WEBVTT 00:00:06.030 --> 00:00:09.250 Hi, everyone. This is the How to Lower Your Tax 00:00:09.250 --> 00:00:12.429 Bill podcast. I'm your host, Terrence Hutchins. 00:00:12.949 --> 00:00:15.410 I'm a financial and tax advisor in the Dallas 00:00:15.410 --> 00:00:18.190 Fort Worth area. And the goal of this podcast 00:00:18.190 --> 00:00:20.809 is to help you listeners get educated on different 00:00:20.809 --> 00:00:23.589 tax strategies that you can implement to improve 00:00:23.589 --> 00:00:26.750 your tax situation immediately. Each episode 00:00:26.750 --> 00:00:29.769 will break down useful tax tips you can use to 00:00:29.769 --> 00:00:32.369 save money, no matter what your personal or business 00:00:32.369 --> 00:00:35.350 income situation. Because our motto is, keep 00:00:35.350 --> 00:00:38.570 more of what you earn. So let's get into today's 00:00:38.570 --> 00:00:47.049 episode. Thanks for tuning in to another episode 00:00:47.049 --> 00:00:49.509 of How to Low Your Tax Bill. We have been going 00:00:49.509 --> 00:00:52.189 through some different things that impact real 00:00:52.189 --> 00:00:54.810 estate investors. And so we want to pivot slightly. 00:00:55.210 --> 00:00:58.070 And as tax season has wrapped up, most people 00:00:58.070 --> 00:01:00.700 kind of don't think about taxes anymore. But 00:01:00.700 --> 00:01:02.939 there's a lot of information on your last year's 00:01:02.939 --> 00:01:05.599 tax return that should impact how you think about 00:01:05.599 --> 00:01:07.680 this year. So we're going to talk about some 00:01:07.680 --> 00:01:10.799 of that stuff over time. But I also want to think 00:01:10.799 --> 00:01:13.060 through what are the facts of your situation 00:01:13.060 --> 00:01:15.540 this year that you need to properly be accounting 00:01:15.540 --> 00:01:17.739 for. And we're going to talk about this concept 00:01:17.739 --> 00:01:21.239 of phantom income. And many times when people 00:01:21.239 --> 00:01:23.939 make decisions, they do it with a short term 00:01:23.939 --> 00:01:27.040 lens. And so how many times have you, you know, 00:01:27.079 --> 00:01:29.680 think about the marshmallow test, where if you 00:01:29.609 --> 00:01:32.109 don't eat the marshmallow today, you get two 00:01:32.109 --> 00:01:35.269 marshmallows in the future. Most people decide 00:01:35.269 --> 00:01:36.810 to just, hey, let me just take that marshmallow 00:01:36.810 --> 00:01:39.390 now, because they're not willing to wait for 00:01:39.390 --> 00:01:41.950 something better in the future. From a tax lens, 00:01:42.189 --> 00:01:44.849 it's generally, what can I do today to help me 00:01:44.849 --> 00:01:47.890 save in taxes without thinking about what revocations 00:01:47.890 --> 00:01:50.329 will that have in the future? And so I wanna 00:01:50.329 --> 00:01:53.549 touch on two concepts that sort of are the foundation 00:01:53.549 --> 00:01:56.879 of how these... impact taxes and how you could 00:01:56.879 --> 00:01:59.540 actually be paying taxes on income or you could 00:01:59.540 --> 00:02:01.980 be paying taxes on a higher level than you actually 00:02:01.980 --> 00:02:05.379 have cash to pay or maybe you sold something 00:02:05.379 --> 00:02:08.199 and you thought that the tax on it would be commensurate 00:02:08.199 --> 00:02:11.080 to the profit that you had but you didn't factor 00:02:11.080 --> 00:02:13.360 in some of the other elements. So I'll go through 00:02:13.360 --> 00:02:15.240 some specific examples so you guys don't get 00:02:15.240 --> 00:02:17.639 lost and you hang in there with me and I think 00:02:17.639 --> 00:02:20.379 you'll be able to determine if this is applicable. 