Unleashing Hidden Savings: Expert Tips for Real Estate Tax Deductions - Ruth Brooks

00:00:13 - Mike Mills

Howdy, howdy to all my Texas Ranger fans out there. So, seeing that this is Mike Mills Mortgage and Finance, I got a few thoughts on my hometown team today that we'll get to here in just a second. But really quickly. First, are you tired of feeling overwhelmed the tax season? Are you wondering if you're paying more than you should be? And do you dream of keeping more of your hard earned money in your pocket and maximizing real estate earnings? If so, today you're in for a treat. So welcome to Mike Mills Mortgage and Finance, your guide to unlocking financial success in the world of real estate. I'm your host, Mike Mills, and today we have an incredible episode featuring a true expert in the field of taxes and business structure. And I promise you, you're going to want to get out your pen and paper, review, rewind and listen again because this is going to be chock full of information. It's going to be a master class on real estate taxes. She probably feels like I'm overselling her on her just a little bit, but either way, this is how I feel about it. But before we dive into today's taxation ted Talk, remember, if you find values in these conversations, please hit the subscribe button on your podcast platform and go out and check out my YouTube page at Mike Mills Mortgage and Finance for more exclusive content. Subscribing ensures that you stay updated on insights that can help elevate your real estate business. So my guest today is Ruth Brooks. Ruth is a seasoned CPA with years of experience helping small business owners, realtors and investors structure their business and the best way to maximize their tax benefits. She is in high demand and just off another busy tax season, and she's here today to make us all a lot smarter when it comes to our finances. So welcome, Ruth, to the show. Ruth, how are we doing today?

00:01:54 - Ruth Brooks

Great. Thank you so much for inviting me. I'm very happy to be here.

00:01:58 - Mike Mills

Awesome.

00:01:58 - Ruth Brooks

I'm very excited to go over these taxes.

00:02:00 - Mike Mills

Yes. Well, nobody's excited to go over taxes. Not even CPAs, I don't think. So before we dive into taxes, because it is what we're here to talk about today, first, I want to talk about a little Rangers baseball, right?

00:02:15 - Ruth Brooks

So exciting.

00:02:15 - Mike Mills

We won the World Series yesterday. That's amazing. So did you grow up around here in this area?

00:02:20 - Ruth Brooks

I did. I grew up mostly in Wichita Falls, but then moved here to go to the University of Texas at Arlington.

00:02:26 - Mike Mills

Okay.

00:02:26 - Ruth Brooks

And my family, we've been Rangers fans for years and we'd always do family outings. There's a bunch of us in my family, and we'd have anywhere from 18 to 20 people going to a game or two each year. So in the old stadium, now in the new stadium. So very exciting. I have some friends that are huge fans, so we've just been on quite a ride and very excited.

00:02:48 - Mike Mills

Yeah. When you say the old stadium, I don't know anybody outside of the area doesn't realize we've basically had three stadiums that the Rangers have played at since they got here. And I remember I'm 45, and I go back to the old Arlington Stadium where in the outfield they had those old school bleacher seats. They didn't have the bucket seats, and you could bring coolers in and you could do all kinds of stuff. And that was where I remember my grandfather taught me how to know with the book. You would sit in the outfield and you would know, score the game. And those were like in the Jim Sumberg era and Scott Fletcher at shortstop and Ruben Sierra and all that stuff. And I had tons and tons of baseball cards growing up as a kid. And then you move into the era of the Pudge Rodriguez and Nolan Ryan and moving where we actually had a pretty decent team a little bit later into the 90s. Actually, a budy of mine actually saw at Rally House today, where I got my shirt this morning. We used to skip school in my junior and senior year and go to his house and watch Ranger games in the afternoon during baseball season. And then, of course, I'm telling people lately. So in 2011, when the Rangers were in game six, where Nelson Cruz missed that fly ball on right field, we were basically one strike away from winning. Well, that was my birthday, and so it was like the worst day in Rangers baseball history was on my birthday. Well, game one of this year where Corey Seeger hit the two run home run to tie the game in the bottom of the 9th, and then Garcia goes up and wins it in the 11th. That was also my birthday. I've got the worst and we'll call it the second best day in Rangers history right around that time. So the last couple of weeks have been awesome. It's been a great ride seeing them go ten and on the road beating the Astros, which I can't tell you how exciting that was.

00:04:39 - Ruth Brooks

So I was at the Astros game during the season in September when they were playing, and it wasn't looking so great for us. And so we were there, and my husband and I went for a work event for him and we stayed and we watched, but it was much more fun watching this last series.

00:04:56 - Mike Mills

Well, my wife and I are going to see some friends in a couple of weeks, and they're all Houston Astro fans, the big Astro fans, and so they've been on beating us up over the last few years. And so we're donning every piece of Ranger gear I can find. We're going to show up and say.

00:05:10 - Ruth Brooks

Hello to everybody that I have a cousin that lives up in the Seattle area, and she was texting me last night, and I'm so excited for the Rangers. She's a Rangers fan. I don't know how she ended up a Rangers fan being up there, but she's texting me and she said, I bet everybody in Texas is happy and having so much fun. I said everybody but right.

00:05:29 - Mike Mills

That's right. Well, I stayed up way too late last night, so if I look a little groggy or my eyes are swollen, that's why I would think I was up till 02:00 in the morning listening to post game shows and just celebrating, even by myself, mostly. All right, so that's a little Rangers nostalgia. Way to go, world series champs. It's awesome. First time in the history of the franchise. So super excited about that. All right, so that's enough baseball talk. Let's get into the really exciting stuff, which is our tax return. So first off, just to kind of get everybody a little context, tell me a little bit about your background, your experience working with businesses, how long you've been doing this, all that kind of stuff.

00:06:06 - Ruth Brooks

Okay, so I've been a CPA for over 20 years, been practicing in the industry for over about 30. So I've been out on my own as a CPA for ten years. I do all types of entities. I have different business types, scorps, corporations, partnerships, LLCs, and then all different types of businesses that are run, whether it be real estate professionals, whether it be people who own rental properties and then other businesses, just various types. And so I graduated from the University of Texas at Arlington. They have a great UTM Mavericks. Me too.

00:06:46 - Mike Mills

Here we go.

00:06:47 - Ruth Brooks

Yes, they have a great accounting program. So I finished up my bachelor's degree there and got my CPA license and have been in public accounting ever since.

00:06:55 - Mike Mills

Yeah. Well, was this something like growing up know? Because I don't think anybody grows up loving, really? Okay.

00:07:03 - Ruth Brooks

It's funny you should ask. Okay, so as a junior in high school, I took my very first accounting class, and I grew up in Wichita Falls, and after I took that class, I was like, I'm going to be an accountant.

00:07:16 - Mike Mills

Really?

00:07:17 - Ruth Brooks

I mean, I knew after that first class, I'm going to be an accountant. And not many people know what they want to do in high school. Some people are still in college trying to figure it out. So I was very lucky. I was very lucky in that aspect as soon as I took that class. I mean, great teacher.

00:07:33 - Mike Mills

That always helps.

00:07:34 - Ruth Brooks

Yes. I took the second one my senior year, and from then on, it was just like, this is what I'm going to do.

00:07:39 - Mike Mills

Is it the numbers or the puzzle or what is it that you think attracted to you?

00:07:43 - Ruth Brooks

Well, when you first start out in the accounting classes, it's just the debits and the credits and the financial statements and doing all that. So I like, that very logical, very orderly. Yeah. If you ask me to do a math problem, not going to get it. It's not about math, right? Accounting is not about math. A lot of people think it is, but I have my handy dandy calculator right next to me day in and day out. So my husband makes fun of me.

00:08:05 - Mike Mills

Whenever you still have the little clicky.

00:08:08 - Ruth Brooks

One with the tape time. I did a long time. Now I just have a solar powered one. So if you make a mistake, you have to start all over.

00:08:14 - Mike Mills

You can't go back and review your tape again.

00:08:16 - Ruth Brooks

Yeah, but my husband makes fun of me whenever somebody asks a math problem, I try do it in my head and he's like, that's not right. And I'm like, okay, we'll get my calculator and I'll help you. So that's kind of what started it for me. But then I went into public accounting. And in public accounting, there are so many different things. You can be in taxation, you can be an auditor, you can be in the accounting services. And so being able to see all those different aspects and all come together for the tax return because that's what it's all about. All the accounting goes straight to the tax return.

00:08:46 - Mike Mills

Yes. That's what we all care about is that return.

