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Taxes and LLCs for Real Estate Investors - YouTube
Channel: Clint Coons Esq. | Real Estate Asset Protection
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- Hey everyone, Clint Coons here
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and in this video, we're
gonna discuss taxation
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of your rental real estate
limited liability company.
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All right, let's get started.
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(upbeat music)
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Now I get a lot of questions
on setting up LLCs,
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how am I gonna be taxed on the income
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that the LLC is generating?
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And it really depends,
first off on what level
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of taxation you elect for that
limited liability company.
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So if you don't recall,
LLCs they're hybrid entities
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so you can choose to have your LLC set up
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as a C corp for federal tax purposes,
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it can be set up as an S corp
for federal tax purposes,
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it can be set up as a partnership
for federal tax purposes,
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or it can be disregarded, All right?
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Now, what is the
distinction between these?
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Well, with the exception
of the C corporation,
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all of the other three statuses
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are what we've called
flow-through (indistinct).
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These two are flow-through right here
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and then this one means nothing,
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I'll explain that.
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So then S corporate partnership,
the way it would work,
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if I have my limited
liability company set up,
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here's my LLC
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and my LLC generates 20K
in income for the year.
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So I make $20,000 in income.
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And I am the owner of this LLC,
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I'm it's sole member,
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or maybe my wife and I
are members together,
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it doesn't matter.
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It makes $20,000 and it's inside the LLC
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and I don't take the money out.
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I'd leave it in the LLC.
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From a federal tax standpoint,
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what's gonna happen?
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Well because the S corp
and the partnership
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are considered flow-through,
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your LLC will file a tax return,
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it has to file a tax return.
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If it's an S corp, it's
gonna file on 1120S
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if it's a partnership, it's
gonna file a 1065 return.
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So you're gonna file tax returns for it
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and you're gonna receive the K-One
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that allocates to you your
portion of this income.
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So if I own this entity with my wife
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and we're set up,
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well, the way she likes
it, she's 90%, I'm 10%.
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So it's set up this way.
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Then if we have $20,000 inside of there,
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she's gonna receive the K-One
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for her share, which is everything, 18,000
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and I'm gonna get my share for 2K.
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So that will come down on a K-One to me.
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So we get this K-One
that shows she gets one,
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I receive one of our taxable income,
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the income that this
company kicked out to us.
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Now, note, I left the
money inside of there,
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I never pulled it out.
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Do I have to pay tax on that?
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Absolutely I do.
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So this is the thing about LLCs many times
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that people get confused about.
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When an LLC is set up as an escort,
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but set up as a partnership
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or this disregarded status,
which I didn't talk about
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and the reason I didn't
have mentioned it yet
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other than throwing it up on the board
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is that when it's disregarded
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you don't have to file a tax return,
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it just automatically hits your tax return
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as if you owned it in your own name,
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it's just ignored.
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You get an EIN, you tell
the IRS, hey, I got an LLC
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but don't pay any attention to it.
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It's not there,
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you do a Jedi mind trick,
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I don't have an LLC for tax purposes.
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And so then your CPA would just
fill it out your tax return
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as if you own that
property in your own name.
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Now, what does this mean when the money
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is still inside there though?
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Because that's the most challenging aspect
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for so many investors,
understanding how taxes work.
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So you're gonna pay taxes on this 20K.
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Now where's that money gonna come from?
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Well, maybe you got money
in your savings account
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or your checking account,
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that's where it's gonna come from.
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Or you could pull it out
of the LLC if you wanted to
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if you take it out
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that is referred to as a distribution.
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So the money inside of
there, your taxed on it
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even though you don't pull it out.
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So what does that mean
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let's say, the following year?
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So the next year we've
got this structure set up.
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Let me just get rid of
some of this stuff here.
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I've got this structure set up.
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It's got 20K inside of the LLC,
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and here we are in March
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and my wife and I decide,
hey, let's go on a vacation.
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Okay, great, let's go on a vacation.
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We're gonna go to Hawaii
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and we're going to rent a house
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and so for this vacation, we need $7,000.
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But our checking accounts
is a little low right now
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our savings account doesn't have it
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but we have this LLC that
has $20,000 inside of there.
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So what do we do?
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Do you pay for it with the LLC?
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I hope the hell not, all right?
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Because that's, co-mingling
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that'll get your veil pearsed
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and I've probably cut a video
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on what you should and
shouldn't do on that.
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But what you would do is you
would take a distribution
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to yourself.
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So you would come up to the LLC
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and you'd pull out $7,000
as a distribution. Okay.
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Now, when you take this $7,000
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out of the LLC as a distribution,
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it's not taxable to you.
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Why? Because you paid tax on that $20,000
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the previous year.
