Legal and Tax Considerations in Real Estate Investment | Mastering Real Estate Ep. 6

Hello again. We're back with video number, wait, hold on. Extra fingers, number 6. We're going to talk about, right? Do you have 6 fingers, Charlie? Let me—

I'm good. I'm good.

I got concerned when I saw it went really weird. This one's about legal and tax considerations, which makes a lot of people bug out. And this one's probably should be one of your favorites. So if you're making enough money to own rental property, you're probably getting up higher and higher in the tax bracket for income. Taxes. So this is where the government incentivizes you to be a landlord, to own more properties. They actually help you by giving you tax breaks based on those properties. And there's a lot of different ways there's tax breaks by owning a rental. So it should get you very excited to know about those tax breaks.

Yeah. Yeah. So I was going to say, yes, this is another way to really just maximize your asset and your value. And there's some legal things you can do to protect your assets and for tax planning. And what it ends up doing is it reduces your liability and it optimizes your financial outcomes at the end of the day. When we talk about this is one of the four revenue streams, the tax deductions and legal. And if you remember in the, I think the very beginning we talked about the four different types of—

you should throw them again. Let's do it again.

So the first is you use a strategy. The first is you gain equity. The second is that maybe at the right off the bat, or eventually you're going to have cash flow. That's because the mortgage is less than the rent you're getting paid. The third is the tenant is actually paying off the asset. And then this is the fourth one, tax deductions. And that's one of the really cool things about this is Again, you've got the 4 revenue streams and these tax deductions that, that can be real money in your pocket. Tony Ray Baker, share about the tax person that you hired that got you over $10,000 in, in one year.

Yeah. So I, like everybody, we all try to do our own. Oh, not like everybody. I, most of my friends all try to do their own taxes when they're younger. We try to get by and do 'em, and it makes sense when you're doing the simple Easy Form and you learn taxes and you do the Easy Form and you're not doing deductions, but there's a place where you're making more money or you have more things. So that could be tax deductible. Owning your own home. Now there's a bigger tax deduction. Having children. There's things that cause that maybe we should get a tax person, right? And so I had moved onto, it was something like a TurboTax program, one of those, and did it myself. And I was all proud of myself and I still, but I cussed and fretted every month before, was like the month before tax day. You're like, ah, and then you procrastinate it until you do it. And of course the weekend you decide to do it, everybody's going out to play and you miss the event. And so I got frustrated with doing my own taxes, so Seems like I always set myself up for missing out on something when I was doing my taxes. So I finally broke down and did hired someone like an H&R Block type company and they did a perfectly fine job, but that's all they did was a perfectly fine job. And my tax bracket was getting higher and I had a house and I needed better, somebody paying more attention. So somebody, a friend of mine, one of my clients said, hey, you really should talk to this guy. He's an EA. He's a CPA and an EA. And I was like, what the heck is that? So I knew a certified public accountant guy. I knew what that was. I knew it was a, a definite step up above an accountant who basically usually manages numbers for you. This person's a tax accountant, right? And then I was, and an EA, what's that? So they told me it was an enrolled agent. And that means that, and I'm not perfectly understanding this still today, but apparently they can talk directly with the IRS. They are an enrolled agent with the IRS. So that means they are considered, if the IRS will answer the phone for this person, it's because they know that this EA who understands the law, the tax laws better than anybody else in the United States. They get it. They're in it full-time all the time, and they legally get it. So then I went, of course, in my brain at the time, ah, I need a CPA. How much is that gonna cost me? And my friend was like, you will save money more than this person costs, so do it. So I think I was paying $300 at the time to get my taxes done and the EA was $500. And so the EA grabbed almost twice as much, almost twice as much.

How could you afford it?

One thing that made me feel better immediately was you get to write off the EA in the following year. So I knew I was gonna write off that bill. That was, that made me feel better. But the irony is that the EA looked at my, wanted to get to know my portfolio. So took my past couple years of taxes and analyzed those and then did my taxes for the current year. And the EA called me into the office and to do the, to go over everything. And he said, bad news is you owe this amount for this year. Good news is I found $10,800 you left on the table. With your last guy. And I'm like, why is that good news?

Oh my God.

Well, I lost $11,000 and he's nope. The good news is I know the laws and how to get that money back for you. So not only did he pay for himself for the rest of my life with him, he's like, pay for it. And one flip, he paid for all of my fees with him. And I, and, and he's done that for me every year. He knows the rules. And so If there's any little tax deduction to be found, the EA finds them. So I will say this is another place where you want to hire somebody who's 10 years or more in the business. They have all the degrees, they have an EA behind their name. This is important. You, these people can save you tons of money. The other really cool thing is EAs, their clients are rarely ever audited.

What?

How cool is that? Because they— the IRS knows how great these folks are, that they follow the rules, they never bend the rules, that they— and they know the laws well enough to give you the right deductions under the law. And that's a really cool thing to know. You have an EA on your side. Yeah, I just say CPA/EA, that's the person we're looking for. I have an EA, I have a couple of them I recommend that are just amazing.

