Quote from @Paul Novak:
Why can't I sell my primary residence to my LLC and become a tenant of my business? My business could then pay the utilities, property taxes, mortgage interest, insurance policy, and home repairs. They would be expenses for the business vs. personal expenses which would be tax deductions. I'm assuming if this was an option everyone would already be doing it but I am just curious from a professional to understand why this isn't an option.
I received a question from a friend that was somewhat similar to mine above which got me thinking. He asked me the following:
"I have a paid off rental house that I earn a good chunk of profit on in 2024. With our new house, we have a large mortgage. I wanted to "sell" the rental house to a new LLC of mine in an effort to create an expense for the rental, and drastically reduce my tax owed. My goal is to generate more expenses on paper with the rental to reduce the taxable income for future years. How can I do that"
Again rather than give advice when I am not a tax professional I figured I would pose his question on the forums to see what response the community would give.
The first clue lies (pun intended) in this fragment from your friend's creative writing sample:
...I wanted to "sell" the rental house to a new LLC...
Anytime you have to put a critical word like sell in quotation marks, it means that you're not actually selling. You're trying to pretend/make up/cover up/fake/etc - choose your favorite word. In tax law, substance beats the form.
The second issue is that your own single-member LLC is still you for tax purposes. You can never create any tax benefits by paying yourself, renting from yourself, or any other form of self-dealing.
So let's play this scenario as if you are actually legitimately selling your property, and you're selling it to an entity that is separate from you for tax purposes. This would be an S-corporation, not merely an LLC. (An LLC can be converted into in S-corporation.)
In order for this to be a sale, you need to get paid its current FMV by your S-corp. Where is the money coming from? Your S-corp does not have the cash to pay you. So it will have to be "owner-financed" by you (see - here again we must use the wink-wink quotation marks). In fact, it will have to be a wrap financing because you are not paying off your actual mortgage. And your S-corp must have funds to make monthly payments to you. Where is this money coming from, we wonder? Of course from the rent you're paying this S-corp as a tenant.
So you need to make FMV rent payments, and these payments should be large enough where you have enough cash flow - after expenses! - to afford monthly payment to the "seller" of that property which is you. Do the math, and you will see that it's not happening. The S-corp has no funds to acquire this property legitimately.
And your rent payments are not a deductible expense for you personally, but they ARE taxable income to your S-corp, and the S-corp taxes are passed down to - guess whom? - yep, to you. So you create phantom income for the S-corp, likely erasing it with the deductions such as property taxes, insurance, mortgage interest and utilities - arriving at zero. Where you already are, without all these smoke screens! Fascinating, isn't it? No, you cannot create phantom losses this way.
Some additional issues that we have not addressed:
- holding rentals inside an S-corp has many tax disadvantages
- you will likely jeopardize your $250k/$500k capital gain exclusion for homesteads
- you will lose asset protection afforded to personal residences by most states
- you will lose your homestead exemption for local property tax
- your insurance will have to change from owner-occupied to rental, i.e. go up
- and there's more
Conclusion: there're reasons why nobody is doing this clever "strategy" but A+ for trying.
