All Forum Posts by: Joseph Hoot

Hi fellow BP'ers!

We recently took a personal 401k loan and used part of it for a 25% down payment on a mortgage (assume $25k).  Additionally, we tacked on ~$6k in rehab costs to a personal credit card.

With regards to the accounting, the initial mortgage is a liability on the balance sheet with a monthly debt service expense.  At tax time, we can deduct the interest, not the full amount.  For P&L, I'm thinking I would show the full amount coming out of the profit.

I want to attempt to account for my personal money (401k loan + credit card debt) that I've lent to "the business" (currently still in my personal name, but we have intents on eventually transferring it to an LLC, once we get over the fears related to a quit claim deed) as a liability as well. I'm thinking I could setup a liability account "Payable to Owners" for $31k, for example. And then there would be a monthly expense of say $300-400 that would reduce that account, and go back into my hands to pay those bills.

Does what I'm trying to do sound sane?

Also, from an IRS perspective, is there anything I should attempt to do to allow me to not account for that "additional debt service" as part of the taxable income?

Thanks in advance for any advice!

Joe

Welcome Joe Ussery ! You will find a wealth of information freely available here. You may want to start with the Ultimate Beginners Guide at BiggerPockets.com/ubg

@Steven Hamilton II, thanks for the feedback. It sounds like the EIN is needed to build credit. We know it's an easy thing to get that, we just haven't seen a reason to do that yet. But it sounds like that is necessary to get moving on building credit history. RE: #2, it also sounds like I was on the right track to assume the tax rate will be at (W2 income rate + LLC net income) rate. So we will be sure to assume that, and look for a cpa to assist.

I'll be sure to check out those links you mentioned.  Thanks for quick response!

Background: 

My wife and I made lots of changes in our lives over the last year (REI and non-REI related), including her going into REI full-time. Our short-term goal for 2016 was to get a business entity going, get mailbox, phones, business cards, accounting setup, processes, etc..etc and purchase first buy and hold for the LLC. We got the buy and hold, its now rehabbed and rented, but didn't purchase it into the LLC, because we found out at closing about this "Due on Sale" clause. The reason we want the LLC is to keep finances as separate as possible and reduce our personal liability the best we can. We fully understand that we could (likely should) purchase umbrella insurance policies to help with liability, regardless of the entity. We will be including that expense in future pro forma's prior to purchase. However, we now have a few additional concerns/questions as we move forward this year.

Questions:

1. We want to build up credit in our LLC so we can eventually have the banks lend mortgages directly to the LLC. We aren't yet comfortable taking the risk of voiding title insurance (by use of quitclaim) or risk banks calling our loans (via Due on Sale clause). We realize many here are comfortable with that risk. We're just not sure yet if we are. Given that, does anyone have suggestions to help build credit without forcefully moving properties into the LLC? NOTE: we are still exploring if we will be/should utilize the LLC for upcoming flips.  I’m not sure yet sure Hard Money lenders will even allow that.  We also haven’t yet had a need to register an EIN, but I assume that will likely be one of the first steps here.
2. RE: LLC taxes vs. Personal income tax - the only members of our LLC are my wife and I. As a result, since we have no employees, don't do anything with dividends or take out percentages of profit, I believe the Net Income from the LLC (after expenses and typical mileage/depreciation type deductions) is simply added to our personal 1040 Schedule C and gets taxed at whatever rate the additional income + W2 income (from me) gets taxed at. Is that correct? Or does the LLC-related income get taxed at the lower rate it has (10% for up to 18k, 15% up to 75k, etc..) and then we add that amount to the "to be taxed" amount of the higher rate I am being taxed at with my W2 income?
3. Let’s say we earn $25k in net income from flips in 2017. Towards the end of 2017, we take that capital from the flips and purchase a buy and hold property, using the capital from flips as a 25% down payment on a 100k loan. Considering we’ve moved our profit into a long term loan (liability), do we still consider the 25k a profit? Is there any way to leverage 1031 exchange with this type of transaction to avoid losing additional money to taxes?

Tom Ormand yep, as others mentioned, you are in the right place. Welcome to BP! There are a lot of investors here, but we still see to be finding deals. Keep hunting through BP to find answers to questions and ask questions on the forums. Also, the REIA groups are great! I tend to walk out of every one with at least two new contact.

Awesome Ethan Lee ! Keep up the moment. You are young and have a lot of potential to make it big!

LaVanda Harrison , welcome to BP

I too am interested in this. I just purchased property with a mortgage, was intending on using a quitclaim to transfer the title into an LLC, and then realized this due-on-sale clause. I've also read a little about the land trust idea (not that I understand it, just that there may be a workaround to do essentially the same thing and not trigger the due on sale). But here is an article from September 2015 which basically seems to suggest that those tactics are gimmicks and that the due-on-sale is still valid (http://johntreed.com/blogs/john-t-reed-s-real-esta...).

This leaves me a little curious what my correct entity can/should be. I can't afford to pay of my mortgage in full. But I would like anonymity from tenants + the ability to protect my personal assets/family from liability, hence the reason I wanted the LLC.

At this point, however, I'm not sure its worth the LLC. I may just take out a large liability coverage and let the LLC die on the vine in favor of being legit and not having the risk of any due-on-sale clause being invoked. Seems to be less risky, but also doesn't seem to separate the entities as much as I was hoping.

Any further suggestions?

Hi all,  I recently purchased a rental property in Cartersville, GA and am looking to find an investor friendly business where I can purchase carpet, windows, and cabinetry.

Any suggestions to help keep the costs low on these items?

It looks like you're off to a good start, since you're father was involved with REI. I like the idea of a cash-out refi on any of the properties to pay for additional asset purchases. Then, let the cashflow from those add up to pay for things like a new kitchen. However, this is a question that only you can answer, since happiness means different things to different people.

As for the kitchen, using the ideas from rich dad, poor dad, I like the idea of allowing an asset to pay for those type of things-- of course, this takes discipline and has tradeoffs.  For example, when we moved into our new home in ATL from Buffalo, NY, we acquired a kitchen from 1989 and a backyard that didn't have any grass.  Instead of investing this money, we opted to spend it on tearing down some trees, grading the backyard, and updating the kitchen.  We are comfortable with that decision.  But it comes at the cost of not being able to purchase another property this year.

Regarding your question about converting your home into a duplex, I think that depends on whether or not the rehab to do that would be worth it. That is certainly one option. But you may want to talk with a GC to understand the total costs and then estimate a proforma to determine the return. Another option would be to sell the house for a large profit and use that money to purchase other properties that are already setup as MFR.

Of course, I have a friend who is convinced to not use leverage and instead simply pay all debts down as fast as possible.  He's a big fan of mmm (Mr. Money Mustache).  

I'm not sure if this is a help for you or not.  I know its a bit ambiguous, but it sometimes just comes down to which trade-off's you'd prefer.  For me, I don't mind using some leverage, when possible-- especially while the interest rates are still low.