Real Estate Agent Tax Tips
Real Estate Agents
Vault works with real estate agents in several different capacities. First, we assist agents with their own personal tax situation. Second, we educate about deductions and record keeping related to rental properties and flipping houses. Finally, we provide realtor education so that agents understand what real estate related tax write offs are available to their clients.
Real Estate Agent Tax Tips
Typically, Real Estate Agents receive a 1099-MISC tax form and receive compensation as an independent contractor. This means that for tax purposes, real estate agents are considered self-employed. As such, a schedule C (Profit or Loss From Business) must be filed. Agents can write off deductions directly from income, but may be subject to the Self-Employment Tax on profits (Social Security and Medicare tax).
Agents may also form a professional corporation (P.A.). However, the broker must pay the agent under the ID number of the P.A. in order to do so. This may be advantageous to limit liability and in tax planning, but may require additional recordkeeping and be slightly more expensive to maintain. Contact us for more information on setting up a professional corporation. The remainder of this section will deal with the traditional sole proprietor, although many of the deductions and rules may be similar.
We advise you to open up a separate bank account and credit card for your business expenses (This is mandatory for a P.A.). It is a good idea not to intermingle personal and business funds. Additionally, keeping good records is important. You should keep a mileage log, receipts (for meals/entertainment write the purpose and clients name on the back), and keep your books up to date. Additionally, for anything that you may also use for personal reasons, such as a cell phone or laptop, you need to track business time versus personal time. For that reason, you may wish to have a separate computer and phone for business purposes.
A major difference being self employed is that no taxes are withheld from you. As an agent, you need to get into the habit of making quarterly estimated tax payments. Otherwise, waiting until April 15th to file and pay could yield substantial penalties (and surprises!). Estimated payments are due 4/15, 6/15, 9/15, and 1/15.
As a general rule, all income will be paid to you by the broker and shown on a form 1099-MISC, which you should receive from your broker. Any other income generated by your business must also be included on your tax return. You can deduct expenses from your income in part II of schedule C. In order to deduct an expense, it must be ordinary and necessary. For the complete IRS Publication on business expenses, visit:
IRS Publication 535 Business Expenses
Please note, that there is a presumption of profit which means that the business should show a profit 3 out of the last 5 tax years in order for the expenses to be fully deductible. If you do not meet this test, the burden of proof falls on you to prove that you are in business legitimately to make a profit. Regarding expense, the following are deductions that are common to real estate agents:
1). Auto deductions - This is one of the larger deductions for most agents. All driving that you do for your real estate business (other than the commute to and from work) is tax deductible. You have the option of using the standard mileage rate, ($0.575/mile in 2015) or keeping track of actual expenses. Mileage is simpler, and in some cases may be more than actual expenses. For actual expenses, you need to keep track of fuel, repairs, insurance, depreciation, etc. You can then deduct these expenses based on the percentage that you use your car for business. Once you use actual expenses (and accelerated depreciation) you cannot switch back to standard mileage. When using standard mileage, you cannot add a large repair (repairs are factored into the mileage rate). The only auto related expenses that you can add to the standard mileage are parking, tolls, and interest on a car loan. Also, keep a mileage log detailing your business miles and the purpose for those. For more information, visit the IRS Publication on Travel, Entertainment, Gift, and Car Expenses:
IRS Publication 463 - Travel, Entertainment, Gift, and Car Expenses
2). Meals and Entertainment - Meals are deductible (50%) if you are away on business (requiring overnight stay) or if they are considered business related entertainment. For entertainment, they must be a necessary and ordinary expense and must either take place in a clear business setting or be directly before or after a substantial business discussion. Although the IRS does say that expenses cannot be lavish or extravagant, they do not define what that means. It is "use your judgment" and consider the facts and circumstances. See the above link to publication 463 for further details.
3). Legal and professional services - Yes, our fees are deductible! Fees that you pay attorneys, consultants, accountants, payroll, etc. are deducible if they are business related. MLS fees, Supra expenses, realtor association fees, professional organization fees, licensing fees, continuing education are also typically deductible.
4). Company Benefits - You can set up company benefits such as insurance and retirement accounts which may be tax deducible. There are many options when it comes to retirement, and you should choose carefully depending on your circumstances. Please see the following section of our site for a quick overview:
Choosing a Retirement Plan That Fits Your Business
Also, visit the Department of Labor and IRS websites for a more in depth information:
DOL Choosing a Retirement Plan
IRS Small Business Retirement Plan Resources
One type of retirement plan that works particularly well for real estate agents is the Solo 401(k). This account allows you to save up to $53,000 ($59,000 over 50) in 2015 and deduct it from your taxes. Please contact us for more information or see the IRS link below:
Give us a call and we can help walk you through your many different options and figure out what is best for you.
