is an audit playbook but I didn't see any for REP.

Maybe an example would be what transactions has the IRS gone after in determining inflated COGS in LB&I campaigns.


LB&I Active Campaigns | Internal Revenue Service (irs.gov)