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Hey there, fellow real estate investors, FIRE enthusiasts, and tax aficionados! Welcome to "Real Estate is Taxing" – your go-to weekly podcast for all things real estate taxes, hosted by Natalie Kolodij, EA- Real Estate Tax Strategist and dry humor extraordinaire.
Each week, we're breaking down complex tax topics into bite-sized, understandable explanations, with no regard for how many obscure references it takes to get there.
Speaker: Welcome to Real Estate is Taxing,
where we talk about all things real estate
tax, and break down complex concepts into
understandable, entertaining tax topics.
My name is Natalie Kalady, I'm
your host, and I am so excited
that you've decided to join me.
Microphone (Shure MV7): Hello.
Hello everyone.
We have just made it past the
first fall extension deadline.
Any 10 65 partnerships or
1120 S S corporations were due
on September 16th this year.
So we've just passed that hurdle.
And part of what I realized this year
is that there are a lot of people who
don't know they've created an entity.
They're not aware that
they have a partnership.
I've talked about this before.
Or there are people who create the
entity, they create a partnership
or they create an S corporation,
but they don't really know.
Or their tax professional.
Didn't give them a good rundown
on what the differences.
On what is required for filing
on what will be different
because you now have this.
So if you are someone who has a
partnership or an S corporation, and
you do not have formal bookkeeping,
you don't have full QuickBooks,
you don't have a bookkeeper.
Then this episode is for you.
So I will note if you are using
Tessa for your rental properties
and you have a partnership.
This is not formal bookkeeping.
It's not a true book, keeping
a true double entry platform.
So while Stetsa is great for keeping
track of a profit and loss of
just keeping track of your income
and your expenses for a property.
Once you move into a separate tax return.
Once you move into a 10 65.
Partnership filing.
There's more information
we need to keep track of.
And It doesn't do this very well.
So for today's show, I'm
going to just talk through.
Some of the differences, like why we
need more information for these returns.
And what information you guys
should start gathering now.
To help prepare for the upcoming
filing for the 2024 tax year.
So I'm trying to give you a little
bit of a headstart it's quarter four.
So you have time to either.
Find and hire a good bookkeeper to help
you get books before the end of the year.
Or time to start gathering all
of the information I'm going to
talk about so that you have a
jump on all of the information
your accountant is going to need.
if you go to a tax professional
and they're not asking for all of
this information, While they might
technically be doing your tax return.
They're doing it in
the most surface level.
Numbers on forms way possible.
What kind of talk about
that a little bit more.
But I recently had a new
client who went to a large
well-known tax and attorney firm.
And last year for their entity return,
where they didn't have full books.
They just had the client
complete an organizer.
So they just used whatever
information he told them.
Whatever amounts for bank, account
balances, et cetera, they did
not ask for any of the actual
documents to check any of this.
And if that's the case.
There's close to a 0% chance.
Your return is accurate.
So let's dive into it.
Let's start off with What happens when you
create a partnership or an S-corporation.
Microphone (Shure MV7)-1: The first
thing that I want people to consider
when they are creating a partnership
or creating an S corporation.
Is this creates a whole
new, additional tax return.
So there's a whole separate filing.
And even though something might not
have changed with your business last
year, you might've had two rentals
and they were on your personal return.
And this year you have two rentals
and now they're in a partnership.
There's a whole additional filing.
And entities require more information.
There's more we have to track.
There's more you have to do.
So the first consideration, I want you
to be aware of if this is going to be
your first year with a partnership or an
S-corp is it's going to cost more money.
If you go somewhere to
have your taxes done.
Microphone (Shure MV7)-3: Now
how much more it's going to cost.
That I can't say for sure,
because different firms, different
locations, different levels of
expertise or specialization is
going to impact that pricing.
But like with anything there's
going to be higher end and lower
end and everything in between.
The same way you can get a steak
at an Applebee's for 8 99, or you
can go to a Ruth Chris and pay 89.
It's across the board.
The price point, I most often see for
entity preparation at better tax firms
is going to be a minimum of 1500 to
$2,000 per return for just the filing.
So keep that in mind.
When you're looking to create an
entity or switch over to being
a partnership or an S-corp.
Kind of pencil in that ballpark number
into your mind as an additional cost.
