For the last 10 years I have owned and operated a small distribution company. It wasn't huge and only did about $375k/year in revenue on average for the 10 year period. I guess thats not to bad for only being a single member. But the point of the story is not what I made but more what I leaned during those 10 years. I was 25 years old and still wet behind the ears. I dove head first into owning a business and had no idea what I was doing. It took me almost 6 months of quoting until I got my first contract and that is where it all started. After the first year of business I learned about taxes, in a REAL way! Not just from talking to my CPA but having to pay around $12,000 in taxes because of not withholding enough throughout the year. Actually to be completely honest I didn't withhold anything, Lol. I was an idiot. Growing up the only thing I ever learned about money was how to make it. Not a bad thing but I never was taught how to keep it or grow it. That was until after the first year of business.
Fast forward a few years later and I was still struggling with taxes but not nearly as bad. I still owed but now it was down to about $6,500 with the same amount of revenue and profit. After that first year I swore I would never do that again and started learning about taxes and reading everything I could get my hands on. That was the time that I heard about being using real estate to help offset your tax liability through depreciation. After learning about real estate and the tax benefits of owning property I sought out my first house. The way I purchase properties has always been and will be this way until I have enough cash coming in to where its easy to save up 25% for a down payment. I always make the property I am buying my primary residence FIRST. When doing that you save around 25% which is a TON of money.
After buying my first property I lived in it for awhile and then moved in with a friend and rented out the house. With the depreciation on the rental I now offset about half of my taxes and now they were down to a manageable amount. But that didn't stop there.
That is a little back story and NOW for the part about why I think W-2 Employees might have the greatest chance at building wealth.
I thought it would be easy to go get a loan from a bank because I owned a business and was in control of how much I made and how much I spent. I was totally wrong! The bank hated me and they don't like self employed people. They look at us as a HUGE liability when evaluating us for a loan. I can't tell you how many times I got denied for a loan even though I made around 6 figures.
After that happened I started to research banks a little bit and what they look for when loaning out money. What I found was very interesting. Some of this may not come as a surprise to you but it sure did for me.
1) Banks want your Debt to Income ration Lower than 43%
2) Banks look at already owned rental property as more money than you actually have. Let me break this down for you. I make $3,000 at my regular job and own a rental property. The bank sees the rent from my rental is $1,000/month and my mortgage is $600. So one would think that my income to the bank would now be $3,400/month. $3,000 from my job and a positive cashflow of $400 from my rental. You like me at first would be wrong. The bank actually looks at 75% of the rental as your income. So instead of looking like you only make $3,400/month the bank sees you making $3,750/month. Basically on paper the bank takes $750 from your rental as income. When I learned this IT BLEW MY MIND!!!
3) W-2 Employees look more secure than someone who owns their own business. Not sure I understand this perspective but it is what it is. SOOOO I went and got a W-2 Job in the same industry I owned my company in and the first day I started I could qualify for a new one not have to wait for 2 years like some people think.
When you put all this together W-2 employees have a greater shot at building wealth than people who own a small business. Let me preface the SMALL BUSINESS. If you own a large business like Google or Amazon or a business with more than 500 employees than this isn't true for you. But my guess is that you guys are more like me if you do have a business. You will find out that apart from all of this W-2 Employees pay less in taxes than a Self-employeed or small business owner. Trust me I know because I have lived in both quadrants.
Working as a W-2 employee saved me about 20% in taxes and since buying properties while working for someone else I now essentially pay 0% in taxes. My depreciation on my properties is just slightly above the amount my employer takes out of my paycheck. See below for the breakdown. This has made me look at everything so much differently. This is not my exact income but illustrates the point.
Income: $50,000/year
Taxes Withheld: $7,500/year
Properties Owned: 2
Depreciation: $7,682.29
Some of my co-workers asked about how I pay 0% in taxes. When explaining to them this strategy they didn't understand and actually got the HR lady involved and she assured them that taxes were being taken out of my paycheck every two weeks. I again tried to tell them that she only sees the money coming out but only I see the money coming back in to my account.
What do you guys think? Have you ever really sat and thought about this? How wealthy can we become if we do not have to pay taxes anymore! It has blown my mind every since I started learning this stuff. I will never stop!
Please let me know what you think about the post and if you have any more advice you have learned from bankers, CPA's or other professionals that blows your mind. Sorry for such a long post but I love this stuff and love teaching and spreading the good news about real estate and taxes. I have grown to love taxes now! such an odd thing to love, lol.
Thanks,
Jason