00:08:49 - Ruth Brooks

And so just practicing, I tried a little bitty stent of working in industry, and it just wasn't fulfilling for me. So going back to the public accounting, doing tax returns, doing accounting services for clients, doing bookkeeping services, that's what I really enjoy.

00:09:04 - Mike Mills

Well, I mean, the good news is you're in a recession proof business because it never slows down, right? I mean, it's like the mail, it just keeps coming. Nobody ever has to not file taxes, right?

00:09:13 - Ruth Brooks

Everybody's like, we need to go to a flat tax. No, we don't.

00:09:16 - Mike Mills

No, you're good. I need a little need a little job security. Well, that's never going to happen anyway, so I don't anticipate that exactly. It's too much code and too many loopholes that people love to get through. All right, so let's start with basic business structures. Okay. So speaking specifically about Realtors and maybe even investors, and I know that it's going to vary depending on how complicated is it going to get. But there's a lot of people that look at, okay, do I just do a schedule C for my real estate business? Should I form a separate entity like an LLC or even go as far as an S Corp? And then when you're investing in properties and I know this is you've probably got 5 hours on just this one question, but if you're looking at investing, there's a lot of ways where people will move properties into LLCs to protect them against liability and that kind of thing. So what would you advise? Either a Realtor currently in the business that's like, okay, I need to figure out how to structure this correctly, how would you tell them to set it up? And then what would be the kind of the road markers, I guess you would say, on which, okay, if you get to this, you probably need to change it and set it up this way.

00:10:21 - Ruth Brooks

Correct. So obviously the simplest form is going to be the sole proprietorship, right. You also have a single member LLC, okay.

00:10:29 - Mike Mills

Now the sole proprietorship is Schedule C, right?

00:10:32 - Ruth Brooks

Schedule C. And so is a single member LLC. Both of those entities are set up exactly the same as far as filing your federal tax.

00:10:39 - Mike Mills

And that's just in your own personal 1040.

00:10:42 - Ruth Brooks

You're going to put it on your personal tax return. It's going to be on a Schedule C. Whether you have that single member LLC for the liability protection that you talked about or the sole proprietorship, everything's going to be reported on your personal tax return. So that's why I say it's the simplest. Obviously with the single member LLC, you're going to have some documentation that you have to file with the state and set it up and everything, pay some fees, things like that. But everything's reported on your personal tax return. So it is the simplest form. Okay. As far as is that the way you want to go long term? Maybe not. A lot of people will get into a small business, whether it be real estate or any other business, and say, okay, let me start this and see how it's going to go, right? Let me see if it's going to take off. Let's see if this is going to be something I want to do long term and if it's going to be profitable long term. So they keep the cost low by doing it that way.

00:11:32 - Mike Mills

Right. So you don't want to come out of the gate setting up all this stuff because you may not. I mean, I'm sure everybody will continue and have success, but you may not.

00:11:39 - Ruth Brooks

And there are a lot of expenses associated with other entity types that you're going to have to go through legal things like that, setting up the documents and all that. So a lot of people will set it up that way. The main downfall on running it in that aspect is the self employment tax piece, okay? So when you are a single member LLC or the sole proprietor, you're going to pay federal taxes on your net income after expenses, okay? So you got your income coming in, you have your expenses, you have net income that is going to be subject to federal tax, okay. It's also subject to self employment tax. And everybody says, what is self employment tax? Because it blindsides a lot of people when they get ready to file their tax return. When you are a W two employee, you have Social Security and Medicare taken out of your paycheck, right? And your employer sends that to the IRS for you. They also match it. It's at 7.65% for you, 7.65% for the employer.

00:12:39 - Mike Mills

Got you.

00:12:40 - Ruth Brooks

So you're getting 15.3% paid into the Social Security and Medicare for your W two wages as a single member LLC or a sole proprietor. You're the employee and the employer, you're both. So you're paying both. You're paying 15.3% on that net income. Now it caps out for Social Security at a certain amount, and it just goes down to 2.9%. But you got to get there first, right? So that is the downfall of running it that way. So obviously, when you get to that point where you're paying significant taxes because this business has taken off like you wanted it to, you want to potentially flip it to an S corporation, and you can take that single member LLC and flip it to an S corporation very easily.

00:13:25 - Mike Mills

Now, real quick question on that. So I hear. S corp and C Corp, right? There's different ones that there's probably even more that I'm not thinking of. But what is the main difference between an S Corp and a C Corp?

00:13:35 - Ruth Brooks

So a C corporation is an entity paying entity itself. It pays tax. Okay? The bad downfall of a C corporation is double taxation. So you're going to pay tax at the corporate level, and if you don't draw it out in salary, all of it out in salary, and you're going to pay at the individual level when you take it in dividends. Got you. The S Corporation is not an entity that pays taxes. That entity is a filing entity. Your income and expenses are reported in the S Corporation, and then there's a flow through K one that comes to your personal tax return, and that is where you pay the taxes. Got you.

00:14:11 - Mike Mills

So in that structure, the company doesn't pay taxes, but whatever income or whatever leftover, I guess you would call it, that flows through it goes to you as an individual, as a K one.

00:14:20 - Ruth Brooks

Correct.

00:14:21 - Mike Mills

And then as an individual that's reported on your personal return, and then you therefore pay taxes on that.

00:14:24 - Ruth Brooks

Right. And the S Corporation is an entity that you can use to mitigate some of the self employment taxes. Because what you're going to want to do when you set up your S Corporation, there are some pretty strict guidelines when it comes to officers and their compensation. So you're going to have to pay yourself a reasonable salary out of this S Corporation business.

00:14:44 - Mike Mills

Okay?

00:14:45 - Ruth Brooks

When I say the reasonable salary, everybody says, what is that? IRS is not going to tell you what reasonable salary is. But you know, if you're bringing $350,000, you can't have a $10,000 W two, right? Okay, so you'll work with your CPA and you all determine what is the best salary for reasonable compensation. But that salary will be subject to the 7.65% self employment taxes that we talked about. And your employer, your S Corporation, will pay the other half. But it's not on all of it. So the residual is what flows through to your personal tax return, not subject to self employment taxes.

00:15:22 - Mike Mills

Got you.

00:15:22 - Ruth Brooks

Okay, so in a very simple scenario, let's say you have net income of $150,000 on a single member LLC. All of that 150,000 is going to be federal tax and 15.3% for Social Security. Let's say you have it in an S corporation, same net, $150,000 before salary. If you take an $80,000 salary, that's what's going to be subject to the 15.3%.

00:15:49 - Mike Mills

Okay?

00:15:50 - Ruth Brooks

And I'm making it very simple, but you're going to take that 150 less the 80. Here's my math going on in my mind. That $70,000 that's remaining is going to flow through to you on a personal tax return on your K one, not subject to the self employment tax. So not subject to the 15.3%.

00:16:05 - Mike Mills

Got you.

00:16:05 - Ruth Brooks

And so that's where your tax saving is pretty significant is that flow through income. And that is why the IRS says you have to have a reasonable salary, because if you're going to take $10,000 of the salary and 140 is going to flow through without that 15.3%, obviously, big red flag, right.

00:16:22 - Mike Mills

And that's what they're looking for. They're going to give you the structure, or I should say this, I don't want to call shelter, but they're going to give you the formation of the company to help you offset your taxes. But you have to be reasonable within that. And you can't abuse the system to some extent because that'll throw red flags, right.

00:16:36 - Ruth Brooks

Because if you're taking the $10,000 salary but you're taking $85,000 in distributions, they're like, that's really your salary, right. So that's where they're going to kind.

00:16:44 - Mike Mills

Of so basically what you're saying then is, as far as the structure is concerned, is that if you are starting out in real estate and this is your first couple of years, and maybe you're part time or you're not making a ton of money, then the sole proprietor or single member LLC on your personal returns is probably the best route to go because you're not going to be subject to as much taxes. Well, you're not going to be subject to extra fees on setting up a corporation as you would be if you just kept it there.

00:17:10 - Ruth Brooks

Right.

00:17:11 - Mike Mills

But if you get to a point where things are starting to take off and you're starting to make some money and you want to save some taxes, then the S Corp setup is probably going to give you the best tax savings for your real estate business as a realtor.

00:17:23 - Ruth Brooks

Correct. And what I will say is just make sure you're doing it right. Make sure you're taking that salary. You're going to have the added cost of a separate tax return.

00:17:31 - Mike Mills

Yes.

