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Options for people who have too good of a tax strategy...

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Options for people who have too good of a tax strategy...

There are probably a few threads about this issue already. There is actually one titled "Tax write offs affecting gross income for mortgage" that I just read, but it doesn't offer much advice.

 

Basically, every year I purchase homes at auction for cash. These purchases make it seem to the IRS that my annual income is only about $20,000. I get a great refund!

 

But then when I applied for a mortgage, even the lowest of the low predatory lender just laughs at me and my application while I die a bit inside.

 

So now I have 6 houses, all paid for, earning me roughly $40,000 in gross profit. On top of that I have my regular job, and thus I actually pull in about $110,000 a year.

 

Sure I could continue to purchase homes in this manner and there will surely be some point where I could buy larger investments with cash, but I'd like to do that now with the help of a mortgage.

 

What can be done in this situation? Are there any lenders who would consider a borrower who doesn't report more than $20,000 in income to IRS, even though actual income is much higher only hidden by the yearly investement into real estate as a sort of "retirement plan"?

11 REPLIES 11
Community Leader
Super Contributor

Re: Options for people who have too good of a tax strategy...

Sounds like you have rental income from those 6 homes, is that the case?  If so, then a combination of your leases and the rental income from your Schedule E is how that part of your income would be calculated.  If a rental property appears on your Schedule E, then the income would be calculated from that; rental income any rental properties that have been purchased since you've filed your most recent tax filing will be calculated at 75% of the amount on the lease.

 

Your employment income is calculated separately - base pay usually qualifies at it's current rate, and then any overtime/bonuses/commissions are typically averaged over a 2-year period.

 

Not sure what you mean by "income is much higher only hidden by the yearly investment into real estate" or "these purchases make it seem to the IRS that my annual income is only $20k", etc..  Mortgages deal in documentation.  You'll need to describe how your tax returns look, with terms such as "Schedule C", "Net Profit from line 31", etc. 


If you are asking about loans that don't require analyzing your tax returns/W-2's/paystubs, those are still available, including being able to qualify based on 24-months of bank statements, but with larger down payment requirements and higher interest rates.

Helping people with mortgages (FHA, VA, USDA, Fannie, Freddie, Non-Prime, Construction, Renovation/Rehab, Commercial) since 2002
Located in Orange County, CA and lending in all 50 states
Message 2 of 12

Re: Options for people who have too good of a tax strategy...

Yes, that's true. I have rental income from 5 of the 6 properties right now. None of them have any mortgages or leins.

 

I don't file conventionally as most people with rental income do use Schedule E to report, and therefore cannot offset wage income with real-estate business losses. However, I file all rental income on Schedule C since I work more than 2000 hours, and more hours in general than at my "normal" wage job. I've passed all the tests for filing in this manner and have kept the records of my working hours in case of audit. Most people don't file this way, and some even advise against it in any circumstance. However, I am ready for an audit should one come.

 

In this manner, I usually have a "net income" of about $17,000 to $22,000 and recieve a healthy refund each tax year. However, it doesn't show that the reason why my net income is so low... I take a $60,000+ loss every year due to a new property purchase, every year. So my actual, useable, income is $90,000+. I want to swtich to financing for larger property purchases and to grow the business. I want to pay the lender that $60,000+ every year instead of plopping it down at the auction.

 

How do I proceed? Am I stuck purchasing cash only?

Message 3 of 12
Super Contributor

Re: Options for people who have too good of a tax strategy...

60k loss?    well, if that is legitimate losses... then your income is what it is. 

if it isnt legitimate losses, then you are trying to have your cake and eat it too.  what you tell the tax man is what you must tell the lender.

 

also... if you have a lot of depreciation in those losses... we can add that back towards income. as it is not an actual cash loss. 

 

 

Retired Lender
Message 4 of 12
Community Leader
Super Contributor

Re: Options for people who have too good of a tax strategy...

While reporting rental income on Schedule C isn't common, I've seen it done before and it's treated as self-employment income with the source being your rental properties (when it comes to the undewriting asking for verification of current self-employment).  However, as Dallas has pointed out, if your Schedule C shows a $60k loss (not sure what would lead to such a loss on rental properties if none have any mortgages on them) then that'll not only not give you qualifying income, that'll reduce whatever other income you have to qualify with.

 

You still may have enough qualifying income from your "normal" wage job to qualify in the traditional manner (W-2's, paystubs, tax returns) though, just really depends on what all of your income figures look like and exactly what you are looking to accomplish.

