Cut Your Tax Bill

Don’t miss deductions that may be due you as a real estate pro.

February 1999 | By Colum Lynch

Its February, so real estate practitioners around the country are poring over their federal tax returns—and some are probably sticking pins in IRS agent voodoo dolls.

But before you start cursing the IRS as our modern version of the plague, remember that the tax law works best for those who know it most intimately. Simply, the more you understand about what the law allows, the more you can reduce your taxable income and thus your tax liability.

Combine your knowledge of the tax law with meticulous record keeping, and youll stop living in fear of a mysterious letter arriving from the IRS.

It may be too late to put all your new knowledge to work for this tax year—youve earned all the commissions and made all the business purchases youre going to make for 1998—but keep this article handy as youre planning for 1999. And remember that every persons tax situation is unique. Talk to a qualified tax professional about how the law applies to your business.

Why worry about an audit?

Youve probably heard alarmists who point out that as many as 5.8 percent of Schedule C filers get hit with an audit, compared with only 1.67 percent of all U.S. taxpayers (most real estate practitioners are independent contractors and file a Schedule C). But dwell too much on the possibility of an audit, and you may let fear freeze you out of legitimate deductions.

Whats legitimate? Anything that furthers your business goals qualifies. Advertising and promotional material. Magazine subscriptions. MLS fees. Local association dues. Closing gifts up to a certain limit. Even voice coaching.

If youre careful to keep detailed records, you can write all those expenses off and more, says Saul Klein, a San Diego—based financial planner and real estate practitioner. You can get really aggressive. Write off that dry cleaning bill for your company blazer, he suggests. As long as the deductions arent extraordinary, you wont have much trouble. Just ask yourself, Is it reasonable and necessary?

Lowdown on the home office deduction

Most real estate practitioners dont qualify for the home office deduction because their broker provides their principal place of business. But if space downsizing trends in corporate America carry over into the real estate world, more salespeople will be setting up shop in satellite offices at home.

For years Americans have viewed the home office deduction as a sure red flag for IRS auditors. But tax preparers say the fear is irrational.

I regularly give practitioners home office deductions, says Toby Bradley, a tax specialist and a real estate practitioner with Home Realty & Investments, Santa Barbara, Calif. I havent had a client audited in more than a decade. Ask yourself, Is it my primary place of business?

If you do have to prove to an auditor that your home office is your principal place of business, bear in mind that an office that looks like juniors romper room isnt going to pass muster. Move out the television, the kids toys, and the bridge table (unless youre using the table as a desk, in which case we recommend a trip to IKEA). Then take a photograph or video of your home office. Use the office primarily for work (dont sweat over an occasional game of computer solitaire), and keep records of business conducted in the room. Be sure to measure the square footage of the room. Take your deduction for the cost of that room (mortgage, utilities, and so on) based on whatever percentage its square footage is of your homes total square footage.

One worry some people have is that taking the home office deduction reduces the tax basis of their home, possibly increasing their capital gain when they sell. That shouldnt be a concern, though, since the 1997 tax law changes wiped out capital gains taxes on a home sale for most taxpayers.

The news is even better for next years return: In the past, some heavy business travelers reportedly had their home office deductions disallowed. But thanks to a change in the law, if you have nowhere else to administer and manage your business, you can now safely take the deduction—even if your work has you out of the office more than in it.

Deduct the dining room table?!

Even if you dont qualify for a home office deduction, you may have deductions lying around the old homestead.

Many people have the misconception that because they dont have a deductible home office, they cant deduct home-based business equipment, says Carol Thompson, a Monterey, Calif. tax expert and spokeswoman for the National Association of Enrolled Agents. You can deduct the bona fide business cost of the desk, computer, filing cabinets, calculators, special telephones, and answering machine.

If you use that new Pentium II computer—and the computer table its sitting on—50 percent of the time for working at home, you can deduct 50 percent of the cost on your tax return.

Hmm, the possibilities are endless. You say you use your new dining room table exclusively for business meetings and meals? Take a deduction for the cost. If you park your business auto in a local garage, deduct the monthly payment.

Just remember, only bona fide business expenses will doand they must be reasonable and necessary.

Rules of the road

Speaking of your business auto, if youre tempted to buy a $60,000 Beemer to deliver your prospects to their dream home, read on.