00:17:31 - Ruth Brooks

Okay. Because you're going to have to file the 1120s. You're going to have the expense of the payroll, because you're going to have to use a payroll company or some QuickBooks or something to issue that payroll check and make those taxes, and maybe a CPA who's helping you with all of that. But the amount that you're going to save in taxes will probably be significant in comparison to what you're paying in fees to set that up.

00:17:54 - Mike Mills

Now, most realtors, they get a 1099 that gets issued to them personally. So how do they take that 1099 and push it through the S Corp.

00:18:03 - Ruth Brooks

So the way I do it is I take that 1099 and I put it on the Schedule C as if it had been issued to him, and then I show a line item as an expense called Less Nominee, and I give the federal ID number for the entity. So basically, your Schedule C is going to net to zero. Okay. And you're just telling the IRS, I know they issued this 1099 to me, but it really went into this entity, and that's where you're going to see the revenue got you.

00:18:29 - Mike Mills

So it's still going to show up on your Schedule C, but it's just going to net over to your business.

00:18:32 - Ruth Brooks

It's going to net over to zero or to zero.

00:18:34 - Mike Mills

Yes.

00:18:34 - Ruth Brooks

And then you're going to pick it up in the business. So if the IRS tries, if you don't put it on your Schedule C and do the Less Nominee deduction, the IRS is going to go, whoa, yeah, you got $500,000 of revenue that you didn't report, and so they're going to flag it two years later, three years later when they finally catch up. So it's important to put it on your tax return and back it out as an expense so that they can track it to that other account if they audit you.

00:19:00 - Mike Mills

Well, taxes is one of those things that people don't know a ton about, because, again, it's not the most exciting topic in the world, but the reason it's so important to understand it is because CPAs are like human beings just like anybody else. And you have good CPAs, and you have maybe not so good CPAs. And I've seen because I look at tax returns all the time, I will look at some and go, who put this together? This is like nothing I've ever seen. How did you classify this here? Where did that go? I don't see it. And they're like, well, my CPA did it. No idea. And I'm like, well, you need to call them and figure out what the heck's going on. And when you hear some of the reasons and I've talked to a few of them on the phone because I'm like, what are you I was like, well, we were trying to set it up this way, but it made more sense like this. I don't think you can do it like that. I'm not a CPA. I don't know. My point of that is just that it is super important for you to understand it. You may not do it you may not perform the activities of the CPA, you're not filing your own stuff. And I think you're going to be better off if you pay someone to do that, especially as it gets more complicated. But at the same time, it doesn't mean you should turn a blind eye and not have an idea of how the structure is put together.

00:20:10 - Ruth Brooks

Right, exactly. So my husband's in a banking situation too, so he reviews a lot of tax returns too. So he'll call me, hey, let's look at this. And I'm like, okay. And like you said, there are some good ones and there's some great ones, and then there's some not so good and not so great. But I'm going to tell you, first off, I'm not going to know the answer to every single question, of course. And I'm going to research it if I don't know it. I'm going to reach out to colleagues and things like that. But as a business owner, you want to be reviewing those tax returns. You want to make sure that what you believe should be on there is what's on there. And you need to ask the question if you don't understand it. And most CPAs will give you that extra time to go through it because that's what I want. If I miss something, I want to be told, oh yeah, you know what, I totally missed that email that you told me about this or whatever. So yeah, you're going to want to make sure you're doing your own due diligence on your tax return to make sure. And as far as entity selection and stuff, you're going to want to work with your attorney, having them help you set it up. Because like we said, liability protection might be something that you really want to focus on. So the sole proprietors might not be the right thing. So spend a little money, use your CPA, use your attorney, and make sure you're doing what you're supposed to do.

00:21:28 - Mike Mills

Okay. Is there anything that you would add to that when it comes to real estate investors, people that own rental properties, whether it be long term, short term rentals, any adjustment to the structure of it that you would recommend?

00:21:41 - Ruth Brooks

So I don't want to give any legal advice because I'm not an attorney, but obviously most of my clients who have rental properties, they're going to set it up in an LLC.

00:21:50 - Mike Mills

Yes. And I will say from a mortgage standpoint that if you have a rental property and you purchase it in your name because most mortgages you have to buy as an individual, you can transfer it over to an LLC, transfer the title over. Now there is a due on sale clause that comes with every single mortgage. That kind of, I don't want to say prohibits that, but it certainly leaves the bank a little leeway if you do that. And if you don't pay your mortgage to where they could cause issues, but on 99.9% of those people are paying those mortgages. So as long as you pay your bill, then nobody's going to be calling you to do on sale.

00:22:25 - Ruth Brooks

Right. Just go ahead and check with your attorney, make sure that you have the coverage you need. Some people on their own businesses, they might not think they need an LLC because they have enough professional liability insurance or any other type of insurance. So you're going to work with your attorney with that?

00:22:41 - Mike Mills

Yeah. So on the rental properties, I hear a lot of times it's good to set up each individual one in its own LLC and not group them together because then that way they're separate if you have any issues.

00:22:51 - Ruth Brooks

Right. Another legal question, but yes, I see it that way because you're going to want to keep property one from property two and property three so that if something happens in one, you're not.

00:23:03 - Mike Mills

So another thing that I hear often because actually do I read about or I watch a lot of videos on taxes because I'm very interested in it, in that when you figure out how much money you can save, sometimes on doing your taxes correctly, it becomes something you're very interested in finding out more about. So you hear a lot about when you are classified as a real estate professional, that alone comes with a lot of tax advantages not only from running your business but also purchasing investment properties. So can you kind of elaborate on that a little bit and what that all means?

00:23:36 - Ruth Brooks

So the real estate professional rules are designed for the people who own the rental properties. Okay. Basically there is a designation that you have to provide at least 750 hours in this business. And there's like eleven different categories. A few of them are development, construction, rental, operation, management, leasing, those kinds of things. And so what this designation allows is when you own a rental property. If I just own one rental property, it's considered a passive activity. Okay? And there are what are called passive activity loss rules, which means if I have a loss on that, probably not going to get to deduct it because of the passive activity loss rules, okay? If you're a real estate professional and you are providing those 750 hours, it's considered active at that point. So if you have losses on rental properties, you're not subject to the passive activity loss rules and you can deduct your losses.

00:24:38 - Mike Mills

Okay?

00:24:38 - Ruth Brooks

Many people who have rental properties who are subject to these, if they have loss year after year after year because with the depreciation and your taxes and rental and it might not be a profitable property at first, right. Those losses are suspended and they keep rolling over year after year until you have a profit. And then you can offset it with some of those losses or in the year that you sell it, you can recoup those losses. So. I have a lot of clients that they'll get a rental property and they're like, okay, well, I'm going to deduct all these losses, and I'm going to be able to lower my income taxes. Not this year. This year yours is suspended. And so the key with that designation is you're going to have to prove to the IRS that you have the 750 hours. Okay. Because it's one thing you get all kinds of tax benefits. There are all kinds of benefits, like the passive activity. You can fully deduct your losses. You can have accelerated depreciation you can potentially avoid, which is there's an additional tax that they came up with a couple of years ago. I don't even remember what year it was, but it was the net investment income tax, and it's an additional 3.8% of taxes that are added on top for what is called net investment income, dividends, interest, rental properties, potentially, that are passive activities. That's 3.8% on top of your federal taxes. More yeah. So if you can get this designation, it's now considered an active activity, not a passive activity, and you could potentially avoid paying that 3.8% legally.

00:26:22 - Mike Mills

Okay.

00:26:24 - Ruth Brooks

And then you could also have the benefit of long term capital gain treatment when you sell the property. So, again, it's leaned more towards owners of rental property versus agents who are buying and selling homes for their clients and stuff. But very beneficial if you can qualify for that, if you have multiple properties that you're owning and you can justify that 750 hours.

00:26:48 - Mike Mills

I've had a few clients that have and this happened. It's probably not happening as much right this minute, but it has happened quite a bit in the past where they buy a rental property, they go in, they fix it up, put a lot of money into it, and then it's like a fix and flip, essentially. But it may take them a couple of years before they flip it. Sometimes they'll hold it and then sell it a few years later. But what will happen is they'll take a lot of deductions the first year because they put a lot of money into the property, all the repairs and everything. And so there's a fairly significant loss on the property. But then when they go to sell it, if they bought it for, say, $200,000 and they're turning around, they're selling it for $300,000. So they picked up $100,000 in net equity on that investment property.

00:27:32 - Ruth Brooks

Right.

00:27:32 - Mike Mills

So how does that work where you wrote off your expenses, yet you're putting into it, but the whole 1031 exchange about moving your profit in. But I guess you can't write off your expenses twice, right?