00:02:20.719 --> 00:02:22.680 You'll definitely want to make some changes or 00:02:22.680 --> 00:02:25.740 plan ahead appropriately. So the IRS has what 00:02:25.740 --> 00:02:28.259 they call the constructive receipt doctrine, 00:02:28.460 --> 00:02:31.400 which means that you get tax on income when it's 00:02:31.400 --> 00:02:35.060 made available to you. And sometimes that may 00:02:35.060 --> 00:02:38.639 not even be money you receive, but the IRS says 00:02:38.639 --> 00:02:41.400 that you have the ability to get it, then you 00:02:41.400 --> 00:02:43.919 actually will pay taxes on it in the year that 00:02:43.919 --> 00:02:46.419 you have the ability to get it. A simplistic 00:02:46.419 --> 00:02:48.879 example of that would be, You get a bonus from 00:02:48.879 --> 00:02:52.960 your employer of $10 ,000. However, you don't 00:02:52.960 --> 00:02:56.000 pick up the check until January. Well, according 00:02:56.000 --> 00:02:58.139 to your employer, the bonus is paid out in December. 00:02:58.340 --> 00:03:00.060 They're probably gonna write off in December. 00:03:00.580 --> 00:03:02.939 Because of that, you're gonna pay taxes on it 00:03:02.939 --> 00:03:05.580 in the year that you effectively received it, 00:03:05.580 --> 00:03:08.099 even if you didn't actually have the money in 00:03:08.099 --> 00:03:10.659 hand until the next year. So that constructive 00:03:10.659 --> 00:03:13.539 receipt doctrine will impact other things, which 00:03:13.539 --> 00:03:16.120 we'll go through later. You also have the economic 00:03:16.120 --> 00:03:18.870 benefit doctrine. which just means you get tax 00:03:18.870 --> 00:03:21.090 on benefits that are secured for you, even if 00:03:21.090 --> 00:03:24.889 you can't use them yet. So for example, if you 00:03:24.889 --> 00:03:27.449 receive something that you get some kind of benefit 00:03:27.449 --> 00:03:30.250 for, this could be stock. It could be money that 00:03:30.250 --> 00:03:32.569 goes into a trust. It could be different things. 00:03:33.229 --> 00:03:35.830 You could actually pay tax on that money today, 00:03:35.969 --> 00:03:38.110 even if you don't actually have it. People get 00:03:38.110 --> 00:03:39.610 frustrated with that because they're thinking, 00:03:39.990 --> 00:03:42.710 well, yeah, I mean, this money did come to me, 00:03:42.710 --> 00:03:45.530 but if I don't actually have it, I can't use 00:03:45.530 --> 00:03:48.419 the money in their minds. But from the IRS's 00:03:48.419 --> 00:03:50.599 vantage point, you received an economic benefit 00:03:50.599 --> 00:03:53.340 whenever you got it. And as a result, you're 00:03:53.340 --> 00:03:56.699 going to pay tax on it in that year. And so there's 00:03:56.699 --> 00:04:00.080 different things that that rule will impact. 00:04:00.240 --> 00:04:02.120 So we'll kind of walk through those. But the 00:04:02.120 --> 00:04:04.860 biggest thing that I see people doing that impacts 00:04:04.860 --> 00:04:06.759 them that they really don't plan for in the future. 00:04:06.979 --> 00:04:09.199 So you probably had this conversation. If you're 00:04:09.199 --> 00:04:10.759 a business owner at the end of the year, you 00:04:10.759 --> 00:04:13.219 get your tax bill and it's higher than you thought. 00:04:13.379 --> 00:04:15.479 And you're thinking, well, what can I do? Or 00:04:15.479 --> 00:04:17.600 not even that you get your tax bill. you basically 00:04:17.600 --> 00:04:19.420 get your tax projection. Let's say you're planning 00:04:19.420 --> 00:04:21.139 a little bit ahead. You're doing this in December, 00:04:21.139 --> 00:04:24.139 of course. And now you owe 10, 20, $30 ,000. 