Planning to rent out a home? Be prepared.
Everyone likes a little extra income, and the "sharing" economy has made that easier than ever. For those with a second property, options like Airbnb and VRBO have become very popular as means of procuring rental revenues. However, renting a home through one of these services can include tax implications of which many are unaware. If you are operating as a landlord for short-term rentals, here are some things you should know.
What qualifies as rental property?
The IRS has a great deal of information on classifying rental properties in Topic Number 415. https://www.irs.gov/taxtopics/tc415
To be considered a rental property, the home in question cannot qualify as a residence. A residence is one in which personal use equals the greater of either 14 days or "10% of the total days you rent it to others at a fair rental price". So what does "personal use" mean, in this case? Personal use can be one of four scenarios.
1. When you or another individual who has an interest in the property (i.e., a business partner or co-owner) uses the property (unless that individual pays you a fair market price for rental). So, if your business partner's family uses the property for a vacation, that's personal use.
2. When a family member uses it without paying a fair price. If you let your niece rent it at half the usual rate while she's in town for the weekend, that's personal use.
3. "Anyone under an agreement that lets you use some other dwelling unit" Consider the rom-com "The Holiday", where Kate Winslet and Cameron Diaz swap houses with each other for a vacation. If you were to do something similar, those days spent at your house would county as personal use, since you were trading them for your own lodgings during that time.
4. Anyone at less than a fair rental price. This is self-explanatory, but also somewhat nebulous. Your best option is to have documentation supporting your pricing strategy, and apply it consistently.
Likewise, any expenses deducted must be deducted proportionally to the amount of time the home served as a rental. (So, if 5% of the year was personal use, only 95% of the appropriate expenses may be deducted.) If the property, in fact, does not meet the criteria to be considered a rental, you cannot deduct expenses on it. However, you also do not have to report rental income, in that case.
What can be deducted?
Expenses that are necessary for "managing, conserving and maintaining your rental property" can be deducted. These could include plumbing repairs, or cleaning services. You can also deduct expenses related to the business of renting out the property, such as any host fees from Airbnb, or advertising and legal fees related to the property.
You can also deduct any expenses which the tenant paid and which you then had to reimburse the tenant for. (For example, if the air conditioner breaks on the weekend, the tenant pays to fix it quickly, and you then reimburse the tenant, you can deduct that repair expense.)
You cannot deduct costs of improvements, those costs incurred in the act of restoring the property, or adapting it for a different use. You can, however, recover some of those costs on Form 4562 where you would report depreciation expenses.
Occupancy Tax
Many states and municipalities require landlords to collect and remit occupancy tax on short-term rentals. (It's a bit like a sales tax, but for hotels.) You will need to closely examine your local laws, as they can vary greatly on tax rates, what constitutes short-term rental, how frequently it must be remitted, etc. To further complicate the matter, occupancy tax may be collected by states, counties, AND cities.
Additional Taxes
If you were to sell your property, after it has been designated as a rental, you will need to report the income from the sale as capital gains, and pay capital gains tax on that accordingly. If you are a high-income earner, you may also be responsible for net investment income tax. (See IRS Topic Number 559.) https://www.irs.gov/taxtopics/tc559
1099s
As always, be sure that you are collecting W-9s from service vendors and following all applicable requirements for filing 1099s at year-end.
We work with a number of property owners, on these very issues every day.
Staying (Financially) Fit Over the Holidays
With Halloween only 12 days away, we are officially in the holiday season. This is my favorite time of year, and I understand the temptation to let work slide as I give into the distraction of Thanksgiving, Christmas, and vacation.
But holiday season coincides with year-end and, for businesses, this needs to be a time of focus. Just as it's easy to undo months of dedicated diet and exercise with the wild abandon of the holidays, it's easy to let your business financials slip at the time when you really need them at their peak.
Here are a few common bookkeeping issues we see in Q4 year after year, and how to avoid them.
Missing Deductible Expenses
The holidays are a great time to let loose and be more sociable with co-workers, clients, and referral partners. But just as you lose count of how many calories you're taking in, you can lose track of the money you're spending. Not only can this result in overspending, of course, but you can also be missing out on deductible expenses that will save you money in just a few months at tax time.