00:27:43 - Ruth Brooks

No, you can't. So if you've deducted expenses, then you got that then, especially if you were able to take the loss on the property on the schedule. E, right. Typically what you're supposed to do, and you're not supposed to deduct it. If it's a flip type thing. If you're not actively renting it, you're actually accumulating those costs. And so you should be accumulating those costs. So let's say you buy it for the $200,000 and you put $50,000 in it. Now your basis becomes $250,000 on that property. You shouldn't be deducting those $50,000 of expenses. Then when you sell it for 300, you have the profit of 50. Okay, but that's in a fix and.

00:28:26 - Mike Mills

Flip when you're not renting it.

00:28:27 - Ruth Brooks

Right. That's in a fix and flip. And if you can hold it over a year and you're not doing these multiple times every you're not doing ten or twelve flips in a three year period, then you could potentially get long term capital gain treatment on that $50,000 if you hold it over a year. Got you. Yeah. That's the key is if it's a fix and flip, you're not deducting it as you're doing it. You should be accumulating those costs into that particular asset, and then you recognize the gain when you sell it.

00:28:58 - Mike Mills

Got you. Okay. So you're going to pick up the gain when you sell it. But if it's more of over twelve months, you have to have it over twelve months. And then once it's over twelve months, then you get the long term capital gains piece of it.

00:29:09 - Ruth Brooks

Right.

00:29:09 - Mike Mills

Okay. And then you can.

00:29:13 - Ruth Brooks

If you're doing ten in a three year period, they consider that an active business at that point. And that might be subject to self employment tax. You might not even get capital gain treatment because you're considered in the business of flipping homes.

00:29:27 - Mike Mills

Got you.

00:29:27 - Ruth Brooks

So you kind of got to keep an eye on that. But if you're just going to buy one and a year and a half later you're going to sell it, you can likely get that capital gain treatment.

00:29:35 - Mike Mills

There's also something related to cars that I found out this year for the first time. So if you have in Texas especially, we see this all the time, guys driving around these big old trucks, right? These massive quarter ton, full ton I don't know what they are, but I actually bought my wife a Tesla last year, or almost two years now. And the Model X, which also comes with this whole thing about the weight, the weight of the car being used as a real estate professional, you can write off the entire car in depreciation one year.

00:30:08 - Ruth Brooks

Well, okay. And no, basically that is called Section 179. Gross vehicle weight of the vehicle has to be, I believe, over 6000 pounds. And it is a first year write off. Okay. That's opposed to doing a mileage deduction on a vehicle. The thing about that I caution many of my clients who want to do the Section 179 is once you take that deduction in the first year, first of all, you're going to have to prove that it was used, what percentage for business. So you hear it on the radio all the time, if you want to take advantage of the Section 179, come on down before the inventory is gone and pick out your vehicle. And that's all sounds good, except for if you take that write off in the first year, you're going to take the actual expenses. So you can have two choices when it comes to your vehicle. You can take actual, or you can take the mileage deduction, and we'll talk a little bit later about the mileage deduction. But actual is where you get that depreciation piece. Okay? So what's going to happen is, year one, you're going to say, okay, I bought a $35,000 vehicle. Let me take a $35,000 deduction because I use it 100% for business, okay? Right. If it wasn't used for 100%, you'd have to do that calculation. So you take that $35,000 deduction, but then you keep that car for four more years. Okay. You're stuck with actual at that point. So you're only going to get gas, tires, repairs, things like that. That's going to be your deduction over year two, three, four, however many years you keep it. So it sounds great in the first year, and you take that deduction, but then in the subsequent years, you're not getting much of a deduction, especially because you're not having any gas on the Tesla, but even on the trucks, you're only getting your actual expenses.

00:31:53 - Mike Mills

Right.

00:31:54 - Ruth Brooks

Now, let's compare that to the mileage deduction. And that's why I always caution my clients, especially if they buy something in December, and they're like, okay, I'm going to take it 100% for this year because I've had a really great year. Okay, great. But do you think next year is going to be better?

00:32:08 - Mike Mills

Right?

00:32:08 - Ruth Brooks

Because next year you're going to be stuck with that actual. The mileage deduction for the 2023 year is 65 and a half cents a mile.

00:32:17 - Mike Mills

Wow.

00:32:18 - Ruth Brooks

Yeah. So every mile you drive for business purposes is worth 65 and a half cents deduction. That's a huge deduction for people who drive a lot. And the reason it's as large as it is is because it encompasses gas, repairs, depreciation, registration, all of those expenses are accumulated in. So if you decide to use mileage, obviously every year, you're going to have a huge deduction, year one, year two, year three, year four, year five.

00:32:47 - Mike Mills

Right.

00:32:47 - Ruth Brooks

Whereas if you do the actual expenses and you're stuck with them year two through five, you might not have as big of a deduction because you're not able to take the mileage. You're only taking the gas and the repairs.

00:33:00 - Mike Mills

Right. So it could be beneficial, but it also could not, just depending on how the math works out, what you pay for the car, how much you use it, how long you keep it. It's not just a black and white thing.

00:33:09 - Ruth Brooks

Right. And I also caution my clients, too, because if you're not using it 100% for business, you have to keep a mileage log anyway.

00:33:15 - Mike Mills

Right.

00:33:16 - Ruth Brooks

So you're keeping the mileage log to determine, okay, is this business or is it personal? And then you have to figure out what the percentage is anyway. So if you have $10,000 in gas and oil and everything, but you only use it 75%, you're going to have to be able to deduct just the 7500. So a lot of times, for simplicity, it's just as easy to do the mileage deduction, spread it over those four or five years that you're going to own.

00:33:39 - Mike Mills

It sounds good and sexy, but it doesn't necessarily mean it always is.

00:33:42 - Ruth Brooks

Right, yes.

00:33:43 - Mike Mills

No, I understand that. So what type of things would you tell people that they should consider when they're thinking about whether they're going to do an LLC or S Corp? And again, does it just come down to how much revenue you're bringing in and the complexity of what you're trying to write offers or any other factors to think about?

00:34:01 - Ruth Brooks

No, basically it's like one of those things. It's like, okay, if I'm going in 100%, then I need to know that I'm going to have some filing requirements. I'm going to have some certain things I have to do. An S Corporation, you have to have board of directors meeting. Even if it's just you, you need to have board of directors. You have to have minutes. You have to follow these calling to.

00:34:26 - Mike Mills

Order a meeting with myself.

00:34:27 - Ruth Brooks

Yes, here are minutes. But you need to basically be able to justify that it truly is an S Corporation, that you're not doing it just to save on the taxes and stuff. So in answering that question, it's hard to say it's a case by case basis. It is. It really is. And people who start a small business, I'm going to sell T shirts, or I'm going to do one of these other things that everybody's doing right now. They might start with the sole proprietor or the single member LLC, just because.

00:34:53 - Mike Mills

We'Re not sure, right.

00:34:54 - Ruth Brooks

Not sure where it's going to go, how it's going to you know, if you're already in the business, if you're know in a real know if know, significantly increasing your revenue, then, yeah, you're definitely going to want to talk to somebody about maybe switching entity types.

00:35:10 - Mike Mills

Okay. All right. So now that we have a pretty good idea of business structure, it seems relatively simple once you dive into it a little bit. Let's talk about which is probably the bigger issue, which is keeping records correctly, right. Managing your expenses. Because if you want deductions or if you want to use deductions, then you have expenses, but you have to track them. You have to know where they're at. You have to have good records of them. Because if you do are one of the unfortunate individuals that get that IRS audit, which, by the way, recently the Treasury Secretary was talking about how when they hired all the IRS agents that they weren't going to target lower income folks. And yet when they were asked directly about whether people under the income levels of 400,000 would get targeted more, they couldn't say yes or no, which generally means yes. So you need to be very aware of that. With all of the focus on as much as the we're in $1.7 trillion in debt as of last week, I'm sure it's gone up since then. That means the government needs money, and when they need money, they come for you. So you need to have your ducks in a row. So when we talk about tracking expenses so whether it be sole proprietorships or LLCs or Scorps, do people need to have multiple credit cards, multiple bank accounts, would you say? Okay, if you're going to have this entity, it needs to have its own bank account, needs to have its own credit card, and then what type of expenses do you typically see? And we'll speak in terms of real estate agents specifically. Could you reasonably and legally associate to your business and be able to deduct?