Helping people with mortgages (FHA, VA, USDA, Fannie, Freddie, Non-Prime, Construction, Renovation/Rehab, Commercial) since 2002
Located in Orange County, CA and lending in all 50 states
Message 5 of 12
Moderator Emeritus

Re: Options for people who have too good of a tax strategy...

No useful advice, but a question: if you're purchasing to rent, shouldn't that be a capital expense?  For what little I know about it, thought you needed to be a small time house flipper to be able to deduct real estate fully as a purchase for resale?

 

 




        
Message 6 of 12

Re: Options for people who have too good of a tax strategy...

How do I report a loss?

 

For example... Let's say I have 3 houses at the beginning of the year. All are rented out and they produce a net annual profit of $25,000. So then I purchase a fourth house to add to the rental portfolio. Total cost to purchase this fourth house is $55,000. For that year, I've had a $30,000 loss, which I then use to offset my "normal" income, and pay less taxes as a result.

 

The question about claiming it as a loss and not capital expenditure is interesting. I know that in order to offset W2 income, I'd need to work more than half of my working hours for the rental business. This has been confirmed, but I don't understand the capital expenditure and the amortization thing, and how it would be more beneficial than what I am currently doing in regards to taxes.

Message 7 of 12
Community Leader
Super Contributor

Re: Options for people who have too good of a tax strategy...

OK, so you are counting the purchase price of the new home as an expense?  Guess that is one way to do it.  I am not a tax preparation expert, I only analyze tax returns.

Helping people with mortgages (FHA, VA, USDA, Fannie, Freddie, Non-Prime, Construction, Renovation/Rehab, Commercial) since 2002
Located in Orange County, CA and lending in all 50 states
Message 8 of 12
Moderator Emeritus

Re: Options for people who have too good of a tax strategy...


@CheTanaka_is_MyIndianName wrote:

How do I report a loss?

 

For example... Let's say I have 3 houses at the beginning of the year. All are rented out and they produce a net annual profit of $25,000. So then I purchase a fourth house to add to the rental portfolio. Total cost to purchase this fourth house is $55,000. For that year, I've had a $30,000 loss, which I then use to offset my "normal" income, and pay less taxes as a result.

 

The question about claiming it as a loss and not capital expenditure is interesting. I know that in order to offset W2 income, I'd need to work more than half of my working hours for the rental business. This has been confirmed, but I don't understand the capital expenditure and the amortization thing, and how it would be more beneficial than what I am currently doing in regards to taxes.


Honestly I think you should talk to a tax professional if you haven't already.

 

I don't think it'd be more beneficial necessarily, I'm concerned it may be mandatory based on my layman's knowledge of tha tax code.  




        
Message 9 of 12
Valued Contributor

Re: Options for people who have too good of a tax strategy...


@CheTanaka_is_MyIndianName wrote:

How do I report a loss?

 

For example... Let's say I have 3 houses at the beginning of the year. All are rented out and they produce a net annual profit of $25,000. So then I purchase a fourth house to add to the rental portfolio. Total cost to purchase this fourth house is $55,000. For that year, I've had a $30,000 loss, which I then use to offset my "normal" income, and pay less taxes as a result.

 

The question about claiming it as a loss and not capital expenditure is interesting. I know that in order to offset W2 income, I'd need to work more than half of my working hours for the rental business. This has been confirmed, but I don't understand the capital expenditure and the amortization thing, and how it would be more beneficial than what I am currently doing in regards to taxes.


Um... I believe that the approach you are describing is not "too good of a tax strategy", but rather "ongoing tax fraud".

 

Unintentional tax fraud, granted (I'm not accusing you of doing it knowingly!), but the IRS doesn't care about that, and you will be in a world of pain if/when they pick up on this in your filings.

 

You can't just apply the capital cost of buying a new building against the rest of your business and/or W2 income!  That just isn't how the tax code works.

 

You need to start with reading these:

 

IRS Publication 535: https://www.irs.gov/publications/p535/ch01.html

IRS Publication 946: https://www.irs.gov/publications/p946/ch01.html

 

And then contact a qualified business tax attorney.

 

Your discussion with the tax attorney should include both proper tax filing procedures for future years, and a re-calculation of the previous years that you incorrectly claimed the full value of capital purchases as deductions.

 

Sorry to be the bearer of bad news. But the sooner you fix this, the lower the penalties will be.

 

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Message 10 of 12
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