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So you're not gonna get
taxed twice on this money.
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Think of it like a savings account, okay?
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You have a savings account
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and you have $50,000
in your savings account
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and your bank paid you a whopping
$200 in interest this year
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on your savings account.
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Do you pay federal
income tax on that money?
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Yes, it's interest income to you.
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You didn't pull the money
out of your savings account.
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Next year,
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you take that $200 out
of your savings account
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so you can go out to dinner.
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Do you pay tax on that $200?
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No, it's the same way it is
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with the limited liability
company with the money you earn.
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You're gonna pay tax on your earnings.
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We don't pay attention to how much money
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you take in and out of the company.
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Here's another example that comes up
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an awful lot that confuses people.
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Let's assume that I have LLC set up here
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and I have a property inside of it
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and we have two members
down here again in this LLC
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and I refiled my property.
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So I go through it alone,
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I get a refi in the name of the LLC.
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So the LLC, I refi, I
pull out $80,000 in cash
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and I put it my limited liability company
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on that refi to cash out
refi out of that property.
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And then I turn around
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and I distribute the 80K
to us as a distribution.
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Is that taxable?
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Now this comes up a lot.
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People say, well, you took 80K
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out of your limited liability company
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so yes, that's taxable to you.
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Again, as long as your LLC is set up
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with one of these three
tax statuses right here,
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it's not taxable to you.
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Why? Because this was a cash out refi,
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that was a loan to your
limited liability company.
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So with the loan when
you're pulling the money
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out of the LLC it's no different than
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if you borrowed the money yourself. Okay?
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If you borrowed the money yourself
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then out of your own house,
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that's not taxable, okay?
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Because you have to pay it back.
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So it's not considered to be income.
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Now let me put a little curvey out there
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'cause I know it was gonna
be one or two, three people
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that watched this video and say, well,
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Clint S corporations
ain't tax basis. I know.
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So with S corporations,
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that may be a little different
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but I'm not gonna go down
into the weeds that much.
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I just wanna give you the basics here
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so you understand that when
you take money out of the LLC
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you don't have to worry about taxation.
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That's not how these entities work.
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Taxation is based upon the income.
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In fact, many times
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when we set up limited liability companies
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for real estate investors
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and let's assume that the LLC
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so we're no longer with
a loan situation here,
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let's say it's generating
$2,000 a month in income
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and they're pulling that
income out every month
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the 2K's coming out to them.
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So over the course of 10 months
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they pulled out 20K that
they start asking, well
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do I need to pay and expected,
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do I have to make an
anticipated tax payments
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on this quarterly tax
payments on this money?
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And I tell them, well, not really yet
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because we don't have
any history there to know
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whether or not this is actually
gonna be taxable to you.
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And people are shocked, they go,
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what do you mean it's not taxable to me?
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I took 20,000 out of my LLC.
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I know, but with real estate,
it's a little different
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because even though you took $20,000 out,
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until we do your taxes,
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we don't know how much
of that's gonna be offset
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by depreciation.
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So let's assume that you had
a $12,000 in depreciation
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and you had $4,000 in taxes, so that's 16.
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Now we're down $4,000 of taxable income,
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but then you had some repairs
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and management fees of $4,500
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so actually you lost 500
bucks when we do your taxes.
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Do you really wanna pay
taxes on money that you lost?
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No, I think not.
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So when you're taking the money out,
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don't get too hung up on that.
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With the LLC, it's a flow through entity
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unless it's a C corp.
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Now that is a totally different animal
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and it doesn't pertain to this
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because everything I just told you
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if it's set up as a C corp,
you're gonna get taxed.
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So we like then to use
residential real estate
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through flow-through entities.
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And typically the way
we're gonna structure them
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is we're gonna go with
disregarded or partnership.
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Those are the main two workhorses
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for residential real estate investors
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or commercial or multifamily,
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that's how we wanna go.
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If it's a flip, we're
gonna go with the C corp
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or maybe an escort,
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preferably I always C in
my opinion for those types.
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So the idea here is just to
get a basic understanding
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of how the LLC works from a tax standpoint
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how you can pull money in and out
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and don't get hung up
on these distributions.
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Distributions do not equal taxation.
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Taxation is only based
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upon the income that the business makes
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not the money you're pulling out.
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'Cause you're gonna pay
tax on it no matter what
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at the end of the day,
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they don't care how much you pulled out
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or when you pulled it out.
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If there's taxable income
there, you pay tax on it,
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if you don't, you don't.
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So use this going forward,
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so hopefully it helps you
understand how LLCs are taxed.
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Hey, if you'd like to
video, give me a like
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and if you're not a subscriber yet
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make sure you subscribe to my channel.
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Take care everyone.
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(upbeat music)
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