00:36:46 - Ruth Brooks

Okay, so I'm going to tell you straight off, it doesn't matter if you're running it as a sole proprietor, single member, LLC, or an S corporation or partnership, which a lot of them don't run partnerships for real estate. But I'm always going to suggest a separate bank account. I'm always going to suggest a credit card for your business, and you're going to use those two for your business. I don't like to see the commingling of the personal stuff with the business stuff. I don't want you to when you first get started out there, you might not have that bank account yet, so you might have to pay some expenses at first, a few things, yeah, but let's eventually switch over, get that account set up. You will thank me at the end of the year when you don't have to go diving through all your personal credit cards and all your personal bank accounts. Oh, was this business or was it not? Your accountant and your CPA or your tax preparer will thank me as well because they're not going to have to have spreadsheets upon spreadsheets. Well, this came from this account and this came from this credit card. So it just simplifies everything. I also like to say, if you are to get audited and they're challenging any type of expense, then all you're providing to them at that point is your business bank account. You're not having to open up everything on personal side so that you can justify it.

00:38:04 - Mike Mills

Do those records now know? Because credit cards and bank statements are pretty detailed where they come know they have the amount and the entity and whatever. Do you still need to keep receipts these days?

00:38:13 - Ruth Brooks

So the IRS really does say that documentation is not sufficient on a credit card statement because they want to know. Let's say you go for a meal, you take a potential client out. They want to know you're supposed to write on the top of it who you had lunch with or whatever, who you had dinner with, because they're going to be asking you why I'm going to pull these certain receipts. I'm going to pull these certain charges, and these are the ones I want to see the receipts on. So they do say that it's better to actually have the receipts. I don't care if it's in a shoebox.

00:38:45 - Mike Mills

Sure.

00:38:45 - Ruth Brooks

And the shoebox gets labeled, and it goes with your other tax documents. I don't want to go through the shoebox. Obviously done with those days. But you want to keep the receipts. And all I do is once I have business transactions, I just have a folder, and I just stick it in there. And then at the end of the year, that folder is my documentation for everything that's being run through that business account.

00:39:06 - Mike Mills

Do you have any recommendations for because especially nowadays, you can put apps on your phone and take images of receipts all the time. Are there any free ones out there that you like?

00:39:15 - Ruth Brooks

I don't know about those. I know some of the agents.

00:39:19 - Mike Mills

There's ones that track mileage.

00:39:21 - Ruth Brooks

They track all yeah. So I know mile IQ is a good one that will track the mileage. I think there's one called the Hurdler or something like that. There are several mileage ones that you can utilize, and at the end of the month, that'll print you what your business mile is. But as far as the apps for, there has to be a ton of them for taking pictures of your receipt and uploading it to some sort of file that you can keep.

00:39:45 - Mike Mills

So then you don't have to have the shoebox.

00:39:46 - Ruth Brooks

You don't have to have the shoebox, you don't have to have the folder. But being I've been in this business for a long time, I stick to my guns that I know what works. And so I'm a paper person, but my husband makes fun of me about that.

00:39:58 - Mike Mills

Yeah, well, you had the calculator with the paper coil. Yeah. You could not do that. Okay.

00:40:03 - Ruth Brooks

So as far as tax deductions, this is what I'm going to tell you. Okay. I always like to go back to the Internal Revenue Code, Section 162. Basically what that says is anything that's ordinary and necessary to operate your business is a deduction.

00:40:18 - Mike Mills

Sounds pretty broad.

00:40:20 - Ruth Brooks

Right? But ordinary and necessary. So obviously, is it necessary for you to have your cell phone? Yeah. Is it necessary for you to drive your vehicle? Is it necessary for you to have a home office? Possibly.

00:40:33 - Mike Mills

Especially these days, there's not a lot of people that have offices.

00:40:36 - Ruth Brooks

Officers. Right. So all of these things that are ordinary and necessary are the items that you're going to be able to deduct. Obviously, they went away from entertainment a few years ago. No more know, because people were saying, well, I do have to have a suite at the Ranger Stadium because I have to take my clients there. But the IRS says, no, you really don't. So they still allow meals, they just don't allow entertainment. But those are the kinds of things that you're just going to you can even look at.

00:41:05 - Mike Mills

Travel is one, too.

00:41:06 - Ruth Brooks

Travel is a big one. Yeah, travel. You can still do travel. And if you want to see what deductions are available, you can always go to the schedule C, which is on the form 1040, and you can look at all the different categories that are there. I mean, that's a really good place to look and say, oh yeah, I didn't think about this. And then an S corporation. Same thing. They'll have those expenses listed, but your big ones are advertising, marketing, travel.

00:41:29 - Mike Mills

And by the way, marketing covers a lot of things. A lot of things, especially if you're doing these days, a lot of people do social media marketing, especially as agents and lenders, and any video editing, any software that you use to produce your videos to point any of that stuff ordinary and necessary. Ordinary and necessary. Now, so I'm going to ask you a hypothetical, okay, I didn't do this, but I'm just curious. So hypothetically, you're a real estate professional, you're a real litur, and you are going to Colorado to look at some properties that you are considering purchasing as an investor, but also for potential clients that you have locally that are going to buy a second home.

00:42:16 - Ruth Brooks

Right?

00:42:17 - Mike Mills

Now, while you're on this trip to go visit these properties, you see two or three of them. You happen to also enjoy yourself for a couple of days as well. Let's say you fly to that location to do so. What are you looking at as far as reasonable and necessary expenses in that scenario that you could possibly so I'm.

00:42:38 - Ruth Brooks

Going to tell you that this has been a long time thing and people have done it all these years and know, go on a beach vacation, they go to Colorado, wherever. The thing is, you're going to have to be able to document the time you spent business versus personal. So if you're only seeing three properties and you're there for seven days, obviously you're going to have to allocate most of that to the personal side, right. But you are conducting business. You are experiencing the ordinary and necessary expense. So you might just take 30%. If you believe 30% of your time up there was utilized for business, then you're going to take 30% of the travel, the airfare, 30% of the airbnb or whatever. You rent all of those expenses. If you're taking potential clients that are already up there, or they come up there and you show them and you take them to dinner. Yeah, but it's going to be 30%. The meal might be 100% because you took the client, right. But any of that other incidental costs that you're incurring on this.

00:43:40 - Mike Mills

It's percentage based on how much you're.

00:43:42 - Ruth Brooks

Working versus business versus personal. You're going to always going to want to look at how much time did I spend on the business?

00:43:47 - Mike Mills

Is that associated to the travel expense as well? Like the plane ticket? You just take 30% of the deduction on that, depending on how much time.

00:43:53 - Ruth Brooks

You spent, but not 30% of your family.

00:43:56 - Mike Mills

Good point. Are there any expenses that you find with your clients that get missed that they don't include often that they could that you feel like, hey, if you did this again, all of this to be said has to be tracked, it has to be explained, you have to keep all the receipts, et cetera. But is there anything that people that clients miss on a regular basis that.

00:44:17 - Ruth Brooks

You see so not usually on those type of expenses. The key one that I see most people aren't aware of or they're not taking advantage of is the retirement. A lot of people are not taking advantage of putting away enough money for retirement. They're blowing and going. They're working their business. But if you're a single member LLC, and you set up a Sep, depending on what your income is, you could potentially write off 25% or put away 25% of that into a Sep, which is a self employed pension plan up to $66,000.

00:44:57 - Mike Mills

Wow.

00:44:57 - Ruth Brooks

So not only are you reducing your income for income tax purposes in the current year, but you're saving, saving money for retirement. And then when you take that money out in retirement, hopefully you're in a lower tax bracket. So it's a win win there. Same thing for S. Corporation. Solo 401k. If it's just you, you can set up a solo four hundred and one K, and I think they raised the 401K contributions to like $27,000 or something like that for 2024. Okay. As long as you have that W two and you have someone that can set up this plan for you, you can put it away. That and if it's a solo 401K, there's a matching piece from the business, so the business is going to get a deduction and it's going to go into your retirement account. So that's a big one that a lot of people don't think about because they're just so busy working and so busy. Yeah, there's an IRA, and I think the IRA is like 7000 or something like that. But you can do so much more than that if you're proactive in setting up one of these plans, you set.

00:45:56 - Mike Mills

Those things up correctly. Yeah, I think that is a huge one, actually. I didn't realize that myself. The key on that, too, is that when you're putting that money aside, because it's difficult for people often to save money, especially these days, everything's so damn expensive and it becomes really challenging. But you have to automate a lot of stuff and I think that's where if you do, if the money comes out before it comes to you, then you tend to not miss it as much versus trying to make yourself put it in there later. And just aside from the tax benefits of that, you get the benefit of time and compound interest because that's where the real benefit comes into play. Because when that money just sits there and it doesn't move and it gets time to grow and develop, whether it's just sitting in an index fund or whatever, I mean, whatever you can put it, you're going to get tremendous benefits just from that, right?