And that number tends to surprise
people when they have multiple entities.
I think because the big picture price
point can add up really quickly.
And it's not expected, but if you look at.
One of the commonly well-known
self prepare softwares online.
You can do your own entity return.
It costs $800 for you to do it
yourself with their software or 1750
for you to have one of their quote
tax professionals, do it for you.
If it's going to cost you
$800 just to do it yourself.
If you're going to a firm and an
expert is doing it for less than that.
To me, that would be a
little bit of a warning.
I would just be a little cautious there.
Microphone (Shure MV7)-4: So now you're
aware of the additional costs that can
come into play for just the filing.
What else might you run into?
Well, the next consideration.
Is that bookkeeping and tax preparation
are typically separate engagements.
So, if you are expecting to give
someone a pile of receipts and
bank statements and all of that.
And have them organize it into categories
and make sure everything ties together
and then use that ending information of
total costs for all of your different
expense categories to then prepare
a tax return that is bookkeeping.
So if they're starting with
raw information, that's not
organized at all for the whole
entire year, that's going to be.
An additional cost.
That would be a whole separate cost.
So be aware of that.
So if you do not have formal
bookkeeping, you don't have
QuickBooks and a bookkeeper.
At very least you will want to
make sure you have the following
information together ahead of time
for your tax professional, unless
you are also intending to pay.
For bookkeeping If you don't want to do
that, you're going to want to listen on,
because these are the bare minimum of
what you should start organizing now.
So the first consideration,
which you should always have, if
you have a business or rentals.
Is a profit and loss.
So no matter what kind of business you
should have a profit and loss, if you
have rentals, this should be sorted by
each property will need to note total
rents or total income for that property.
And then a breakdown of all of
the expenses by expense category.
And for these categories, you can
look at a schedule E on the 10 40 or
an 88, 25 on a partnership return.
And that will give you a
good example for breakdowns.
In addition to just
having a profit and loss.
Another common question that comes
up is repairs versus renovations.
When does it get capitalized?
You don't have to figure that out.
That's what you're paying
a tax professional to do.
So you can put the total number
into your repairs account.
You can have that in there.
And then when you give it to
your tax professional, just make
sure they have the details of
what that number is composed of.
Microphone (Shure MV7)-5: So the next
item is really the big difference
that creates a lot of this extra
tracking and information needed
for a partnership or an S-corp.
And that is a balance sheet.
Your balance sheet is
exactly what it sounds like.
It has to be in balance.
And it's a snapshot of everything
at the end of the year.
a balance sheet lists your assets,
your liabilities, and your equity.
And as long as these are
all correct, your assets.
Should equal the same amount as
your liabilities and your equity.
This is what makes it very hard to prepare
one of these returns, a separate entity
tax return without actual bookkeeping.
Because when we are trying to piece this
together without formal bookkeeping,
I can almost guarantee that that is
not going to balance on the first try.
Now there are requirements for when
an entity has to have a balance sheet.
It is my preference and it is my
belief that you should always have one.
Because it is that check system.
It is what proves that
this return is in balance.
And that it's correct.
So it is a good practice to always
have your balance sheet, even if
you don't technically need it yet.
The other reason is because you
might cross that threshold to
suddenly need at one year where
you are required to have it.
Microphone (Shure MV7)-6: And with
the information on the balance sheet,
it's really something that is much
easier to track on an ongoing basis.
Then to try to recreate the
entire history of in one year.
When it is now required to be done.
Microphone (Shure MV7)-7: So now
that we've covered the big picture
items related to these returns,
it's going to cost you more.
You're going to need to have accurate
records and you're going to need the
information to create a balance sheet.
Let's go into what that information is.
What will you need?
And what should you start thinking
about now and getting information
and creating a checklist now.
To know you have everything to provide
your tax professional with in a few
months to do your 2024 tax return.
So again, a balance sheet is made up.
Of assets, liabilities and equity.
Let's start with assets.
For your assets.
What we are going to need is a snapshot of
all the asset amounts as of December 31st.
if you have several different bank
accounts for your partnership or your
escort, You will need to provide your
accountant with the year end bank
statements for each of those accounts.
They need to know the total amount as of
1231 that you have in any bank account.
Now a caveat to this is
many bank statements.