00:04:24.500 --> 00:04:26.959 Well, you go and say, hey, look, what if I buy 00:04:26.959 --> 00:04:30.319 this car? I see that Tesla model Y, which you 00:04:30.319 --> 00:04:32.860 probably not buying that now. So maybe you're 00:04:32.860 --> 00:04:35.399 buying that, you know, large Mercedes Benz or 00:04:35.399 --> 00:04:37.920 that big truck or whatever it is. And you say, 00:04:37.939 --> 00:04:40.519 hey, look, if I buy this $80 ,000 car, I heard 00:04:40.519 --> 00:04:42.500 this thing called bonus depreciation. I could 00:04:42.500 --> 00:04:44.819 take a big tax deduction on it. And so let's 00:04:44.819 --> 00:04:48.050 say you do that. you buy this $80 ,000 car after 00:04:48.050 --> 00:04:50.350 depreciation expense, that's a $60 ,000 deduction. 00:04:50.550 --> 00:04:53.170 So all of a sudden, your $50 ,000 tax bill, $20 00:04:53.170 --> 00:04:55.769 ,000 tax bill went away. You're high -fiving, 00:04:55.810 --> 00:04:57.949 you're thinking, oh, this is amazing. Well, what 00:04:57.949 --> 00:05:00.810 happens is that car has a five -year shelf life. 00:05:01.250 --> 00:05:03.829 So if you, let's say in that example, you took 00:05:03.829 --> 00:05:06.329 a $60 ,000 deduction in year one, that means 00:05:06.329 --> 00:05:09.129 you only have $20 ,000 left for tax purposes 00:05:09.129 --> 00:05:12.220 to depreciate. So you have four more years. So 00:05:12.220 --> 00:05:14.600 think about that $20 ,000 is gonna be spread 00:05:14.600 --> 00:05:17.399 out over four more years. Now you can also write 00:05:17.399 --> 00:05:19.899 off the gas and interest and stuff like that. 00:05:20.319 --> 00:05:23.100 However, the payment for that car, if you didn't 00:05:23.100 --> 00:05:25.860 pay it in cash, is gonna linger with you for 00:05:25.860 --> 00:05:27.639 the amount of the loan. So you could be paying 00:05:27.639 --> 00:05:31.139 $1 ,200, $1 ,300, $1 ,400 a month. So you're 00:05:31.139 --> 00:05:33.279 thinking, hey, I'm only getting a $5 ,000 tax 00:05:33.279 --> 00:05:35.819 benefit, but I'm paying $14 ,000 out of pocket. 00:05:36.279 --> 00:05:38.610 And when you think about that disparity, you're 00:05:38.610 --> 00:05:42.050 basically paying income on that $9 ,000 difference. 00:05:42.230 --> 00:05:44.329 So if you're saying, hey, my out of pocket expense 00:05:44.329 --> 00:05:48.110 is 14 ,000. My tax benefit is five. Well, that 00:05:48.110 --> 00:05:51.230 extra $9 ,000, the IRS basically allowed you 00:05:51.230 --> 00:05:53.329 to take it upfront. So that's how they were able 00:05:53.329 --> 00:05:56.589 to save taxes in year one. But then you end up 00:05:56.589 --> 00:05:59.129 paying more taxes on income that you don't actually 00:05:59.129 --> 00:06:02.290 have. So the cash left your bank account, but 00:06:02.290 --> 00:06:05.350 you're still paying taxes on that $9 ,000 difference. 00:06:05.850 --> 00:06:08.009 And many people do not think about this from 00:06:08.009 --> 00:06:10.589 year to year. And it's important to understand, 00:06:10.730 --> 00:06:12.870 hey, what is my depreciation today versus what 00:06:12.870 --> 00:06:15.709 my depreciation in the future? And look at your 00:06:15.709 --> 00:06:18.410 situation holistically so that you can plan accordingly 00:06:18.410 --> 00:06:21.189 so that you're not hit with a net, another tax 00:06:21.189 --> 00:06:22.870 bill the next year. And then you're trying to 00:06:22.870 --> 00:06:24.550 scramble and you're making short -term decisions. 