00:46:51 - Ruth Brooks

And you could set it up to where it automatically transfers to some other kind of account, whether it be an investment account or something. Hopefully you're going to earn something on it, set it aside and put it there. And then at year end, you're going to calculate what that sep contribution would be. You're going to calculate what your solo 401K match would be from your but you've already kind of designated and you're not seeing it, you're not spending it. That's the key with something like that is to obviously 60 is like, oh great, we're going to lower your tax bill by about $30,000, but I need you to write a check for 66. And they're like, okay, so it's not waiting till the end. I have several clients that just have an automatic draft that goes every single month to start funding their $66,000. And it's out of sight, out of mind.

00:47:41 - Mike Mills

Yeah, I'm going to need to do that for my wife, actually, because I haven't set up set for her. And it could save a ton of yes. It's just things you're like, why do we not do that? Okay, so you mentioned the home office deduction. So talk a little bit about that. Just kind of give everybody an idea of exactly what that is, what you can utilities, cable, what all the stuff that you can put into that. And then if there's any pitfalls or things, you can do it this way, but be careful. Elaborate there.

00:48:08 - Ruth Brooks

Right? Okay. So the home office deduction, it's big for a lot of people because everybody's working at home now. It's just gotten bigger and bigger ever since COVID But there are two regulations that you have to follow. It has to be regular and exclusive use. So when I say that, you can't have the game room upstairs and say, okay, well, this is going to be my home office, but we're also going to have the kids playing video games up here, and we're going to have movie night up here. Regular and exclusive use. So that's one. And then principal place of business. Principal place of business means you're going to meet with clients or you're going to meet with customers or you're going to do your administrative tasks, stuff like that. So those are your two requirements to have a business in home. Now this is where you get your pen and paper out, guys. IRS publication five, eight, seven. Okay, that is the business use of the home. It's about 30 35 pages long and it will give you everything you need to know about the business home use of your home. Now it's going to go through the two different types. There's a simplified version that they came up with I think about 2013. And then there's the regular method, which is what the utilities and things like that. So the simplified method is just $5 per square foot, up to 300 sqft. So if you don't want to be bothered with getting your utility bills and you don't want to worry about any of that, you can just figure out what your square footage is of your office and multiply it times $5 and that's your deduction. Okay? I'm talking single member LLC and sole proprietor. It's a little bit different for the S corporation which it'll go through all that in that publication. But it's not going to be as large of a deduction typically. Right, but a lot of people don't want to be bothered with that. A lot of people don't want to be bothered with depreciation component, which I'll talk about in a minute. They don't want to be bothered with any of that and they're just I want to take office and home but I just want to do the simplified method.

00:50:01 - Mike Mills

Is there anything to the statement that sometimes the less complicated your taxes are, the less likely you are to be audited?

00:50:09 - Ruth Brooks

Not necessarily. I think there are some red flags, okay? If you're trying to deduct four vehicles, obviously, and there's also random audits.

00:50:22 - Mike Mills

I think more of them are random.

00:50:23 - Ruth Brooks

Yeah, I could be pulled for a random audit. I'm a CPA and they'd be like, let's just randomly pull this person and it happens to be my husband's name or whatever. So I don't really think there's a correlation. But simplify it so you won't get audited. I'm a proponent of let's take every legal deduction you can take. I mean, obviously I'm no right way, right? I'm not going to go to jail for anybody and I don't want to go jail with you. So let's do everything legally, but let's make sure you get what you're supposed to get. So if you choose to do the regular method, you're going to have to figure out your square footage of your office space compared to your square footage of the home, whatever that percentage is. Let's say it's 8%. And then you're going to get a deduction for 8% of your mortgage interest, property taxes, insurance is typically not on your home. It's typically not deductible.

00:51:14 - Mike Mills

Right.

00:51:15 - Ruth Brooks

But you'll get 8%. Okay? Your utilities, the security system, if you're using a security system at home and then the depreciation component, the only thing I tell people is depreciation is what they call allowed or allowable people. Are like, oh, I don't want to deal with that because I don't want to have to, later when I sell the house, potentially pay tax on that little bit of depreciation that I've taken because I want to exclude all my gain. It's worth the deduction because it's allowed or allowable. So when you do sell that home, the IRS says, well, you should have taken it anyway, so we're not even going to let you exclude it. So you're going to have a depreciation component 8%, right? Not going to be significant. So like I said, IRS publication 587, I can't even say it today, 587 is a valuable resource that will help you. There are examples in there and says this person did it this way. Can they have a home office? Or this is what they're doing. Does that qualify for home office? So it's very helpful.

00:52:16 - Mike Mills

Do you feel like because you've mentioned a couple of different sections to go read before and honestly looking at, I've never even considered, which is ridiculous, but I've never even considered going to the IRS website and just being like, okay, well, what do they say about this? But when you say that that 35 page document that has all these home office deductions, would you classify that as easy reading?

00:52:37 - Ruth Brooks

It is. It's very basic. There are not technical in that. You have to be a CPA or you have to have taken 6 hours of taxation in college, even though sometimes you're usually required to do that anyway for most business degrees. But it's going to be basic. It's going to go through, here's how you qualify, here's the ruling on it. And then like I said, examples. So you can put yourself in one of those examples and say, okay, am I doing the stuff I'm supposed to do to be eligible to take this home office deduction? And it's not huge. It's really not a huge every single deduction helps.

00:53:17 - Mike Mills

Well, and that goes back to the compounding thing because this is something that people talk about in investing a lot. Whenever you're investing in anything or you're doing any type of financial transactions where you're paying someone to, like, stock trading is a good example. So if you're working with a broker and you are paying for every transaction that moves through, you're losing money that you're investing because that percentage of the fees that you're paying, you're not compounding on because you're losing that money, right? So if you take that and apply it to taxes and okay, well, this is only going to save me $2,000 this year, or whatever the case may be. $1,500. Well, if you compound that over 30 years and stick that into an account that's earning you interest, that could be a lot of money that really matters to you. So every little bit helps. And especially these days, like I set up this whole thing to begin with is transactions are hard to come by these days for realtors and lenders and the market's tighter. So every little place that you can save, keep more of your commission in your pocket is always going to be a benefit.

00:54:18 - Ruth Brooks

Right.

00:54:19 - Mike Mills

All right. So cars, so vehicles. Obviously, we talked a little bit about the full depreciation piece that we mentioned a minute ago about if it's a certain weight, you can take a full depreciation on it, which may or may not be a good idea. Depending on if you want to deduct mileage for the use, the remainder use of the car as long as you have it versus a one time deduction. And that's pretty much it. Even though it's all of it, what else is there in relation to your car? And then can you talk a little bit about the personal use versus business use and how nailed in you really need to be or how dialed in on that you really need to be?

00:54:53 - Ruth Brooks

So you're really going to want to keep accurate records. The IRS, when they come in, if they're going to come in and they're going to audit you and the vehicle expense is going to be the one they're going to look at or one of the ones they're going to look at, they're going to ask you for a mileage log every time. So I always tell my clients, I don't want you to say at the end of the year, oh yeah, I think I drove about 22,000 miles on my car and I think I used it about 75% of the time.

00:55:24 - Mike Mills

Don't think. No.

00:55:25 - Ruth Brooks

Right. So that's why the mileage apps like you talked about earlier, huge. Because you don't have to think. I mean, like I said, I'm a paper and pencil person.

00:55:34 - Mike Mills

Sure.

00:55:35 - Ruth Brooks

So a lot of times I'll just keep a little notebook in my car. And I know a lot of real estate agents that they have notebooks and they're keeping all their stuff. A lot of small business owners, they have these notebooks. Keep one in your car, keep your mileage log. If you're going to know. Here's what the IRS says. I go to the post office and I check my PO box that I use for business, and on the way I go to the grocery store. They don't really want you to deduct that grocery store. So when I'm driving for business, I try to go there and back and I try not to make any personal stops so that I can justify. I went to the post office and back and how are they going to be able to come back and say, okay, well did you really go there that day? They're not going to be that detailed, but they're going to want you need something mileage. Yeah.

00:56:19 - Mike Mills

You need to have something.

00:56:20 - Ruth Brooks

Yeah. And it's easy to do, it's hard to recreate.

00:56:26 - Mike Mills

It's just habit you have to have.