Perhaps you're planning an office Christmas party for your staff. Not only would those expenses be deductible, even food purchased for a potluck, but any staff appreciation gifts you'd like to hand out, as well. The same goes for client or vendor appreciation gifts. (If you have someone external doing your books, be sure they're asking about purchases for things like massage gift cards and fruit baskets, and recording them as business expenses, not draw activity.)
Many networking groups hold a special holiday party. Not only would any food and drink you purchase for that be deductible, but also mileage to the event. If you're having trouble keeping up with your mileage, something as simple as a mileage log (free to download here) in your vehicle or as sophisticated as an app can do wonders to help you track that.
Whatever you do, be sure you're keeping proper record of your business expenses, even while you party it up.
Falling Behind on Bookkeeping
Between parties, travel, and employees being out sick from all the germs they picked up partying and travelling, it's easy for certain tasks to get a bit behind in the later part of the year. However, bookkeeping is not like cleaning the house; you can't just plan to catch it all up at once. If I don't clean my house for a month, it's not that much more difficult, proportionately, than if it's not cleaned for a week. Bookkeeping doesn't work that way. If your bookkeeping takes four hours a month and you fall three months' behind, you now have twelve hours worth of bookkeeping to do. (And finding twelve hours for a task you like is difficult enough; imagine trying to find half an entire day to dedicate to a task you dislike.)
Many business owners who find themselves in the position of staring down months of untouched financials make the decision to get some outside help, just to catch things up. The problem is that they're in good company. Beginning in November, professional bookkeepers get very busy with new clients who are hoping to get their books cleaned up for year-end. Not only is there an influx of new clients, but existing clients continue to need service, and we're busy getting all of their year-end documents ready as well. Many of my friends who work solo or operate smaller firms do not take on any new work during this time of the year.
If you aren't certain that you'll be able to keep up with your financials on your own during the holiday season, begin seeking assistance now, before you get too busy.
Not Preparing for Next Year
(NOTE: If you are one of those people who files an extension out of habit, this is for you.)
You may not realize it, but there is a lot you can be doing right now to get ready for next year's tax season.
Just like you don't have to wait to make a New Year's resolution to start getting fit, you don't have to wait for January 1st to start getting your books in shape for tax season. For starters, you can be preparing for the January payroll reporting rush. In the chaos of year-end, many business owners forget that 1099s and W-2s are due at the end of January, and not in April. To prepare, you can be sure that you have W-9s, W-4s, and any required state tax documents on hand now, instead of trying to get them from workers later. (This is especially true of 1099 contractors, as they may work for you for a much shorter season and can be harder to track down later.)
If you have been using an outsourced payroll system, be checking now to ensure that the payroll reports in your financials match those provided by the vendor. Sometimes errors do occur, and you will need to alert the payroll company right away if their totals are incorrect. (Like bookkeepers, they are getting very busy this time of year, too.)
You want to check to make sure that your sub-ledger totals, such as your Accounts Receivable and Accounts Payable, match your General Ledger balances. You also want to be sure that you are up-to-date on any reconciliations.
Finally, it's a good idea to take some additional tax-sheltering steps. For example, if you had a good year and are cash-basis, consider making a large business purchase in December instead of January, to reduce your taxable income. Or maybe you have not been paying enough into your withholdings or your quarterly estimated self-employment taxes, and need to increase those in December. There are many options available to you, but you need to act now.
Fortunately, you still have some time to make the most of your holiday season. Stay on top of your books as you go, and you will have a restful and relaxing January (at least compared to everyone who didn't put in the work during December). If you need help, we are always available.
Your Accountant's Weird Habits - Explained
If you have a pet in your family, maybe you've seen those articles purporting to explain why your dog spins in a circle before lying down, or why your cat would rather drink from the faucet than a water dish. To many people, there is a creature even more alien and perplexing than any animal: the finance professional.
Your bookkeeper or tax professional might say or do things that don't make a lot of sense to you. Some of their actions might seem flat-out contradictory. But, as with any exotic species, there is a reason behind all of it.
I want to break down a few of the most commonly complained-about behaviors, along with the explanations behind them (with the assistance of cat pictures).
First annoying habit: My accountant keeps nagging me to get organized.
Your bookkeeper wants you to have a system for tracking open customer balances, or wants you to keep all your expense reports in one place. It's frustrating, because the whole reason you're paying them is for them to "keep up with that stuff".