Do not end on the 31st.
So if your December bank statement goes
through December 23rd, And then your
January bank statement technically has
the information from December 24th.
On through January 23rd.
You will need to give your tax
professional December and January.
Because they are going to need the
information for all of December.
That's on the December statement.
But then also those few days of
transactions that could occur
the last week of December, but
end up on the January statement.
So they need to be able to
create a tied out total.
Of the amount that would have
been in every bank account of
that business as of December 31st.
They are also going to need a
balance for anything owed to you.
Microphone (Shure MV7)-8:
So if your company.
Loaned someone else, money or sold
something on financing, like an
installment sale to a new owner
that wasn't inventory or goods.
Anything of that nature, where
there's a loan that your company
should be receiving payment of
that should be listed as an asset.
There might also be some escrow
amounts for items that you've
basically prepaid in to your rentals.
You prepaid to have an amount kind
of in an account that your mortgage
company is holding, that they will then
use to pay your insurance and taxes.
You'll need that amount.
So your accountant is going to
need your year end loan statements
for any of your properties.
To be able to tie out those amounts.
And then one of the common assets
that you'll see on a balance sheet
is going to be the real estate.
So if you have rentals and they are
in a partnership, They hopefully
are not in an S corporation.
That's a whole nother show.
If you have rental properties,
the year end balance sheet
will list the asset value.
So that's going to be their starting
basis and increased by any other
renovations or things like that.
And then it's also decreased by
the amount of depreciation that
has been taken up to that point.
So all of those things tied
together should create your year end
asset amount for a balance sheet.
Moving to the lower half of the
balance sheet of schedule L you
will have your loan balances.
It is important to note that the
amount on your 10 98 is not the
year end balance for your loan.
So even if you gave your tax
professional, 10 98 for your
mortgage interest, That will likely
not have the correct loan balance.
So make sure they have a loan statement
for each of your mortgages that go
to each of your rentals, that list
the amount as of December 31st.
Microphone (Shure MV7)-9: You will also
need your end amounts for any other
loans that the company is liable for.
So if you loaned your company money
and it's documented on a formal
note, it is recording interest
and it's expected to pay you back.
You have a shareholder alone
or something like that.
That would be listed as a liability.
If you have credit card balances,
that's also a liability.
Similar thing here to the bank statements.
Your tax professional will need
to know the balance on any and all
credit card accounts for that company.
As of December 31st.
So they will need that year
end credit card statement.
And if it straddles two months
where the December statement
ends on site, December 23rd.
They will need the December and
January credit card statements.
Also under your liabilities
will be security deposits.
You're holding from your tenants.
When you collect that security
deposit and you just are holding
it until the point they move out.
At that point, it is listed as
a liability to you because you
technically owe it back to them.
Until they move out and it's
sorted and you get squared up
with any amounts you're keeping.
So the year end amount of security
deposits you have as of December 31st.
That needs to be listed as a liability.
And that needs to be an amount that
you provide your tax professional.
Microphone (Shure MV7)-10: And the
final piece of the balance sheet
is going to be our equity section.
This is arguably the trickiest section.
Because there's a lot of pieces
that come into this that can be
kind of mixed up or confused.
Most of the assets and liabilities.
Our amounts that we can
pretty accurately confirm.
Right?
We can look at a year-end statement.
We know that is the amount of a loan,
or we know that's how much is in the
bank, but with equity, this is where.
You having this warning that you
have quarter four here to start
putting this information together.
This is going to help you
make sure your equity section.
Is accurate.
this section of the balance sheet.
Ties together, a few different things.
It is going to be the net amount.
Of your net income or
net loss for the year.
It's also increased.
By contributions during the year, as in
money, you have put into the business.
And it's reduced by any money
you took out of the business.
make sure you have a running tally.
Of literally any money yourself
or any of the other partners, et
cetera, or shareholders, if you're
an S Corp, any amounts you put
into the company or any amounts you
each had taken out of the company,
make sure you have a tally of that.
This is often something
that is constructively done.
So what I mean.
Is that pretty often what I
will see with a partnership.
Is where the partner doesn't
actually put in money.
They're not taking $5,000 of cash,
putting it in the company bank
account and then paying for something.
Which is what you should do.