00:56:27 - Ruth Brooks

To be able to do because a lot of times if you get pulled for an audit and you have to go back and recreate this mileage log for the estimated 22,000 miles that you put in 75. That's harder. You're going to get your calendar out from last year or maybe two years because IRS might audit you two years later and you're going to be trying to recreate that. So it's just a habit you have to get into that says, okay, if I want to take these deductions and I want to have a leg to stand on when I get, when or if I get audited, I'm going to do what I need to do. And that's keeping the mileage log.

00:56:59 - Mike Mills

How far can the IRS go back and audit you? Or how far do they typically do it?

00:57:04 - Ruth Brooks

So the statute of limitations is three years.

00:57:06 - Mike Mills

Three years.

00:57:06 - Ruth Brooks

Okay. So they can go back and audit you for three years.

00:57:09 - Mike Mills

Okay.

00:57:10 - Ruth Brooks

Unless they believe that you have a 20%. I think the way they word it is a 20% reduction. You're not reporting 20% of your income or you've overinflated your expenses by 20%. So if they believe that you are hiding income or they believe there's 20% or more, they can go whenever, they can go back as far as they want. Okay.

00:57:37 - Mike Mills

Really what that is, is they're just leaving themselves an out in case they really need to prosecute somebody.

00:57:42 - Ruth Brooks

Yeah, exactly. So that's what they're going to do. They're going to go back and they're going to open up other years. If they believe that there's an issue.

00:57:49 - Mike Mills

Yeah. If they find something on your first one, you're really getting froggy with them. Then they'll say, okay, well, we can go back a little bit further.

00:57:55 - Ruth Brooks

Yeah, they will potentially. But what I've seen is if they pull somebody for an audit, they're going to audit that particular year that they're looking at. They don't always open up multiple years. They're going to open up that audit and they're going to allow it or they're going to disallow it, and you're going to be fighting them for it if you don't have that documentation.

00:58:12 - Mike Mills

And I think this is a fallacy because I hear it often about people like, I don't make enough money for the IRS to care about coming after me or whatever. And my personal argument to that sometimes is like, well, maybe. Okay, but to audit, you might take one guy one day and they might make $1,500 and they could duplicate that 1000 million times over and make a lot of money versus going after the guy that makes millions of dollars and has attorneys that they pay a lot of money as well. And it's going to take a lot longer and a lot more expense for them to get them. So it doesn't mean they will or won't, but just because you don't make a lot of money doesn't mean that they can't come after you or won't come after you.

00:58:54 - Ruth Brooks

And my thing is with my clients and I tell people this all the time. If you're doing the right thing and you've got the documentation and you know what you're doing and you're not doing things that things getting squirrely doing, there's no need to worry about that IRS letter. I mean, everybody panics. Oh no, there's something from the IRS. I'm not even going to open it. Let's just set it aside and I'll deal with it, you know, keep that in mind. And that's what us as CPAs and tax repairs. That's why we're asking you those questions. How much did you drive personally? How much did you drive for business? We want to get you the deductions, but we want to make sure you're protected, right?

00:59:33 - Mike Mills

Yeah, get the deductions, be protected and document everything. And most of the time you'll be just fine.

00:59:38 - Ruth Brooks

Well, and the other thing is we have preparer penalties. I don't know if you guys are aware of that. So if I don't ask those questions and I let you deduct these and I put it on there and I sign the return, I could potentially be up for preparer penalties and pay money. So that's why we are doing we're protecting you, but we're also protecting us.

00:59:56 - Mike Mills

You're behind too. Yeah, I don't think there's any I had another question about any other lesser known deductions here, but I'm pretty sure other than the Sep, which we already talked about, I don't think there's too much as it relates to real estate agents. Is there anything with property owners or investment property owners that are deductions that get missed sometimes?

01:00:13 - Ruth Brooks

Well, again, property owners, if you're going to those properties regularly, you're going to want to keep a mileage log for that. A lot of them don't think about that. A lot of them don't think about using their cell phone if they're contacting them. Obviously the big ones, you know, you're going to take the mortgage interest, the property taxes, the insurance, things like that. If you're covering HOA fees on a rental property, that's deductible. If it's on your home, it's not. But if you're paying an HOA fee for a property that you have rented, you can deduct that. So all of those things that are same thing, ordinary, necessary to run that rental property, those are going to be the deductions for that too.

01:00:50 - Mike Mills

And then quarterly estimated taxes. So this comes up quite a bit, especially when you have a company that you're formed because I think with S Corps in particular and LLCs, you kind of have I don't know if it's a requirement or necessary, but nobody likes to pay taxes once every three months. Nobody wants to do that. So you see a lot of people wait till the end. Is there benefits of the quarterly payments estimated on are you saving any money or is it just covering your butt? What's the gist of all that?

01:01:17 - Ruth Brooks

Okay, so let me explain quarterly payments. So as a W two earner you're going to have hopefully you're going to have federal taxes withheld out of your paycheck and remitted to the government every time you get paid, your employer does that for you, right? So the IRS says, well, why should a self employed individual, whether you're an S Corporation self employed individual or an LLC, why do they get to keep their money all year long, right? And so they're like, we want you to pay in your estimated tax liability during the year, and if you don't, we're going to charge a penalty. So that's why you want to make sure you're covering your estimated tax payments. Now there are two rules when it comes to estimated tax payment that you can make. You can use the 110% of the prior year tax. So whatever your last year's tax is, multiply it times 110%, divide it by four, and you're going to make four payments april, June, September, and January. Okay. That's going to keep you penalty proof. Okay, that's what the 110%, that's for people who are over $150,000, which is probably most of the people are talking about it's 100% if your income is less than 150. But 110% of the prior year tax penalty proof doesn't mean you're not going to owe when you file your tax return in April, right? It's going to keep you penalty proof. The other one is 90% of the current year tax. You can do either or. I call that the crystal ball. Okay? What is 90% of my tax liability going to be? I don't know. I might sell a house this quarter, I might not. Or I might sell five versus last year, same time. So a lot of times many of my clients will just defer to the 110% rule, pay that in, and if they have a rocket year that the income is going to go up and the taxes are going to go up, we meet quarterly and we determine, okay, should we increase this? Now if you think you can make more money investing it or whatever, fine. You don't have to increase it. As long as we're covering that 110% rule and we're not going to have a penalty, you don't have to pay it in, but no, you're going to sock it away and you're going to have it for April 15. So when we file the tax return and so that's what happens each year. You might have a good year and you'll see your estimated tax payments that your CPA prepares for you. They go way up and you're like, whoa, what happened here? I got to pay this much. Not only do I owe for last year, I got to make my first payment in April. And then you might have another year where the income is down a little bit, so your estimated tax payments go down. So one little story that I like to tell most of my clients is I had a client years ago, and he didn't like to make the estimated tax payments. He was like, I'm not going to be bothered with paying in April, June, September, and January. So around December 20 eigth or the 30th, he just grabbed this number out of the air, and he'd send it in. Okay, well, when we filed his tax return in April, he actually had an overpayment because he paid in too much, but he had a penalty, so it.

01:04:13 - Mike Mills

Ate up his overpayment.

01:04:14 - Ruth Brooks

It took part of his overpayment because he didn't pay a fourth of it in April, a fourth in June, a fourth in September, and fourth. So that's what the IRS was like.

01:04:21 - Mike Mills

Oh, okay, now I get it.

01:04:23 - Ruth Brooks

The IRS says you're not going to keep your money all year long. You're going to pay it in, or you're going to give us a penalty. And I'm a firm believer that the IRS does not deserve penalty money.

01:04:32 - Mike Mills

Right?

01:04:32 - Ruth Brooks

Okay.

01:04:32 - Mike Mills

Right.

01:04:32 - Ruth Brooks

They get enough for the taxes, give them penalty money if we can avoid it.

01:04:37 - Mike Mills

So the big thing with those in is the reason they're there. It's not just because they want to make you pay. It's that if you don't pay your estimate correctly, you're going to pay penalties for it.

01:04:44 - Ruth Brooks

Right?

01:04:45 - Mike Mills

Yeah. There's always a purpose behind all of it. Right. If you don't do it the way they want, then you're going to be in trouble. All right, so we're already in over an hour here and went by really fast because I was fascinated by this. I know everybody say we're fascinated by taxes. I really am. I'm fascinated by this. So at what point being a CPA who gets paid to prepare and all this kind of stuff, but if you're talking to your son or your daughter or your sister or brother, at what point does somebody need to have a professional working with them to help them prepare versus pretty simple, pretty vanilla. Go to TurboTax, go to whatever, and they can walk you through it pretty easily in the cost where do you feel like the cost benefit kind of offsets?