00:06:24.910 --> 00:06:27.089 So I always tell people, do not pay a dollar 00:06:27.089 --> 00:06:29.850 to save 30 cents. In the same way, if you went 00:06:29.850 --> 00:06:32.269 to the mall and you saw a store that you didn't 00:06:32.269 --> 00:06:35.899 like had a sale, just keep walking. Don't go 00:06:35.899 --> 00:06:37.480 in there and buy something, because it's just 00:06:37.480 --> 00:06:39.720 probably gonna collect dust in your house. Well, 00:06:39.759 --> 00:06:41.759 from a tax standpoint, you might be putting a 00:06:41.759 --> 00:06:43.779 bandaid on the situation today, but it might 00:06:43.779 --> 00:06:45.579 end up hurting you in the future if you don't 00:06:45.579 --> 00:06:48.800 have a holistic tax plan like that. Other things 00:06:48.800 --> 00:06:51.339 that could also happen, for example, with stock 00:06:51.339 --> 00:06:53.060 options. So there are different stock options 00:06:53.060 --> 00:06:55.120 and on a future episode, we'll go through them 00:06:55.120 --> 00:06:57.759 more in depth. But sometimes, if you have a stock 00:06:57.759 --> 00:06:59.899 option that does not have the quote unquote risk 00:06:59.899 --> 00:07:02.769 of forfeiture. So like it could be a non -qualified 00:07:02.769 --> 00:07:05.009 stock, for example. The IRS says, all right, 00:07:05.069 --> 00:07:08.550 you got the stock and you may owe tax on the 00:07:08.550 --> 00:07:11.209 fair market value of the stock versus the exercise 00:07:11.209 --> 00:07:15.189 price. So if you exercise that stock, sometimes 00:07:15.189 --> 00:07:17.850 you may not even get the cash for the stock because 00:07:17.850 --> 00:07:20.129 you want to keep it. Well, the IRS says, hey, 00:07:20.230 --> 00:07:22.129 you exercise the stock, which means that you 00:07:22.129 --> 00:07:24.550 could technically get it at any point. So you. 00:07:24.699 --> 00:07:27.459 say, hey, the exercise price is $10. The fair 00:07:27.459 --> 00:07:30.040 market value is $50. I'm going to tax them $40, 00:07:30.339 --> 00:07:32.879 even if I don't actually sell the stock. And 00:07:32.879 --> 00:07:34.620 so that's important to know, all right, what 00:07:34.620 --> 00:07:36.860 am I doing here? And sometimes it makes sense 00:07:36.860 --> 00:07:39.199 to exercise the stock, and sometimes it doesn't, 00:07:39.220 --> 00:07:41.240 or sometimes depending on the trajectory of the 00:07:41.240 --> 00:07:43.639 company or the timeline you're on, it could make 00:07:43.639 --> 00:07:46.180 sense to do that. But you want to be aware, if 00:07:46.180 --> 00:07:48.600 I do this, is there going to be a tax impact 00:07:48.600 --> 00:07:51.050 as a result? And so many people aren't going 00:07:51.050 --> 00:07:53.329 to keep track of that on their own. And so if 00:07:53.329 --> 00:07:55.089 you're in that situation where you have stocks 00:07:55.089 --> 00:07:57.850 or stock compensation or a component of your 00:07:57.850 --> 00:08:00.089 pay, then you want to make sure that you're working 00:08:00.089 --> 00:08:02.550 with a professional that can help you with your 00:08:02.550 --> 00:08:05.230 claiming or exercise decisions. So that way you 00:08:05.230 --> 00:08:07.930 will be able to plan accordingly. The other part 00:08:07.930 --> 00:08:10.129 that a lot of people get caught off guard, especially 00:08:10.129 --> 00:08:11.829 when it comes to real estate, is what's called 00:08:11.829 --> 00:08:15.930 depreciation recapture. And many times you see 00:08:15.930 --> 00:08:18.790 online people talk about, hey, I made $500 ,000 00:08:18.790 --> 00:08:21.050 and I didn't pay any taxes last year. Well, normally 00:08:21.050 --> 00:08:23.430 they probably have some kind of accelerated depreciation, 00:08:23.730 --> 00:08:27.730 which is the IRS allow you to use your money 00:08:27.730 --> 00:08:31.110 to take a tax deduction today. So then you pay 00:08:31.110 --> 