So yeah. And so what's cool about that is this is the fourth type of revenue stream, and that was $11,000 in your pocket that year. That's real money from tax deductions. If you didn't have your assets. So let's go through that. You actually gained equity that year. You either, you either cash flowed or got closer to it. The tenant was paying off the, the asset. And on top of all that, you got $11,000 in your pocket. Like, that's amazing.

It was a, it was a steak, it was a steak dinner night. Yeah, we're going out.

Great steak dinner.

Yeah, champagne.

Yeah, maybe even two.

No, let's not get crazy.

I've found that my clients and friends that have the most properties usually pay the, the least in taxes. Because you're incentivized, especially based compared to—

wow, it's crazy. Yeah, it's just crazy how important this is. And I— now that we're on video 6, this is amazing to me that the common thread that keeps coming back for me is in real estate law and surgery— taxes, real estate law, and surgery— hire someone that's been in business 10 years or more. Hire someone that has been in business not only 10 years or more, but absolutely full-time and has handled your situation hundreds of times. Because for example, a real estate agent who is in the business 10 years but only sells one house a year is not the same as an agent who deals with 50 to 60 contracts per year. It, that's not the same. You want You would never hire a surgeon on their first day in. You, you really want to have somebody with experience. So the common thread through all these videos for me that keeps just comes up again is you gotta do your homework. You gotta get somebody to refer you the right people. You have to pay attention to these things before you jump off and start. You're gonna set yourself up for the win. If you do your homework, if you do this right. And I think that's where I've been super successful in my life is, is I pay attention. Even before I went to RE/MAX, it was funny because before I even moved to my broker, RE/MAX, I did a year's worth of analyzing and homework to make sure that RE/MAX was the right fit for me and my clientele. And that's important. There's a, there, each broker has a different thing that makes a better fit for you and your clientele. And RE/MAX was the fit for me. And, but I analyzed for a year before I made that move, and I really did my homework. And I think that's important for you to do with any of this. And I just see that running thread each video, like get somebody who's experienced.

Yeah.

Yeah.

Yeah.

I have—

you want someone that's— you want someone that knows where that $11,000 is, not someone that's learning that and is going to figure it out in 5 years and be like, oh, I can use it going forward.

Yeah. Well, I got lucky that he was able to— he knew the rules enough to know how to get it back because I had filed and paid and moved on a year and he knew how to give me the money back. But I, a lot of times people are like, Tony Ray Baker, why do you take so long making a decision? Just come on. And I'm like, no, not on this one. I'm doing my homework. I always, I just know that if we do our homework upfront, it saves us tons of time, tons of money in the future, sets us up for complete success. Hiring the right people is huge. It's just huge. I'm glad. One of my parents instilled that in me somehow. I don't know how that happened. What else? So if you haven't picked up on this, get the right CPA, EA. They are the ones that should be talking to you about all this fun stuff over us. And let's be clear, Charlie and I are not lawyers, tax accountants, or any of that. I'm not a doctor or a surgeon. So anything we talk about in any of these videos, You should hire the right folks. We're happy to refer you to them, but we can give you these pointers, things to think about and plant those seeds and what to talk about. But we are not the answer to those, any of these legal stuff. Right?

Right. Yeah. And do you want to, do you want to add about—

Go ahead.

Yeah, those people, they'll tell you what all you can write off. They'll explain how depreciation works. There's different ways. There's ways that you'll depreciate every year. There's actually some ways once you have enough houses, you can depreciate in year 1. There's lots of options. They'll be able to explain there's actually ways to avoid capital gains tax. You can move assets. There's all sorts of things.

What?

What's your experiences with that, with avoiding capital gains tax? That sounds fun.

