All Forum Posts by: Eric Williams

Quote from @Michael Plaks:

@Japnik Singh

1. Depends on the timing. If you quit in January - probably yes. If you quit in September - probably no.

2. Very complex question, not for an online forum. Also, AirBnB has nothing to do with REP status: https://www.biggerpockets.com/forums/51/topics/1122635-the-s...

3. Dividends and W2 are taxed the same in most cases. 

4. Not unless you bought it completely ready and made it available immediately. Or bought it with a tenant.

Trying to learn these very complex issues by asking online is not going to work, sorry.

 I'm going to respectfully disagree.

Most dividends you see in a brokerage account are going to be of the type deemed qualified dividends and thus eligible for capital gains rates.

Basically, assuming you are referring to active losses as equivalent to nonpassive losses, it would be considered an ordinary type like wages.

Also for purposes of 469 dividends are a special category outside passive income called portfolio.

1(h)11

(11) Dividends taxed as net capital gain (A) In general For purposes of this subsection, the term “net capital gain” means net capital gain (determined without regard to this paragraph) increased by qualified dividend income.

Quote from @Deborah R.:

For 2022, my husband met Real Estate Professional status.  I am a high income W2 earner.  We filed an extension for 2022 taxes and are just finalizing them now.  

Our CPA says that if I cost segregate and bonus depreciate two assets we bought, that it increases my audit risk since I have a higher W2.  

Is that true?  I don't want to be audited.  But, I also think that we're doing everything according to the law.  He mets REPS, and we are allowed to bonus depreciate.  So, why not do it?  

Any thoughts/experience?  

Thanks in advance!  Debby 

 You will not convince me that bonus depreciation by itself increases audit risk.

Why? Because bonus depreciation is the required, default treatment for qualified property defined in 168(k).

You literally have to elect out of bonus depreciation via the 4562.

However, other additional factors may work to increase audit risk.

From the instruction of 4562:

"If you timely filed your return without making an election, you can still make the election by filing an amended return within 6 months of the due date of the return (excluding extensions). Enter “Filed pursuant to section 301.9100-2” on the amended return"

This is basically saying that without an election out of bonus depreciation, bonus depreciation is the default.

This is further evidence in the regs of 168:

(f) Elections under section 168(k)—(1) Election not to deduct additional first year depreciation—(i) In general. A taxpayer may make an election not to deduct the additional first year depreciation for any class of property that is qualified property placed in service during the taxable year.

(iv) Failure to make election. If a taxpayer does not make the election specified in paragraph (f)(1)(i) of this section within the time and in the manner prescribed in paragraph (f)(1)(iii) of this section, the amount of for that property under section 167 or 168, as applicable, must be determined for the placed-in-service year and for all subsequent taxable years by taking into account the additional first year depreciation deduction.

Quote from @Matyas Sustik:

I hoped some experinced members could point me to the right resources on the following situation.

Assume you syndicate a deal and as part compensation for putting the deal deal together, for finding the right property etc. you are granted a 10% equity interest in the partnership that is formed for the venture. Again, you do not put cash in like the passive investors. For example, assume that 50 passive investors contribute 50k each and using these funds the partnership purchases an apartment complex. But the passive investors only gain 90%/50 = 1.8% ownership each, while you gain 10% ownership without outlaying any cash.

Is this considered to be a taxable event? I heard arguments that this is something called sweat equity and that the IRS will tax it as ordinary income. Basically, the 10% grant represents a 250k value of the total 2.5M of the partnership assets. I also know that when a company grants stock to employees (say on a vesting schedule) then income tax is deducted when the stock is vested. The value of the stock at vesting is considered ordinary income.

So the questions:

1. Is there a large tax bill due for this grant in the year of forming the partnership?

2. What are the implications for the partnership tax return? Does the partnership itself have to pay some tax (like when it pays wages to someone, there could be social security taxes etc.)

3. The other investors get diluted on day one and essentially pay for the 10% ownership given away. Now, is that an expense for these partners that they can deduct and get some tax benefits?

Thanks for anyone reading this and considering helping me out.

I want to hear if other CPAs are aware of an exception but my initial conclusion would be this is a taxable transaction since 721 allows for nontaxable exchanges for property.

There is a difference in treatment of receipts of a profits interest and a capital interest.

(a)General rule

No gain or loss shall be recognized to a partnership or to any of its partners in the case of a contribution of property to the partnership in exchange for an interest in the partnership.

Profits interests and capital interests are defined in Rev Proc 97-23.

"Rev. Proc. 93-27 provides that (except as otherwise provided in section 4.02 of the revenue procedure), if a person receives a profits interest for the provision of services to or for the benefit of a partnership in a partner capacity or in anticipation of being a partner, the Internal Revenue Service will not treat the receipt of the interest as a taxable event for the partner or the partnership."

"section 2.02 of Rev. Proc. 93-27 defines a profits interest as a partnership interest other than a capital interest. Section 2.01 of Rev. Proc. 93-27 defines a capital interest as an interest that would give the holder a share of the proceeds if the partnerships assets were sold at fair market value and  then the proceeds were distributed in a complete liquidation of the partnership"

There may be ways to restructure for more favorable consequences but you would have talk to someone closer to the matter and with that particular skillset.

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).

Quote from @Joseph Rios:

As of today we only own one property under the LLC, which we bought last year. We flipped a different property last year. For filing our 2022 tax return we were invoiced $3,750 by our CPA. He filed an extension for us earlier this year and I guess because he filed the return last minute (kinda our fault) we were charged extra. He also works for a large firm so I'm guessing that has something to do with the fee being so high. I wouldn't say he's an expert in Real Estate as we haven't really discussed that many strategies as I'm the one to usually ask questions and bring them up, but he does have experience filing business taxes as he has been doing it for many years.