To help maintain that separation
between yourself and your business.
What we often see instead
is a constructive amount.
Meaning that if you personally.
Say you want to get a points bonus
on a new credit card you have.
So you decide to pay for
that $5,000 renovation.
On your rental property.
Using your personal credit card so
that you can hit that points bonus.
What that now means is you have made
a contribution into the business.
So without that information.
Your balance sheet wouldn't balance.
If you had that $5,000 expense
on your profit and loss.
That is.
Decreasing your income for the year.
But we're missing the other part of
it, which is how it was paid for.
So, if you ever pay for something that
is an expense related to a property or
related to that business, that entity,
that partnership, or that S-corp.
If you ever pay for that personally,
either out of your bank account or
on your credit card or your parent
pays for it for you as a gift.
If anything other than one of the
accounts that you've given your
tax professional, those year-end
statements for if the payment for
an expense came from anywhere else.
That is going to basically be
considered a contribution you put in
money to the business from something
you had outside of it, right?
Whether it was literal cash.
Or you paid for something on its behalf.
That needs to be recorded.
As you contributing something,
contributing funds have some
constructive way into the business.
And again, You shouldn't
be doing it this way.
People go through a lot of effort to
set up these separate entities and
LLCs for protection and this and that.
And once you start intermixing in
this way, it basically piercing
that veil separating the two.
So try not to do this.
If you ever need.
The business to pay for something, but it
doesn't have enough money in the account.
You should put in the money to
the business account and then
let the business pay for it.
But again, This often doesn't happen.
So if at this point you're listening
to this podcast and realize, oh crap,
I have actually paid for several
things this year on my personal credit
card, or it was just easier to buy
it all together on one transaction.
When I was at Costco, et cetera.
Make sure it is recorded as a
contribution into the business.
The same thing is true.
If the opposite happened.
If you took money out
of the business, right?
You just withdrew a thousand
dollars because you had more
than enough reserves in there and
you wanted to access some of it.
That's totally fine.
That's not a taxable event.
Most of the time.
But your account needs to know
that you took funds out of the
business to yourself personally.
They just need a record of that.
Same thing.
If it was constructively done.
If you decided to pay for your
personal taxes out of your business
account, we see this really often.
If your business sends the IRS
a check for your personal taxes.
Then that is a distribution to you.
That's not a business expense.
That's the same as the business, giving
you the $10,000 and then you using it
to pay for your taxes or anything else.
So anything that was paid for out
of the business bank account or
using a business credit card or
just money you withdrew out of it.
All of that needs to be listed.
As a distribution as funds you removed
from your partnership or from your S-corp.
This is where the vast majority
of business returns that do
not have actual bookkeeping.
This is where the
mistakes are going to be.
Is people do not typically keep track of
that money in and money out, especially
if it's one of those creative ways.
So again, this episode is your warning.
You've got three months left
till the end of the year.
Go ahead now and start going back
through your transactions for the year
and putting together that transaction
log of money you put in or money you
took out same with any of the other
partners or shareholders, any money
anyone put in, or that they took out.
Or anything you paid for, for the
business as listed as money in.
Anything the business paid for on
your behalf is listed as money out.
All of that is required for
that balance sheet to balance.
The last item to talk about related to
an entity return and keeping an accurate
balance sheet and what you can start
keeping track of now to get you ahead of
the game is if you are doing flips, things
are going to be a little bit different.
If you are a house flipper or you are a
developer you're building properties or
renovating properties to resell them.
A lot of the information related to
this will be on your balance sheet.
Until that property is sold.
The purchase price of that property.
All of the renovations that went into
that property, all of the holding costs.
Those are all added together.
Into an asset account on the balance
sheet, it is effectively a piece
of inventory to your business.
If you have multiple flips going at once.
Each individual property should
be listed as its own asset.
And you should be keeping
track of each one separately.
So all of the costs that relate
to your properties that are a
flip or a construction, a new
build while it's in progress.
Those are all a balance sheet amount.
Those are all listed as an
asset on the balance sheet
and are effectively inventory.
Once that flip or that new
build once that is sold.
That amount of inventory, that total
of all the costs that went into it.
That's when it moves off of your
balance sheet, it gets zeroed out on
the balance sheet and that amount gets
moved over to being a cost of goods sold.
