Vehicle Expense is one of the largest deductions real estate agents have, but some realtors we work with are not interested in tracking expenses, much less mileage. But tracking your mileage can really make a huge difference in the amount you are able to deduct on your taxes.
You may decide you want to deduct actual expenses rather than mileage. If you can’t track mileage, what makes you think you can track all the vehicle expenses incurred? If your vehicle is not used 100% for your sales activities,then your actual expenses will be reduced by the percentage of use that was personal. And, if your mileage drops below 50% business use, you are not allowed to take depreciation on your vehicle for that year. Of course, if you only have 1 vehicle, then proving 100% business use is a losing battle.
You are allowed to switch from mileage to actual expense midway thru the life of your vehicle, but there are some things to remember when doing this. When you change to actual you can only depreciate the vehicle based on the fair market value on that date. And the only depreciation method allowed is a straight line, which means you divide the fair market value by the remaining useful life of the vehicle. This may not be as large of a deduction as you were hoping.
If you purchase a NEW SUV with gross vehicle weight over 6,000 lbs., the IRS code says (for 2015) you can write off 50% of the cost up to $25,000 PLUS 50% of the remainder if the vehicle is placed in service by December 31. For example, if you pay 60,000 for a new SUV you can depreciate $42,500 (25,000 plus (($60,000 – 25,000) X 50%).
Luxury vehicles do not have this luxury as the IRS code has something called the Luxury Auto rules. A vehicle is considered a luxury vehicle if the cost is more than $18,600. Accelerated Depreciation is limited to $11,160 in 2015, and $3,160 for regular depreciation.
Realtors Can Deduct Office in the Home
You may be able to deduct an office in the home if you do not have a permanent office in your real estate broker’s office. The good news is you no longer need to keep detailed records to claim this deduction. You do need to perform part of your duties there, like updating databases, mailings, AND you do need to use the space exclusively for business purposes. The currently IRS code says you can take $5 per square foot up to 300 square feet for the space you use as a home office.
You are allowed to add up all you electric bills, gas bills, rent or mortgage interest and real estate taxes, and any other home office expenses. However, the total expenses are limited by the ratio of your home office square feet of the home office divided by the total square feet of your primary residence. We find that most agents prefer to take the standard $5 rather than tracking down all those expenses.
Which option works best for Realtors? Sole proprietor, LLC – Taxed as a Sole proprietor or LLC – Taxed as an S Corporation
Most real estate agents should be operating as a Limited Liability Company (LLC). By setting up an LLC when you start out, you can easily change the way you are taxed by the IRS and the State of Arizona by filing a tax form in the future.
We suggest you consider changing your taxable entity to an S Corporation once you have $60,000 to $70,000 of consistent predicable profit. At this level of profit, you are generally using a transaction coordinator to assist in processing your transactions. If you can afford to hire an assistant to handle your transaction coordinator work and help with your marketing, then it really makes sense to switch from filing a Schedule C to being taxed as an S Corporation.
An S Corporation has several benefits versus filing a Schedule C. The biggest benefit is after deducting a “reasonable wage” the profit is not subject the self-employment tax. Self-employment tax (SE tax) amounts to 15.3% or your profit. Your tax bracket isn’t going to change switching to an S Corporation, but if you make $80,000 in profit as a sole proprietorship you will pay SE tax on the entire amount. An S Corporation may pay a reasonable wage of $50,000 and then $30,000 is not subject to SE tax. That equates to $4,280 in reduced taxes after adjusting for ½ of the SE tax adjustment on Page 1 of your 1040.
S Corporations do come with some added expense. You would be required to file an S Corporation return, Form 1120S. My fees for an 1120S start at $750. And you will be required to take payroll. I have a service that will handle everything for you for $33 per month regardless how many payrolls you need to run for your assistant.
The reasons I suggest you hire an assistant when switching to an S Corporation is due to IRS scrutiny. If you were the only employee, and you only took part of the profit in wages, the IRS may claim that all of your profits should be subject to SE Tax. But with an assistant working for you, you have the defense that your assistant generated those profits and they should NOT be subject to SE Tax. That is a winning argument.
You will also need a real set of accounting records. Piling your receipts in an envelope and dropping them off at your tax preparer’s office in mid-March will not be sufficient. Handling your accounting may be a breeze if you keep your transactions separate from your personal records. See next section.
Keep Realtor Finances Separate from Personal Finances
Whether you’re just starting out or have been a real estate agent for some time, keeping your business records separate from your personal records should be a priority. It allows for less time spent at year end to summarize your expenses. You can import transaction into accounting software like Xero, Quickbooks or Quickbooks Online without spending hours trying to figure it out. Also, if the IRS comes knocking, you will be less likely subjected to a detailed audit (proving every item on your tax return) if you can provide answers and documentation to questions answered in your office or your tax preparers office.
We strongly recommend opening a separate bank account for your business transactions. If you use debit cards for most of your purchases, then open a debit card in conjunction with the business bank account. Also, for credit reasons you might want to open a business credit card because sometimes it makes sense to use a credit card vs. a debit card.
Having separation between your personal and business transactions is a requirement for clients that do business with us.
Meals and Entertainment as a Deductible Expense
Meals and entertainment are generally tax deductible at 50%. As a realtor, if you take a home buyer to lunch you are able to deduct 50% of the cost of the lunch. You must document who your lunch was with, what business was discussed, and when and where you ate.
But what if you had a backyard barbecue? You can deduct the 50% of the cost if you invite potential home buyers. Maybe invite friends and neighbors and ask them if they are considering moving in the near future. And ask them for referrals to their friend who may be moving into or out of the area. By doing these things while hosting a barbecue you would be able to deduct 50% of the cost of the party.
Make sure you keep receipts whenever you incur business expenses related to your realtor activities. Be especially careful about documentation so the IRS won’t throw out your meals and entertainment expenses as personal.
Hire Your Children
If you are operating your business as a sole proprietor and you have children considering hiring them to work in your realtor business emptying trash cans, filing, putting signs up or whatever they can reasonably do for their age. Hiring your children can be very beneficial to both of you.
If you child is under age 18 then you are not required to pay FICA tax nor Federal Unemployment tax. Their wages will be deductible to you, lowering your self-employment tax and income tax.
Then have your child fund a Roth IRA. If you pay your child $5,500 for the year then they can fund (or you can fund for them) a Roth IRA. If you start doing this for them at age 14, and continue to contribute for 10 years, or about the time they get out of college, and the investments average earnings is 7%, your child will have $1.776 million at retirement. And your child would not have to contribute to any retirement plan during their working life. This is a great way to give your children a huge head start on life.
Medical Expense Reimbursement Plan
If you don’t have a spouse who provides medical insurance through their job, then you will have to provide that through your realtor work. Your medical insurance is deductible on the front of your personal return as an adjustment to income.
What if you hired your spouse and covered them with health insurance. That would make your health insurance a business deduction. And if you had a MERP (medical expense reimbursement plan) in place, you could not only deduct the health insurance but also the out of pocket medical expenses with pre-tax dollars.
Things like braces for your children would now be paid with pre-tax dollars. At the 25% tax bracket plus 15.3% for self-employment tax, you could be saving 40% on medical costs. Not many realtors are not away of this type of plan but they are a great deal for a sole proprietorship.
You can deduct 100% of all health care premiums, including long term care and spouse’s disability, and deduct 100% of all Out of Pocket medical, dental and vision expenses.
We work with Realtors and would like to work with you. Call 602-375-0474 or email firstname.lastname@example.org.