 The 3,750 likely includes amounts for the preparer, reviewer, and signer if it's for a larger firm.

Also time spent answering questions is billable. Further, if there was a lot of back and forth trying to get information that time spent is billable.

Quote from @Eric Williams:

Part of me wants to think she has a case.

Basically all those separate real estate activities can be considered separately or alone.

Considered as one trade or business (an aggregate of activities), she may have material participation, at which point her personal services related would count.

(d) General rule for determining real property trades or businesses—(1) Facts and circumstances. The determination of a taxpayer's real property trades or businesses for purposes of paragraph (c) of this section is based on all of the relevant facts and circumstances. A taxpayer may use any reasonable method of applying the facts and circumstances in determining the real property trades or businesses in which the taxpayer provides personal services. Depending on the facts and circumstances, a real property trade or business consists either of one or more than one trade or business specifically described in section 469(c)(7)(C). A taxpayer's grouping of activities under § 1.469–4 does not control the determination of the taxpayer's real property trades or businesses under this paragraph (d).

(c) Requirements for qualifying taxpayers—(1) In general. A qualifying taxpayer must meet the requirements of section 469(c)(7)(B).

(3) Requirement of material participation in the real property trades or businesses. A taxpayer must materially participate in a real property trade or business in order for the personal services provided by the taxpayer in that real property trade or business to count towards meeting the requirements of paragraph (c)(1) of this section.

 (4) Personal services. Personal services means any work performed by an individual in connection with a trade or business. However, personal services do not include any work performed by an individual in the individual's capacity as an investor as described in § 1.469–5T(f)(2)(ii).

Quote from @Basit Siddiqi:

The most important aspect of it is creating the log documenting the hours.

If you are under an audit, that is the first thing that they will ask for.

I have created a nice efficient log for clients where there are a lot of drop down functions instead of typing in words to save time.

 This dude nailed it.

And if you want to be even more precise, here is the standard.

As we have observed in countless opinions, deductions are a matter of legislative grace, and the taxpayer bears the burden of proving entitlement to any claimed deduction. Rule 142(a); INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992); New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934). A taxpayer claiming a deduction on a federal income tax return must demonstrate that the deduction is allowable pursuant to a statutory provision and must further substantiate that the expense to which the deduction relates has been paid or incurred. § 6001; Hradesky v. Commissioner, 65 T.C. 87, 89–90 (1975), aff’d per curiam, 540 F.2d 821 (5th Cir. 1976). A taxpayer must substantiate deductions claimed by keeping and producing adequate records that enable the Commissioner to determine the taxpayer’s correct tax liability. § 6001; Hradesky, 65 T.C. at 89–90.


afdbf16d-174e-41c7-91b0-b70f431e6b3d (ustaxcourt.gov)

Part of me wants to think she has a case.

Basically all those separate real estate activities can be considered separately or alone.

Considered as one trade or business (an aggregate of activities), she may have material participation, at which point her personal services related would count.

(d) General rule for determining real property trades or businesses—(1) Facts and circumstances. The determination of a taxpayer's real property trades or businesses for purposes of paragraph (c) of this section is based on all of the relevant facts and circumstances. A taxpayer may use any reasonable method of applying the facts and circumstances in determining the real property trades or businesses in which the taxpayer provides personal services. Depending on the facts and circumstances, a real property trade or business consists either of one or more than one trade or business specifically described in section 469(c)(7)(C). A taxpayer's grouping of activities under § 1.469–4 does not control the determination of the taxpayer's real property trades or businesses under this paragraph (d).

(c) Requirements for qualifying taxpayers—(1) In general. A qualifying taxpayer must meet the requirements of section 469(c)(7)(B).

(3) Requirement of material participation in the real property trades or businesses. A taxpayer must materially participate in a real property trade or business in order for the personal services provided by the taxpayer in that real property trade or business to count towards meeting the requirements of paragraph (c)(1) of this section.

For what it's worth the DIF formula used by the IRS for examination is undefeated against Freedom of Information Act attempts.

It's definitely a secret.

And the IRS has definitely disallowed amounts related to real estate activities based on the amount of income from other sources, and often does under the Code and Regs of 183 for defeating deductions for real estate.

"We find additional evidence indicating the absence of the requisite profit motive from the fact that, during the years at issue, petitioners received substantial income from Jasionowski's medical practice. Sec. 1.183-2(b)(8)"

 JASIONOWSKI v. COMMISSIONER

I thought I would share some new concepts I learned.

LLC as a Contractual Arrangement

So numerous cases have cited LLCs as "creatures of contract." One case described that contract as occurring between the members, the managers, and the LLC. Clary v. Borrell.

Furthermore, this contract between members, sometimes referred to as an operating agreement, can override the default rules provided by default statutory regimes. Conversely, in both Subchapter K and RULLCA there is reference to conformance to state statutory schemes where there is no valid agreement otherwise.

Thus, a key benefit of an operating agreement is a novel network of rights and obligations between parties, one that would be more suitable than under default schemes.

Operating Agreement as Risk Reduction

I've seen plenty of people form partnerships without a written or oral agreement as to the rights and obligations to the entity and other owners.

But keep in mind operating agreements establish consensual relationships, validate them as binding, and dictate when they are enforceable by one party against another.

Further these operating agreements can be created without reference, orally, implied, or any combination. It may be wise for both parties to secure their understanding in writing, and mutually assent to any changes thereafter in writing as well. You're just looking out for each other.

This Quote

"The State, granting to individuals the privilege of limiting their individual liabilities for business debts by forming themselves into an entity separate and distinct from the person who owns it, demands in turn that the entity take a prescribed form and conduct itself, procedurally, according to fixed rules." From the Benintendi case.