I recently told you about changes to your personal tax return that you should be aware of for the upcoming Tax Day. But there are big tax savings available if you are a business owner or real estate investor.
The Tax Cuts and Jobs Act has changed the outlook for our finances and the profitability of investments. While much of the press coverage around the new rules has been on its drawbacks, there are some positive financial opportunities for those who educate themselves and act on the new breaks.
Rather than get into a discussion about whether the tax code is fair or unfair, or who is paying their fair share, I intend to just tell you what you can legally do to reduce your tax payments to the IRS.
Many people may find reason to complain about this tax code. But I have a different suggestion: rather than get mad, get smart. Figure out how you can be someone who either grows the economy or creates jobs…or both. By doing so you will benefit from the very behaviors the tax code is designed to reward. The economy and your wallet will be better off for it.
Simply put, in the tax reform, you can see that President Trump is setting up the tax code to reward those who grow the economy and create jobs, while also eliminating some pressures for the middle-class.
Depreciation for Business Owners and Real Estate Investors
The Tax Cuts and Jobs Act has opened up opportunities for investors and property investors with a 100% first-year bonus depreciation deduction. This break will be available until 2022, and then will be reduced by 20% per year until phased out.
Under the previous law, roofs, HVAC and alarm systems depreciated as if they were part of the building—which meant depreciation over 39 years for commercial property and 27.5 years for residential rental property. The new bonus depreciation rules make these items entirely deductible. For instance, instead of deducting a new roof through normal depreciation, 100% of the cost is now deductible in the year it was purchased.
If you spend $500,000 improving your office this year, you’ll receive a $500,000 deduction this year. If your rental property needs a new roof or AC unit this year, it’s 100% deductible this year.
Reduced Corporate Taxes
One of the biggest changes (and most talked about) in the TCJA is the cut to the corporate income tax rate. It’s now 21% from a max of 35%. Also, corporations who bring back money from overseas and reinvest it in the U.S. go as low as 8%.
Generally, business owners and real estate investors receive a 20% deduction of their net income after depreciation and amortization. Now, the 20% deduction is capped at either 50% of wages or 25% of wages plus 2.5% of capital assets, whichever is greater. Because many real estate investors do not pay any W-2 wages, the deduction normally will be limited to 2.5% of the original cost of the building and equipment.
For the very first time in the history of U.S. tax law, you can reduce your taxes by becoming a small business. If you are a pass-through business (a sole proprietorship, a partnership, or an S Corp), be sure to sit down with your tax advisor and discuss the rules and limitations (they are complicated) to see if you qualify.
Essentially, the government has decided that earning income through a business is so much better for the economy than earning income as an employee, that they’re going to reward you by taxing you on only 80% of your income. Note: If your income is less than $157,500 as a single person or $315,000 as a married couple, you have no limitations.
IRS Code Section 2031 allows real estate owners to trade up or diversify their investment portfolios without taking an immediate tax hit. Kim and I and our friend Ken McElroy use this all the time.
These capital gains tax-deferring benefits have also been protected in the TCJA. This might be a good time to restructure real estate deals to reduce tax exposure. You probably know by now that Kim and I set our sights on paying zero in taxes each year.
$12,000 Exemption for Wages Paid to Children
It’s time to pass along your amazing work ethic to your offspring. The previous law stated that a child could be paid up to $6,350 without paying tax, but under the new Trump Tax Plan, a child can earn up to $12,000 without paying tax.
This change creates a tremendous incentive for parents to hire their children—our government wants you to teach your children how to work!
If you have a child who can provide legitimate services (think: social media, marketing, technology, bookkeeping or modeling) for your business, you’ve just turned your kids into an asset. Plus, you can control where their money goes since they are under-age. Note: The child must be legitimately doing the work and you must pay a reasonable salary.
If you don’t yet have a business or aren’t investing, then it’s time to start. Work with a knowledgeable tax advisor to build a strategy around deductions and tax law, to ensure you have getting every benefit you are entitled to.
Shouldn’t we all strive to pay the least amount of taxes as possible?
Editor, Rich Dad Poor Dad Daily