So then you have everything
matched up in the year.
The flip is sold.
You have your profit, your gross sales
price on this flip, and then you also
record all of the costs against it.
That's when it moves over to being
expenses as a cost of goods sold.
If you are someone who is doing
new construction or flips, Your
tax professional will need the
purchase documents for the properties
you bought during the year.
They're also going to need
the purchase documents for any
properties you sold during that year.
And they will need to know the total
amount of costs that went into that
property during that year as well.
So the total amount of renovations
and holding costs for each
property as separate amounts.
All of that is going to go
into your balance sheet.
If you have a property.
That is purchased in one year
and not sold until the next that
inventory amount carries over.
It is on your balance sheet as
ending inventory for the first year.
And then it carries over to starting or
beginning inventory for the next year.
So if you are doing house flips and you
do not have formal bookkeeping, You will
need to be diligent about keeping track.
Of each of your individual
projects, each property.
And the purchases and the
amounts that go into it.
For each year, that all has
to be tracked specific to each
property on an ongoing basis.
And that's going to impact.
Your balance sheet.
At the end of the day.
If you are someone who has a
partnership or an S corporation.
I strongly recommend.
Having actual bookkeeping.
at my firm, we require full
bookkeeping for anyone who
has one of these entities now.
I know a lot of other firms do as well.
But if you don't and if it's not
in the cards right now, this is
what you are going to want to
start getting together, to be able
to provide your tax professional.
With everything they need to do your
20, 24 taxes for that entity return.
So again, the quick and dirty rundown.
Is there going to need a profit and loss.
So all of your income and
expenses for the year.
If the entity has rentals.
They'll need a breakdown by each rental.
The tax professionals also going to
need a summary of all of your assets
and liabilities as of year end.
So this means all of your bank statements
that would show a December 31st amount.
This might require December and January.
And any amounts for new assets that you
purchased, whether that is a new property,
they should have the purchase documents.
If you put in new renovations, they
should have that total, et cetera.
So the total amount for any new assets
during the year needs to be added as well.
Okay for your liabilities.
Similar thing on this side.
Your tax professional will need.
The year-end balances for any loans
and any credit card statements.
The amount of the loan listed on your
10 98 for your mortgage interest.
That is not the amount they need.
They will need the loan statement that
shows the December 31st amount of the
loan that will likely also show your
escrow account information as well.
Credit card statements, same thing here.
They need that December 31st amount.
So it's likely you will need to give
them both your December and your
January credit card statements for
all cards that relate to that entity.
And you will also need to provide them
with the amount of security deposits
that you currently have at year end.
That you are holding
from any of your tenants.
Also any other payables.
So if your company owes you
money or owes anyone else money.
That needs to be listed on the balance
sheet, as of what that amount is
for December 31st, your accountant
will need that amount as well.
And then for the equity section.
Go back now and start creating a
log of any money you or any of the
other partners or shareholders.
Create a log of any money that was
put into the business during the year.
Or withdrawn or taken out of the business.
And this includes anything constructive.
Such as you personally paying out
of your personal bank account for
something that related to the business.
If the business paid for something
that is a personal expense to you.
That is the same as you withdrawing
funds from the business.
So start going through and
creating that running tally now.
Of anything that you or anyone else
who's in the company has put in or
withdrawn either directly as funds or
constructively through paying for on
behalf of the business or vice versa.
Microphone (Shure MV7)-11: So I hope
this helps you guys get a little bit of
a headstart or a little bit of a better
understanding of what needs to happen.
If you now have a partnership or an
S corporation for the current year.
And I can't stress this enough.
This is the time to start getting
this information together.
This is the time to start
looking for a good bookkeeper.
Waiting until tax season is not the time.
Microphone (Shure MV7)-12:
As always, I hope you found
some value in today's episode.
And if you can think of someone, you
know, who started a new partnership
or an S-corp this year, and they
seem a little bit lost in the sauce.
Please send this to them and hopefully
it'll give them a little bit of clarity
on at least what information they need to
start getting together so that they're a
little better prepared come tax season.
So thank you guys again for listening.
And if you have questions, please
join us in the Facebook groups.
I've got them linked
below in the show notes.
And as always, I will
talk to you next week.
Mhm.