Editor’s note: The following transcript is from a video interview with Brandon Hall, The Real Estate CPA, that covers the updates to the tax code in 2019 that property managers need to know.
Tony: Tony from Buildium here, the platform that activates property managers to control the chaos, sharpen their operations, and, ultimately, take on more doors. Today, I am here with Brandon Hall, The Real Estate CPA, and we are talking 2019 taxes— because they are coming up fast and furious. How are you doing today, Brandon?
Brandon: I’m doing well, Tony. Thanks a lot for having me on.
Tony: Always a pleasure. For those of you who haven’t seen it yet, Buildium actually recently published a 2019 Tax Guide for Property Managers that has all of the information that we’re going to talk about here, and a whole lot more. Now, first of all to get things kicked off, the tax code for 2019, really as far as I understand it didn’t change too much from the prior year, which was really a milestone in tax code. But could you give me a little bit of a description on how 2019 has evolved from 2018, Brandon?
Brandon: Yeah. So, 2019 is really just a few updates related to different thresholds, but everything’s remaining the same. The one thing that did change (but this was still part of the 2018 Tax Cuts and Jobs Act) was that if you don’t have health insurance, you don’t have to pay a penalty anymore starting in 2019 for not having health insurance. So, basically the Obamacare penalty was revoked, and that kicked into effect on December 31st, 2018. That was really the only big change. Everything else stayed the same. The code itself and the methodology and everything stayed relatively the same, but it was just a few thresholds increased a little bit. The actual marginal rates changed a little bit as they always do year to year—they typically adjust for inflation.
Tony: Great. Just to give people watching a sense of what we’re going to talk about in this interview, we’re going to go over the largest changes and really any nuances and things that could help you prepare your taxes for 2019 and anything additional you need to know. So, getting into the first question here…
What elements should property managers pay special attention to in this year’s tax code?
Let’s say you want to grow your business from 100 doors to 200 and so you want to make significant investments in marketing. You want to bring on more members of your team because you’re about to get that big multifamily contract, and you’re just really looking for 2020 to be a big year.
Brandon: Yeah. So, if you know that 2020 is going to be a big year and maybe you have some really solid income in 2019; if you have solid net income in 2019 that you’re trying to offset, then something that you could potentially do is go ahead and prepay some of those marketing and advertising costs in December 2019 here within the next few weeks. And all of that prepayment would be rewarded to the 2020 advertising and things like that that’s going to go down. Same thing with contracts: If you have any consulting work, or if you have employees, maybe you pay the bonus in December rather than January.
Prepaying expenses can be this ongoing hamster wheel where you always have to prepay expenses—because if you prepay this year, then in 2020 you have less expenses. So what do you do…you prepay again—you really only ever got the benefit one year. But we’ll typically use a prepayment strategy at the same time where we know that 2020, or the next year, is going to be a really big year, because in that year we might restructure a little bit, we might introduce a C corporation. And so really we’re saying, well in 2019 (December 2019), it’s too late to introduce a C corporation. There’s nothing that we can really do and even if we did, we only have like three weeks of income that we could potentially shelter through the C corporation or S corporations.
But if we go ahead and set that stuff up now, then 2020 we can have that full flexibility to utilize those entities. So what we would do instead is we’d say, well, “let’s prepay expenses now, that way in 2020 while we won’t have the expenses on our books because we prepaid them in 2019, we will have the different entity structure in place where we’ll naturally gather or gain tax benefits.”
Tony: What has changed with the income tax rates?
Brandon: The income tax rates creeped up a little bit. They always creep up a little bit and it’s largely just to match inflation. If we look at the single 10% rate, it went from 9,525 in 2018 to 9,700 in 2019. Then if we look at the 37% bracket for single filers, it went from 500 to 510. So if you’re over that, that’s when the 37% is going to start triggering. For married filing jointly the 37% bracket in 2018 was 600K and now it’s 612,350—so $612,350. So it just creeps up a little bit every single year and you can expect that going forward. They typically just adjust to inflation.
Tony: All right. Now this next example is not run of the mill, it’s actually a little bit more interesting. We’re talking about the pass-through deduction, and a 20% pass-through deduction in fact.