00:08:33.529 less taxes. And ideally you have that money to 00:08:33.529 --> 00:08:36.029 reinvest. So I always instruct my business owners, 00:08:36.210 --> 00:08:38.350 when you're making a decision, you always want 00:08:38.350 --> 00:08:41.830 to set your taxes aside. It's always easier to 00:08:41.830 --> 00:08:44.070 plan on how to spend money that you already have 00:08:44.070 --> 00:08:46.850 set aside. So if you have a $10 ,000 tax bill, 00:08:47.509 --> 00:08:49.309 Ideally, we've planned ahead to where, hey, I 00:08:49.309 --> 00:08:51.970 have $10 ,000 set aside. If you don't factor 00:08:51.970 --> 00:08:54.929 in taxes, you will end up paying more. I try 00:08:54.929 --> 00:08:57.330 to stress this to people and I tell them, hey, 00:08:57.450 --> 00:08:59.809 try to live your lifestyle based on your after 00:08:59.809 --> 00:09:03.009 -tax income. The iris is your partner. We try 00:09:03.009 --> 00:09:05.009 to help you leverage their rules so you don't 00:09:05.009 --> 00:09:07.529 pay them more than you should. But if you don't 00:09:07.529 --> 00:09:09.309 treat them as a partner, meaning that they're 00:09:09.309 --> 00:09:11.289 gonna take a portion of your money, or you're 00:09:11.289 --> 00:09:12.889 not at least setting aside a portion of your 00:09:12.889 --> 00:09:14.549 money that could go to them, then you're gonna 00:09:14.549 --> 00:09:17.389 have bad options. In those bad options, you'll 00:09:17.389 --> 00:09:19.669 probably end up paying more. Now, when you do 00:09:19.669 --> 00:09:21.710 a cost segregation study, for example, you buy 00:09:21.710 --> 00:09:24.210 a building, you take this big depreciation expense, 00:09:24.250 --> 00:09:26.169 or even if you just took regular depreciation. 00:09:26.730 --> 00:09:28.330 And let's just say that building really didn't 00:09:28.330 --> 00:09:30.450 go up that much in value. So let's just say over 00:09:30.450 --> 00:09:32.830 time, you bought a million dollar building, you 00:09:32.830 --> 00:09:35.490 took $300 ,000 in depreciation, and the building 00:09:35.490 --> 00:09:37.889 only went up to 1 .1, or hey, maybe I gotta sell 00:09:37.889 --> 00:09:40.690 this because the market or whatever. Well, I 00:09:40.690 --> 00:09:42.950 have $100 ,000 profit. I'm going to pay tax on 00:09:42.950 --> 00:09:46.149 $100 ,000 at capital gains tax rates, which generally 00:09:46.149 --> 00:09:49.370 might be 15%. However, you also are going to 00:09:49.370 --> 00:09:51.830 pay depreciation recapture on that $300 ,000, 00:09:51.970 --> 00:09:54.610 which might be close to the 25%. So think about 00:09:54.610 --> 00:09:57.129 it. You basically say, hey, I made $100 ,000 00:09:57.129 --> 00:10:00.409 profit and I'm about to pay $75 ,000 in depreciation 00:10:00.409 --> 00:10:03.750 recapture plus another $15 ,000 in capital gains. 00:10:04.090 --> 00:10:06.710 So hey, I got a $90 ,000 tax bill on $100 ,000 00:10:06.710 --> 00:10:09.440 profit. Now, you forgot about that depreciation 00:10:09.440 --> 00:10:12.179 in the prior years, and depending on your status 00:10:12.179 --> 00:10:14.940 as a real estate professional or passive activity 00:10:14.940 --> 00:10:17.299 loss rules, you may not have any losses to offset 00:10:17.299 --> 00:10:19.740 that. And so those are things that are important. 