The luxury car tax places an 8 percent excise tax on cars costing more than $36,000a compelling reason to scale down. In addition, cars used for business have restricted depreciation rules applied to them. Theres a limit to the amount you can depreciate each year—the total over four years is $12,985—so it could take decades to claim the full depreciation on your fancy import. Buy a cheaper car, and you can write off the cost in just six years.

Better yet, drive a monster vehicle. A loophole in the Section 179 deduction (see What 179 means to you, page 48) allows you to claim as much as $18,500 for business vehicles that weigh more than 6,000 pounds. So if youre going to go for luxury, maybe the Range Rover or Hummer is your best bet.

Another, more practical strategy for those who must have luxury is a lease. For tax purposes, it may be much more advantageous to lease a car, says Ellen Katz, editor of the newsletter Tax Savings Report and Research Recommendations, published by the National Institute of Business Management, McLean, Va.

If you lease a car and use it 100 percent of the time for business, you can write off up to $18,500 over a four-year period.

However, the IRS suspects that most people use their business cars at least part of the time for personal use. So you may be wise to take a family trip or two in your business auto and write off no more than 90 percent of its use.

Good news for 1998 leasers: You can now take a standard mileage deduction—32.5 cents per mile (going down to 31 cents per mile April 1, 1999)—just as you could if you bought the car. So if you failed to collect every receipt for gas, oil changes, repairs, and insurance, you can still claim a deduction for legitimate business miles.

Lets say you drove 15,000 business miles, says Thompson. Thats $4,875 worth of deductions. Thats a lot in taxes.

Meals on wheels

Does your work take you out of town? Few business travelers are aware they can deduct a standard per diem for meals during travel, says Bradley.

There are about four different per diem dining rates around the country. In Denver, for instance, the rate is $34 per day. In San Francisco its $42. A 10-day junket to the city by the bay adds up to a healthy $420 deduction.

Rates for overseas travel are even higher, as high as $90 a day for dining in London. A two-week business trip to Paris can lead to a write-off of more than $1,000, says Bradley. And you dont even have to have a record.

Dont forsake all trip record keeping, though. Writing off hotel stays requires lodging receipts.

Beaches, business: mix em

Next time youre in Orlando, Fla. for an NAR convention (there happens to be one there this year—how convenient), head out to Walt Disney World for a couple of days. Or loll on the beach. And write it off.

If the primary purpose of your trip is business, youre allowed to mix in some vacation and basically write off the entire trip, says Bradley.

But you need to take a few precautions to protect yourself against having the expenses rejected in an audit.

Arrange business trips around the pleasure excursions. If the cost of traveling back home between Friday and Monday meetings exceeds the cost of spending the weekend on the road, a weekend vacation can be justified, says Henry Fellman, a Boulder, Colo.—based CPA and author of Keep Your Hard Earned Money (Pocket Books, 1998; $14).

If you can add a few rounds of golf to your workdays, better still.

Its better to schedule two meetings in the morning and take the afternoon off, says Bradley. As long as you genuinely have a business purpose, dont panic and have some fun.

Bring the kids along, and youll have to be a bit more cautious. You cant claim their expenses. But if theres no additional fee for having your spouse and children stay in your hotel room, you can still deduct the cost of lodging.

Bradley says tax courts have been generous in allowing business travelers to mix business with pleasure, but theyre not stupid. If you work one day in Puerto Rico, spend a week on the beach, and write the whole thing off, youre asking for trouble.

What 179 means to you

The number 179 has special meaning for some taxpayers. It refers to a section of the U.S. tax code that allows business owners to expense the cost of business equipment investments in a single year rather than depreciate them over several years.

Theres a limit to how much you can expense. For 1998 the Sec. 179 limit is $18,500. For 1999 its $19,000. It doesnt matter when during the year you purchase the equipment. So if you bought a printer on December 31, you can expense it on your 1998 return.

Purchases in 1999 cant be written off on your 1998 return, so upgrade your equipment this year with your 1999 tax return in mind.

I tell people if you dont need it, dont buy it, because youll get only 30 percent on the dollar, says Carol Thompson, a Monterey, Calif. tax expert and spokeswoman for the National Association of Enrolled Agents. But if you need new equipment, go ahead and get it, because youll save 30 cents on the dollar.

One caveat: You cant expense more in a year than you earned in your business. However, you can carry over expenses to the next tax year.