How can property managers use the 20% pass-through deduction?
Brandon: Yeah. The 20% deduction is available to business owners who are self-employed or have an entity. You get a 20% deduction on your net business income—up to a 20% deduction on your net business income. If I’ve netted $100,000 for my business and that’s my only income, then I get a free $20,000 deduction, so my taxable income at that point would just be $80K. So it’s really nice boon for business owners.
In 2019, as long as your income (your taxable income) is below $160,700, then you get the full 20% deduction. If you’re married filing jointly, and your joint taxable income is below $321,400, then you get the full 20% deduction. If your income increases above those two thresholds, then that 20% deduction begins to phase out a little bit and it’s going to be totally phased out if you’re earning $210,700 (if you’re single), and if you’re earning $421,400 (if you’re married filing jointly). And again, that’s taxable income—not total earnings.
So what we want to do is figure out how we drive taxable income down. As a property manager, you drive taxable income down by prepaying expenses, by contributing to 401ks, and by shifting money into a C Corporation—because, again, this is only going to apply to self employment, LLCs, and S corporations. You can use a variety of legal methods to shift income off of your books or put the income into places that avoid taxation today, and it reduces your overall effective tax rate.
We use them interchangeably, but what I’ve started explaining to people is, if you contribute to a 401k, and by contributing to the… let’s say you put 50K into it for… or, actually let’s make it simple—let’s say you put $10,000 into 401k. If you’re at the highest tax rate, you can save $3,700, right?
Brandon: But if I contributed enough money to my 401k that it also drops me below these thresholds (so now my business income qualifies for a 20% deduction) I could all of a sudden be saving a lot of money by contributing to a 401k. So it’s not as straightforward as it used to be, where you just calculate the deduction that the amount that you’re putting in the 401k, you calculate the deduction off of that. It’s a little more complex now because, by moving money into the 401k, I can drop below certain taxable income thresholds that then allow me to claim 199A against my business income, that then allow me to take this 20% deduction, and, you just get a snowball effect for your tax strategy.
So, that definitely, you want to figure out how to mitigate taxable income, minimize taxable income as much as you can. You can use entity strategies, you can use 401ks, you can prepay expenses. There’s a lot of different things that you can do. You can qualify as a real estate professional and have rentals that have passive losses pass through, all of that stuff reduces your taxable income and then it’s just to look at, well what does the 199A come after that point, and how much of a 20% deduction are we going to actually be able to claim.
Tony: Yeah. Just to reiterate, it works in a step function. As you hit a certain threshold, then all of a sudden you get a lot more money that you can deduct and get back—That sounds pretty good to me.
Brandon: Yeah, absolutely.
Tony: How has the business travel and meals deduction changed?
Brandon: Sure. Business travel and meals, the entertainment piece changed in 2018, meaning that any entertainment associated with your meals was no longer deductible. So if you take your clients to a ballgame, the ballgame admission tickets are not deductible but the hot dog stand costs are deductible. But in terms of the business travel for 2019, it’s still relatively the same. You can deduct your airfare, your transportation, you can deduct 50% of your meals or 50% of the costs of your meals whenever you’re traveling for business. And that’s pretty much it.
Tony: Could you go into Section 179 and how property managers can use it?
Brandon: Yeah. So section 179 allows business owners to deduct the cost of personal property and equipment that they put into service for their business. Most of the time with property managers, we’re looking at cars; so if you purchase a heavy SUV (being it’s over 6,000 pounds), you get a Section 179 deduction and a bonus depreciation deduction on top of that; and you’re typically able to deduct the full cost of the vehicle in the first year. That’s, again, if it’s over 6,000 pounds. If it’s under 6,000 pounds, you’ve got some different limitations and thresholds you have to watch out for.
But other than that, we don’t really see Section 179 used a whole lot. We might see it used on… well actually, cars for property managers is pretty much always see Section 179 useful because bonus appreciation is typically used for all of their assets, at this point.
Tony: All right, so we’re in December already. Clearly people are thinking about the tax deadlines coming up and the dates they have to file by.
Could you go through some of the major deadlines for this year and next that are coming up fast?