00:10:19.799 --> 00:10:22.000 When you sell an asset, you need to make sure, 00:10:22.100 --> 00:10:24.279 okay, what is the tax impact of that? And I need 00:10:24.279 --> 00:10:26.679 to plan accordingly to my facts for that year. 00:10:26.980 --> 00:10:29.799 That's why your tax situation is not just a one 00:10:29.799 --> 00:10:32.620 -year thing. You want to have a multi -year view 00:10:32.620 --> 00:10:34.899 so that if I do decide to sell something, I want 00:10:34.899 --> 00:10:37.230 to make sure it doesn't coincide with factors 00:10:37.230 --> 00:10:39.669 that make the situation worse, or hey, maybe 00:10:39.669 --> 00:10:42.009 it does coincide with other factors where I have 00:10:42.009 --> 00:10:44.370 low income years, or I have a big loss I can 00:10:44.370 --> 00:10:46.889 use to help offset some of my profit. So those 00:10:46.889 --> 00:10:49.629 are things where, hey, I actually have a potentially 00:10:49.629 --> 00:10:52.230 as big of a tax bill as my profit, or I have 00:10:52.230 --> 00:10:54.970 a profit on paper, but I don't have the cash 00:10:54.970 --> 00:10:56.590 to show for it, like with the appreciation on 00:10:56.590 --> 00:11:00.169 your big car. Other things that are very common 00:11:00.169 --> 00:11:02.889 that most people will find out if they're in 00:11:02.889 --> 00:11:04.990 partnerships or as corporations. And so I tell 00:11:04.990 --> 00:11:07.690 people, when you own the business, you individually 00:11:07.690 --> 00:11:10.909 pay taxes on the profit of the business. Now 00:11:10.909 --> 00:11:13.309 what you do with that profit is really up to 00:11:13.309 --> 00:11:16.929 you or your partners. But oftentimes, if I see... 00:11:16.649 --> 00:11:19.450 partners that join bigger groups. I always want 00:11:19.450 --> 00:11:22.529 to compare, hey, what's on line one of your K1 00:11:22.529 --> 00:11:25.690 versus let's say line 16. That will tell me how 00:11:25.690 --> 00:11:27.789 much money are you paying taxes on versus how 00:11:27.789 --> 00:11:30.470 much money came to you in a distribution. We'll 00:11:30.470 --> 00:11:32.850 go through this more strategically on a future 00:11:32.850 --> 00:11:34.990 episode as far as how you might think about this 00:11:34.990 --> 00:11:37.149 as a business owner and how you might have a 00:11:37.149 --> 00:11:39.850 tax management plan so that you can properly 00:11:39.850 --> 00:11:42.730 account for this. But oftentimes, let's just 00:11:42.730 --> 00:11:46.559 say that you made $100 ,000 in profit. you're 00:11:46.559 --> 00:11:48.879 gonna pay tax of 100 ,000. Now, whether you decided, 00:11:49.000 --> 00:11:50.700 hey, look, I need to leave this money in the 00:11:50.700 --> 00:11:53.460 business, or going back to my big car analogy, 00:11:53.759 --> 00:11:56.059 on paper you made 100 ,000, but you have all 00:11:56.059 --> 00:11:58.340 this debt that you accrued that you're having 00:11:58.340 --> 00:12:00.340 to pay on. And when you make a debt payment, 00:12:00.539 --> 00:12:03.419 that's a principal payment. Part of it is that 00:12:03.419 --> 00:12:05.980 principal payment is not deductible. So if you 00:12:05.980 --> 00:12:08.620 have $30 ,000 of principal payments, that's just 00:12:08.620 --> 00:12:10.279 cash that's coming out of your bank account. 00:12:10.620 --> 00:12:12.840 So even if your profit showed 100, you may have 00:12:12.840 --> 00:12:16.840 only got $70 ,000 of cash to show for it, and 00:12:16.840 --> 00:12:18.820 then you might have left $20 ,000 in the business. 00:12:18.840 --> 00:12:21.600 So now you only distributed out $50 ,000. So 00:12:21.600 --> 00:12:24.240 on paper, you're paying tax on $100 ,000, but 00:12:24.240 --> 00:12:26.679 what actually came to your personal account was 00:12:26.679 --> 00:12:29.639 $50 ,000. And this creates an issue for people. 