01:05:28 - Ruth Brooks

So I think that if you are paying somebody to do your taxes for you, to help you with the accounting, to help you with all of those things, this gives you the time to do what you specialize in, right? So if you're going to pay a little bit of money for somebody to do your taxes, then you have those extra hours to go and try to get another client, drum up some business, go to the marketing events, those kinds of things. And I don't really know that I've ever seen a small business person say, hey, I can't wait till this weekend because I get to do my taxes, because that's something that people just push off. So in my opinion, if you are in the point where you think, I don't think I'm getting the benefit of all that's out there, for taxes. And like I said, I don't know it all, but I don't think I'm getting the benefit of everything that's out there. That's when you're going to want to go see a CPA and I'm going to tell you the best time to go see a CPA is before you start. Before you start that business, let them help you be proactive in doing the right things for the mileage of a home office, all of those things. If you're already in the business and you've been doing it yourself year after year, if you decide to use a CPA, I'd say go to them before year end because once the year ends, there's not a lot we can do. It's done.

01:06:49 - Mike Mills

Yes.

01:06:50 - Ruth Brooks

So doing some tax planning, if you have an S corporation determining if there's a bonus check that needs to help pay that estimated tax payment that you missed because you can build it into your w two, do those kinds of things so that you're not penalized. But before year end it's key because once you come to us after the end of the year, it's just cranking out the numbers. I always tell people if they come to me and they're just w two employees, they don't have any side businesses or anything like that, I tell them, you can probably get it right using TurboTax or one of those other softwares. You probably get it 95, 95% correct. But if you're in a business situation, I think it's invaluable to have somebody, a tax preparer or a CPA helping you out getting those deductions.

01:07:34 - Mike Mills

Yeah, like you said, you're good at whatever it is that your business is. And I use doctors as an example all the time because we'll have doctors come through purchasing homes and they'll send me their tax returns. And I'll look at them and like, man, this is a train wreck. And for the purposes of their taxes, they may be writing off a lot of their income, but for them being able to buy a home, it's going to be a different circumstance. And it's because they're really good at being doctors and they're really good at that, but they're not really good at necessarily running that business and structuring it correctly. So what would you recommend to somebody to ask a CPA when they sit down and interview them the first time? What types of questions and what types of answers should they get that don't throw up any red flags and go, okay, this is the right kind of person, or I think I probably need to talk to somebody else.

01:08:24 - Ruth Brooks

Well, I would ask them how long they've been in the business. Obviously, that's going to be key. Obviously you're going to learn stuff in school, but half the stuff you learn in school you don't carry forward. Know how many tax returns they prepare. Are they knowledgeable in the different types of entities? Are they knowledgeable in the deductions that are eligible for an S Corp versus an LLC because the home office deduction is a different calculation for an S corporation than it is for a single member LLC. I would sit there and if they're saying, oh, we can get you all your money back, obviously superlatives that are being sorted a little bit of a red flag for me. And you see people like, oh, well, if you come to us, we'll get you every dollar. Yeah, everybody should be getting you every dollar you're entitled to.

01:09:19 - Mike Mills

Job.

01:09:22 - Ruth Brooks

Just kind of see if you're comfortable with the answers that he's giving you, whether he or she is giving you, whether is this something that they're really pushing that okay, we can definitely save you taxes because we can skirt the law, or I'm a conservative one. I'm going to get you every legal deduction, but I'm not going to be that one pushing the envelope. I am not going to be that one that's going to let you take four vehicles when you're only driving one.

01:09:51 - Mike Mills

You're not dancing in gray areas is what you're saying.

01:09:54 - Ruth Brooks

Yeah, I use this funny joke, and I don't know if it's beneficial here, but I always tell people I don't look good in orange, so an orange jumpsuit is not my idea of fun. So if you want someone to go to jail for you, you find someone else who looks good in orange.

01:10:10 - Mike Mills

Well, and I think it's important, too, because I've experienced this in talking with different CPAs under different circumstances is I run into a lot that are just like, well, just give me your stuff and I'll take care of it. But I have some questions. I want to know what I'm doing here and when they're not willing to take the time to answer those questions for you or explain things a little bit, I think that's a red flag to me because anytime you're dealing with someone's finances and you're dealing with potential for audits. Yes, audits and things regarding the police and the federal government, I think you probably want to have a pretty good understanding and feel confident that the person that is doing it knows what they're doing and is willing to answer those questions. Because if they're not and they just send me your stuff and I'll make sure it's taken care of, I would definitely caution against that myself.

01:10:58 - Ruth Brooks

Well, and one thing that I will note on that I have a lot of clients that I've never even met face to face, sure, but because I've gotten a referral from someone and they work for this company but in a different state. But I'm always going to ask for your prior year tax return. I want to look at last year's tax return, not because I want to look for errors, not because I think somebody else did it wrong, but I want to look and see if there's some carryovers that I need to add to this. So if they're not asking you for last year's tax return. They're not going to make sure if you have capital loss carryovers, they're going to miss it, things like that. I want to see what kind of if you have rental properties. I want to see the depreciation schedules, what they've been taking for depreciation so we can make sure we're continuing that depreciation and get the gain calculation properly done when you sell. If I get a new client, I always ask them, let's sit down. Let's talk about what you want, whether it be on the phone or whether it be in person. Let's talk about what you want to achieve with this new relationship that we might potentially have. We both want to help each other out. You want me to help you prepare your tax return, but I want to make sure that I'm doing what's right for you. And if I find someone who is not going to be beneficial for me, I'm going to tell them, I'm not going to charge you the money just so I can have another client. I want you to be comfortable with me as well as I'm comfortable with you. And there are times as a CPA and a tax preparer, you'll fire a client because you're just not on the same page.

01:12:31 - Mike Mills

Yes.

01:12:31 - Ruth Brooks

And you have to be okay with that.

01:12:32 - Mike Mills

You got to cover your butt, too, because you can't be getting in trouble with anybody, and they're not doing things the right way. Well, Ruse, this has been awesome. It's been a wealth of knowledge. And like I said, I'll probably have to go back and watch this a few times because I got to make my own notes and make sure I don't get myself into any trouble. Because my wife and I are both in real estate and we have all kinds of fun things going on. So I can't thank you enough for coming in and going through all this, and I definitely will probably have you back someday too, because there's always more questions about taxes, and you've been incredibly eloquent with everything and explained it very clearly. I don't feel like my head's swimming too much, other than I'm sitting here going, man, there's a few things I need to take care of.

01:13:10 - Ruth Brooks

That's what I need to do now.

01:13:11 - Mike Mills

That's right. So before we go, is there anything you want to leave us with or anything that you would say just to wrap it up?

01:13:18 - Ruth Brooks

Well, I just really want to say thank you for having me. It's been great. I've really enjoyed it. I hope your listeners gain some really valuable information from Know. Like I said, IRS is a good website to go to. You can find some answers out. You know, most CPAs are pretty knowledgeable and just reach out to somebody. Reach out to your attorney, make sure you're doing the things you need to do to cover yourself liability wise, but also tax wise.

01:13:47 - Mike Mills

Well, if you guys want to make sure this is the time, right? Because when we're at the end of the year or almost at the end of the year, you need to get yourself set up for next year so you make sure that you're covered and have the structure in place for 2024 so that way you don't run into any issues. So now's the time to start. Don't call the CPA on April 1 and ask them how to set everything up because they're not going to have.

01:14:10 - Ruth Brooks

And here's my shoebox, too, of receipts.

01:14:13 - Mike Mills

Yes. Here's my shoebox of receipts right before everybody else on the planet is starting to file their stuff. All right, guys. Well, I appreciate everybody sticking with us. I hope you all have a great weekend. Still thrilled about my Texas Rangers winning the World Series and be celebrating this for the next month, probably for the next year. Yes. Well, I'm pretty much going to be wearing a Rangers shirt every day for the next 30 days, no matter what. So thank you so much, Ruth. I appreciate your time. And we'll be back next week. I am on my market update that's coming up on Monday. I'm really going to kind of dive deep into the Nar situation. There's been a lot of stuff that's happened. They've reached verdicts. The judgments have been issued. So I'm really going to kind of dive into that. So tune in for the market update on Monday if you want to find out a little bit more and how that's going to affect your commissions, because it is. Otherwise, I will see everybody again next week. Thanks a lot.

01:14:59 - Ruth Brooks

Thank you. Bye.