Brandon: Sure. The one that’s really coming up fast is that Q4 estimated tax payment: that’s January 15, 2020. So make sure that you do meet with your advisor and determine what you need to be paying on a federal and a state level at that point. That’s just to avoid any penalties or interest accruing from the IRS, or the state, related to late payment of tax. The other couple that we have, we’ve got a couple of 1099 deadlines: The first is January 31st, so you need to send out 1099s to any independent contractors that you’ve paid by January 31st, which is the deadline to send out 1099s to any independent contractor.
February 28th is the deadline that you need to send 1099s to the landlords that you manage the properties for. Those are the 1099s that include rents. Then, we’ve got a March 16th deadline for our entity filings—an entity being partnership and as an S Corp. Then we have an April 15th deadline for our individual and C Corp filings—and those are pretty much the key dates.
Tony: But if you need to get an extension, you can. You can extend it for six months, right?
Brandon: If you need to extend it, you can. Yes, absolutely. And if you do extend it, the big key is that you make any payment needed at the time that you extend or before the date of the return. So let’s say that on April 15th I owe the IRS $10,000; I need to make that payment on April 15th. The interesting thing here is that you might not actually know what you owe; it might take you until September to figure that out. But let’s say in September you do figure out that you owed $10,000—that $10,000 should have been paid on April 15th. So you’ll owe penalties and interest on top of the payment, if you didn’t actually make the payment. So try your best to estimate out what whatever you do come April 15th, if you’re going to make an extension.
Tony: Awesome. Now of course, just a quick plug for Buildium, since we have 1099s coming up and that’s one of the most rapidly approaching deadlines. And you can actually— for those of you who are on Buildium or want to know more about Buildium—you can send your 1099s directly from the system, and I believe it integrates directly with IRS FIRE system. So it’s very fast, it’s definitely industry-leading.
Tony: Now moving onto the next question, I’m just curious here. You probably have a lot of stories in dealing with your clients, and 2019, there was a lot of prosperity. 2019 was a very successful year for many property management businesses.
What success stories do you have of your clients in 2019?
Brandon: I’ll talk about 2018 because it’s similar to 2019—we wrapped up all those tax returns relatively recently. The 2017 tax cuts and jobs act changed a lot of things for business owners and landlords. We have one client that ironically runs a property management business and also heavily invests in real estate, and they were able to really almost wipe out their income between cost segregation studies, a 100% bonus depreciation (qualifying as a real estate professional, and the 20% pass-through deduction. They were really able to make the tax code work for them.
What we did to help them is just make sure that the dominos are falling in the right place. So we were just there on an ongoing basis, coaching them through, and making sure that they didn’t miss. But it was really, I mean The Tax Cuts and Jobs Act really handed that to them.
Tony: Great example. All right, we’re almost in 2020 here, which I can’t honestly believe.
What advice can you give property managers for their 2020 taxes?
Brandon: So, related to taxes, it’s like what we were talking about earlier—just really understand going into year end, what does 2020 look like for you if you expect it to be a blowout year. Maybe you do prepay some of these expenses in 2019 to reduce your 2019 taxable income, and thus your tax liability as well. Then, in 2020, start the year off right by getting the proper entity structure in place. I’m a big fan of LLCs and S Corporations, sometimes C Corporations, depending on how much income you’re earning or what the business footprint looks like.
But the other thing that I’ll mention, too—we work with a ton of real estate investors, and everybody’s tiptoeing around this idea that there might be some sort of growth pullback in queue for 2020. I don’t know what that looks like. I don’t really have great advice to give you related to that, but definitely do your research and be prudent, prepare for it, and figure out—if there is some growth pullback what are you as a property manager going to do to really bulletproof your business in the event that that happens.
Tony: Yeah, and for those who haven’t read it yet, we actually publish an industry report every year. This year we published the 2020 State of the Property Management Industry Report. So, there’s lots of great information and we’ll also be publishing our predictions shortly this month—so what you can expect as a property manager in 2020 from our point of view. All right, well, with that said, thanks again Brandon for joining us. It’s always a pleasure and we hope to talk to you soon—and here’s to a prosperous, productive 2020.
Brandon: Thank you, Tony. Have a good one!
Tony: You too.Read more on Accounting & Taxes