Sometimes we get excited about an idea we have like starting a side business or buying rental property, and we forget to think about the tax implications that come with the project. It is always a good idea to be prepared and be strategic so when tax season comes around, there are no surprises on the amount owed and run low on cash.
Real estate income gets taxed like your regular income. Profits from property appreciation are considered capital gains, which will be taxed appropriately. However, you can take advantage of deductions from real estate-related expenses like property taxes, insurance, repair costs, mortgage interest, property management fees, advertising expenses, legal fees, and other maintenance costs. Depreciation, which is the loss of an asset’s value over time, can also be deducted from taxes. These deductions decrease your taxable income which can potentially put you in a lower tax bracket and reduce your tax burden. You should keep detailed receipts of everything you purchase for the property and deduct on your tax return in case you are audited by the IRS. Platforms like QuickBooks and Wave App can help you get organized and keep track of receipts.
You want to make sure to understand capital gains and the difference in taxes between short-term and long-term gains. When you sell an asset you have owned for less than a year, the profit is considered short-term capital gains and is counted and taxed as regular income. This can dramatically increase your taxable income and put you in a higher tax bracket. With long-term capital gains, if you sell an asset you have had for more than a year, your tax burden will be significantly lower because it isn’t taxed as regular income. Depending on your income level the long-term capital gains tax can range from 0% to 20%. Use Schedule E (Form 1040) to report income or loss from rental real estate.
If you are just starting your business, make sure to strategically choose your business structure. You can operate as a sole proprietor, partnership, LLC, S corporation, or C corporation. Your choice of structure will impact taxes on business income and deductions. The best choice depends on your personal and unique situation. Be sure to do your research and talk with a tax advisor or financial planner to make the best decision for you!
In order to optimize the tax strategy for your small business, you should know the different tax deductions and credits you can take in 2022. This will help you maximize profits to succeed and keep growing your business. Deductions are qualified expenses you can subtract from your taxable income. Some deductions include wages, benefits, vehicles, equipment, advertising, and legal fees. These can lower your taxable income and potentially place you in a lower tax bracket. Again, various bookkeeping platforms can help you organize and keep track of receipts that will be of use when tax season comes along.
Tax credits reduce your tax bill, not taxable income. For example, if you owe $15,000 in taxes but have a $5,000 credit, your tax bill will be $10,000. Some business credits are the disabled access credit, credit for increasing research activity, and credit for small employers health insurance premiums. To claim a general business credit, you will first have to get the forms you need to claim your current year business credits, and, in most cases, you may also need to file Form 3800.
Taxes are not always the most straightforward or fun thing about running your real estate or small business. Doing your research can help you avoid surprises when tax season comes along, and help you retain more of your profit in your pocket. It is also a good idea to ask for help or reach out to an accountant if you feel lost or overwhelmed.