5). Business Use of Home - You may be able to deduct a portion of your home (and utility and maintenance costs) for business. This is commonly referred to as a home office. In order to take this deduction, you must use part of your home exclusively and regularly as your principal place of business or regularly meet with clients there. If you most of your work (bookkeeping, setting up appointments, meeting clients, etc.) at the real estate office, you may not be able to take this deduction. If you do a substantial amount of work at an office in your home (which is exclusively used for business) you may be able to take the deduction, even if you have an office outside of your home. See the IRS publication below for more information:
IRS Publication 587 - Business Use of Your Home
Tax Deductions for Homeowners
Owning a home can be a great tax deduction which can offset part of the expense of owning a home. While not everything can be deducted, typically the property taxes paid, mortgage interest, and some types of mortgage insurance premium (not homeowners insurance) can be deducted. In most cases, the deduction is taken on Schedule A on the homeowners individual tax return.
http://www.irs.gov/file_source/pub/irs-pdf/p530.pdf
The good news is, once you reach the threshold of itemized deductions, other things may become tax deductible as well. Other things that are deducted on schedule A include Medical and Dental expenses (in excess of 10% for those born after 1950, 7.5% for those born before), state and local taxes, investment interest, charitable donations, casualty and theft losses, unreimbursed business expenses, tax preparation fees, investment advisor fees, and a few others.
There are a few instances where a homeowner may receive less of a tax benefit than expected. There are many reasons that this might happen. In order to receive any tax benefit, all schedule A deductions must exceed the standard deduction. The standard deduction for most people is $6,300 for single people and $12,400 for married people. You do not receive any benefit until your total deductions eclipse that amount. It may be more difficult to eclipse the higher threshold if you are married. If you purchase a home in the middle of the year, you may pay enough taxes and interest during the year to reach the standard deduction. If you purchase a lower priced home, the taxes and interest may not reach the standard deduction. If you reach just over the standard deduction, the benefit may be very small.
Example: Joe Taxpayer is married and in the 25% tax bracket. He has paid $4,250 in property taxes, $7,000 in mortgage interest, and his total other deductions are $1,500. His deductions total $12,750 which is over the $12,400 standard deduction. If he had no deductions, he would subtract $12,400 from his adjustable gross income. Since he can itemize his deductions, he will subtract $12,750. Even though he is itemizing, his deductions are only $350 greater than the standard deduction. His tax benefit would be his tax rate (25%) multiplied by the incremental deduction ($350) or $87.50. While this may not be very exciting, it is important to keep in mind and not set someone up for disappointment if any of these circumstances may apply. On the contrary, had Joe Taxpayer already reached the threshold with other tax deduction, the tax benefit in this example would be $11,250 (taxes and interest) times 25% or $2,812.50. Please keep in mind that this is very simple example and does not take into consideration AMT, phase out of deductions, etc.
The mortgage payment itself is not deductible. HOA Fees are not deductible. Home improvements are not deductible either, but can be added to the cost basis of the home. The good news is that when a homeowner sells their primary residence, the gains (up to $250,000 single, $500,000 married) may not be taxable! For details:
Primary Residence Tax Exclusion
Business Use of Home - If a taxpayer owns a business (or is an employee and meets all of the more strict requirements), they may be able to deduct a portion of their home (and utility and maintenance costs) for business. In order to take this deduction, the taxpayer must use part of your home exclusively and regularly as your principal place of business, store inventory, or regularly meet with clients there. See the IRS publication below for more information:
IRS Publication 587 - Business Use of Your Home
Mortgage Debt Forgiveness / Short Sales / Foreclosures / Loan Modification
A short sale, modification, or foreclosure could result in a large tax bill for homeowners. In the past, any debt that was not paid may have become taxable income to the homeowner. The Mortgage Forgiveness Debt Relief Act of 2007 may allow the homeowner to exclude this from his income. However, it is important to note that it only applies to the mortgage (up to $2 million) used to buy, build, or substantially improve a qualified principal residence. Any home equity loan taken out to consolidate debt, or for any other reason other than to purchase or improve the home is NOT excluded from income and it may be taxable. Likewise, second homes and rental property to not qualify for forgiveness. Currently, the act has been extended retroactively though Dec 31, 2014 and it is unknown if it will be extended into 2015.
If this act does not apply to the homeowner, or it is not extended, there are several other possibilities available:
- Insolvency - If the taxpayers debts exceed their assets, they can fill out a financial worksheet and attach a form 982 to their tax return. This is a snapshot of the clients financial situation immediately prior to the foreclosure or short sale. If their total debts (including the amount forgiven) exceed their total assets (including 401(k), retirement, personal belongings) they can exclude the debt to the extent that they are insolvent. For example, if their assets total $500,000 and their debts total $525,000, they can exclude up to $25,000 of cancelled debt. The remainder would be taxable.
- Bankruptcy - If the debt was discharged in a bankruptcy, it may be excluded from income by filing a form 982
- Non-recourse loan - This is when the only recourse is for the lender is to repossess the home. The lender cannot go after the borrower personally. This is largely dependent on state laws. Check with the state that you live in and your mortgage documents.
In foreclosure, the taxpayer may have a gain or loss. The foreclosure is treated as a sale at the fair market value of the property. Debt forgiven in excess of fair market value is cancelled and may be taxable income, unless you qualify for one of the exceptions listed above. A short sale is treated as a sale (you may have a gain or loss) and the amount forgiven is typically considered taxable income (again, unless you meet one of the exceptions above). Keep in mind, on a primary residence, a loss in NON deductible. For more information, please see:
IRS Publication 4681 - Canceled Debts, Foreclosures, Repossessions, and Abandonments