Everybody wants to, right? So currently you can avoid capital gains tax if you sell a property you have lived in 2 out of the last 5 years. And as an individual, I think you get up to $250,000. So if you move out and you make $250,000 profit after expenses and fees and hiring the best people you can, to help you sell the house, you would, if you make $250,000 or less, it's not taxable. Again, talk to your tax guy or girl. And so that's a one way, a cool way to avoid capital gains. Now, why is that important? After we've told you never to sell your house, don't sell your house. Now I'm going to tell you how I'm doing it right now. I have several properties. I'm going to capitalize on capital gains by selling one of my properties that I have been living in for many years. It's been owner-occupied and it's got lots of equity and cash sitting there. So I am going to use, instead of converting that one property into a rental, I'm going to pull $250,000. It's right at the $250,000 place for me. So I can pull $240,000, let's say, out of it by selling it. And now there's no taxes on that for me. So I'm going to sell that property and I'm going to capture the $240,000. So I'm going to take that away. I'm going to then use that to either buy other property or I could do whatever I want with it. Maybe you'll find me on a beach somewhere, I don't know. So that's maybe. So I'm going to do that this one time because that works out. But there are the, the way also to capture, probably the best and only way I can think of to avoid capital gains besides selling the house you own or occupy, is take a rental and owner-occupy it. So If you have a rental, for example, I have a rental that we've strategically purchased in an area that's completely walkable with a streetcar and grocery stores and restaurants and everything we need will be next to this house within a block or two. I can literally walk one or two blocks and get to a streetcar or anything I need. And so it's an age-in-place type house. So our, the goal for this property is it's a rental. And so I'm going to keep using it as a tax deduction and as a rental. Eventually it's the house I will move into when I maybe have worse vision or I don't want to drive at night or don't want to drive at all. Or maybe I have a bad knee or a bad hip or whatever. This property is a one level. It's a perfect area for everything I need. And I could move back into this, make it owner occupied, and then wipe out the capital gains tax on that property by living there and taking it over as owner occupied. I have seen clients where they will strategically buy a house that they like and turn it in that maybe it's the first one you bought and you remember how you loved it anyways. So you bought it and then you like the area and then you bought another and you moved out and turned it into a rental. Maybe in when you're ready to retire, you take that one back and you move into it and you sell the one you're currently in and you don't get charged capital gains on that one if it's under the value. And then you get to move into the rental and you convert it into a homeowner occupied and now you don't owe capital gains on that one. So that's all I know on that. And you would ask a— ask an EA.

Yeah. So you basically take your properties that you've got and you've, and your owner occupying, you sell it and move into one of your rentals. You stay for 2 or 3 years. Yeah. And you sell that and move down to one of your other rentals. Stay there 2 or 3 years. So it's a way to liquidate your rentals capital gain without paying the capital gains. You're stepping down.

Technically, that you could, yeah, you could keep moving into rentals and fixing them back up and selling them. Yeah, you could build the portfolio up, tear the portfolio down, and avoid capital gains. Again, I'm not positive on how, if there's any rules around that as of today,, but it's, I think you can, and I think it's $250 per individual, $500 for a married couple. So wouldn't that be cool? You can, this is why, again, if you did this in your own backyard, like I have 3 houses in one little area that I love. I could move, like you just said, I could move into all 3 and just keep liquidating and it might still be in the same area. They're all within 3 blocks from each other.

Right? Right.

Hey, so you were smart about buying in your backyard in the last video.

Hey, look at that.

Look, we got something right on that one.

Yeah. Yeah. Yeah.

Yeah. See, I think that's about the way you could do it.

I don't—

unless there's something else you're thinking of that I'm not.

Yeah, that's, that's the main way. Again, talk to your CPA about, you do have the option for 1031 tax exchanges. And then you've also got one of the other cool really tax things that I know is the case now is if you have a bunch of property, when you pass away, the people that inherit it, the basis for it resets to the current value. You might've gained $1 million in equity, or if you sold it, you'd pay capital gains on that. But the people that inherit it, it's the stepped-up basis, which is new. There's, if you've got heirs and you're wanting to lead leave equity to them, that's a great way to skip capital gains. That, that can be massive.

Right. And now we're, I was talking to somebody about early inheritance, about giving, how we're giving money early to help kids buy houses or get their, start their portfolio. So yeah, this is again why an EA is super super important to this scenario. But yeah, that's a great idea. Yeah.

And then I think the only other note that we add here is there's something about legal, putting each address in its own LLC for different reasons. And so that's where your EA CPA can help you figure out the best way to do that in your state or a different state. Each state has its own different tax laws that, that you may want it to be in your state or you may not. Yeah.

An EA is always going to be the right— for this stuff is great. And some states you do use attorneys with CPAs, EAs, and consult whoever you need. But yeah, I think it's all no-brainer. And I hope that anybody, if you're, whoever you are watching this, you should be so bouncing off the walls excited about this investment strategy, these strategies and this opportunity. It's the one place that I, I can find where not only is there equity in buying these properties and the hope for riding appreciation, but then there's somebody else buying the asset for you and the government giving you a tax deduction to do so. It's like, feels like everybody's behind you on this one.

All right.

Don't find that often in life. This one like is a win-win, right?

Yes.

So I think, Charlie, this is 6. We probably need to— is there anything else we need to talk about for taxes or any of that fun stuff?

I think that's good. Reach out to us if you need a referral to a CPA or EA. We've, especially if you're here local, we've got great ones. And again, through our network, we can probably help you find one. And then I think we've just got one video left after this.

Yeah, video number 7. And if you let— we'll leave a QR code down there too with tell us what you need box because we've given stuff out in 6 videos and you may have missed something or we may have missed getting it to you. Please don't take that personally if we have. We are both very— we do real estate full-time and sometimes things slip through the crack. If you need anything we've offered in any video and we didn't get it to you, we will definitely get that for you. And if you want to talk to us, we're going to have something for you set up on this one where you can talk to us and we'll get connected. And then we'll have video number 7. And I think that's it.

Yep. We'll wrap it up. All right. See you on the next video.