So why do they do it?
For starters, good bookkeeping relies on complete information. (A balance sheet showing $1M in the bank doesn't mean much if there's a $995K liability that got left off.) Unless you have an in-house accounting staff, your bookkeeper is relying on you to get that information to them. A good organizational system ensures that all of the information is getting to who needs it.
Furthermore, most accountants charge based on time expended, and though good accounting can be had at a good value, it's still not cheap. Paying your accounting service to dig through files and hunt down info is a waste of their time and your money.
Speaking of "time", my accountant freaks out if I don't get certain information to them right away. What's the rush?
Certain items, particularly related to tax filings, can incur massive penalties if late. Your accountant needs the information in advance of those deadlines, to record it and check for accuracy. (Inaccurate filings can also, of course, result in penalties.)
If your accountant is pestering you to get information to them quickly, it's because they are trying to keep you out of trouble and save you money.
Since we're already talking about taxes...Why does my accountant try to make me spend money I don't want to spend? For instance, why do I have to treat certain workers as W-2 employees, instead of paying them as contractors?
Because worker classification is a big deal. Not paying employees correctly can result in audits, fines, and even lawsuits. Your accountant is being a stickler about the rules because they don't want you to get sued.
Still talking taxes...Why does my accountant say I can't take this cool deduction I found? I saw online that I can expense my home office/car payment/pet kinkajou/etc.
Present blog excluded, internet advice is no substitute for real, professional guidance. Though you'll seeing many articles claiming that you can write off an entire car payment, or take a "home office" deduction, the actual guidelines surrounding those items have specific criteria which must be met. Unfortunately, small businesses, particularly those which are sole proprietorships, are frequent targets for audits. Taking excessive, unqualified deductions puts you at an even greater risk. If you trust your tax professional, trust that they will advise you of deductions for which you do qualify. (If you are not happy with your current tax professional, we can recommend some.)
So I have to spend extra on employees, but can't take any of the fun deductions. And now I'm being told that I need to watch my spending on meals, and look at ROI for things like advertising. Is my bookkeeper just a kill-joy?
No, they just don't want you to go broke. Going bankrupt isn't just bad for you; it also means you can't pay your vendors (like your bookkeeper). So they have a vested interest in keeping you solvent.
Because, no matter what your business, one thing we all have in common is that we like to get paid.
Resolutions for Your Books
The clock has struck midnight, and rung in a new year. And you only have 105 days to get in shape.
Your books, that is. April 15th is coming up fast, and you want your books to be looking goodwhen the big day rolls around. Fortunately, there are many ways in which getting your books healthy is a lot like getting yourself healthy. So, to help you keep a resolution for good accounting in the new year, we'll be comparing it to the most consistently popular New Year's resolution.
How to Clean Up Your Books in the New Year
1. Make a plan. A common first step to those seeking to lose weight is to get a gym membership. Likewise, those who are serious about cleaning up their books should invest in some good accounting software. It is also imperative that, if you haven't yet, you set up a chart of accounts and have separate bank accounts and credit cards for your personal and business finances.
2.
Smaller, frequent efforts are more beneficial than larger, infrequent efforts. Going to the gym once a week for four hours isn't going to help you as much as going three times a week for one hour. In fact, you're expending more energy for less results. Bank reconciliations are similar. Doing your reconciliations on a monthly basis is a huge, exhausting chore. Doing reconciliations weekly or even daily is an easy, manageable routine which keeps your books in better shape.
3. Follow your document "diet". Yes, we'll go ahead and admit this point is a bit of a stretch. (Extended metaphors are hard, guys.) Would it help to say that receipts are the organic granola of accounting? Anyway, just like a lot of people track their calories while attempting to lose or maintain weight, you should be tracking your purchases as well. When tax-time arrives, those documents are a great asset for itemizing deductions.
4. If it's too much to do alone, get help. Personal trainers make their living showing people how to work out, but they still can't do the exercise for them. That's just one (of many) ways in which accountants are cooler than personal trainers. A good accountant can do project work and help you get your books in order. However, many business owners prefer to avoid the work entirely, entrusting an expert with keeping their books long-term.
Imagine how easy it would be to get in shape if you could just pay a trainer to go work out for you. Just shows how much easier it is to take care of your financials.