00:12:29.860 --> 00:12:32.779 And this is why we tell people your business 00:12:32.779 --> 00:12:35.299 should pay your taxes. So this is why you build 00:12:35.299 --> 00:12:38.000 your lifestyle on your after -tax income, but 00:12:38.000 --> 00:12:39.700 your business should pay your taxes, meaning 00:12:39.899 --> 00:12:42.519 I actually take a distribution of my profits 00:12:42.519 --> 00:12:45.379 that are going to go towards my taxes. And then 00:12:45.379 --> 00:12:48.460 what I have is left over to use for myself. So 00:12:48.460 --> 00:12:50.279 like I said, we'll go through that tax management 00:12:50.279 --> 00:12:52.580 process a little bit more in a future episode. 00:12:52.899 --> 00:12:55.220 But that's a big, big thing for people, especially 00:12:55.220 --> 00:12:57.379 when they're in partnerships or S corporations 00:12:57.379 --> 00:12:58.860 where they're like, well, why am I paying all 00:12:58.860 --> 00:13:00.980 these taxes when I didn't actually receive this 00:13:00.980 --> 00:13:02.720 money? There's something you're going to have 00:13:02.720 --> 00:13:05.460 to figure out. And then even if the partnership 00:13:05.460 --> 00:13:07.559 wants to pay out a tax distribution to everyone. 00:13:07.840 --> 00:13:09.799 to cover their amount of profits that they're 00:13:09.799 --> 00:13:12.299 going to be liable to pay taxes on. So if you 00:13:12.299 --> 00:13:14.779 have things that cash people off guard that are 00:13:14.779 --> 00:13:17.340 taxable, that had an economic benefit, as we 00:13:17.340 --> 00:13:19.580 talked about earlier, but they didn't necessarily 00:13:19.580 --> 00:13:22.259 impact the amount of cash they had. So, for example, 00:13:22.279 --> 00:13:25.299 if you have a debt that gets canceled, that debt 00:13:25.299 --> 00:13:27.620 sometimes can be considered income because you 00:13:27.620 --> 00:13:29.740 got an economic benefit of not having to pay 00:13:29.740 --> 00:13:33.460 it. This happens often with, let's say if you 00:13:33.460 --> 00:13:36.090 sold a partnership interest and now. The person 00:13:36.090 --> 00:13:38.769 that buys your interest is also assuming the 00:13:38.769 --> 00:13:40.970 debt that you're alive before. Well, that is 00:13:40.970 --> 00:13:43.450 considered a distribution and that could be taxable 00:13:43.450 --> 00:13:46.330 depending on your situation. Or let's just say 00:13:46.330 --> 00:13:48.750 you had a $10 ,000 credit card bill that you'd 00:13:48.750 --> 00:13:50.870 never paid and the company decided to write it 00:13:50.870 --> 00:13:53.710 off. Well, that $10 ,000 could show up on your 00:13:53.710 --> 00:13:57.049 tax return on a 1095C form. And that would show, 00:13:57.169 --> 00:14:01.990 hey, you made $10 ,000 because that income or 00:14:01.990 --> 00:14:04.649 that debt that you had, you now got an economic 00:14:04.649 --> 00:14:06.690 benefit from it. And so you may have to pay tax 00:14:06.690 --> 00:14:09.169 on that. So I've had people pay tax on that in 00:14:09.169 --> 00:14:11.789 situations. You also could have a below market 00:14:11.789 --> 00:14:14.789 loan. Now, this is really only going to be scrutinized 00:14:14.789 --> 00:14:17.129 for like high network people, but let's just 00:14:17.129 --> 00:14:20.470 say you loan your friend money or you loan your 00:14:20.470 --> 00:14:22.649 family member an interest free loan. Well, the 00:14:22.649 --> 00:14:25.129 IRS basically says you have to charge interest. 00:14:25.470 --> 00:14:27.590 So there's kind of two components to this. You 00:14:27.590 --> 00:14:30.250 have the element of, all right, if I sort of 00:14:30.250 --> 00:14:32.490 give money away in this quote unquote loan, but 00:14:32.490 --> 00:14:35.110 I'm charging below market rates, then the IRS 00:14:35.110 --> 00:14:37.470 could consider that a gift. And if you're a high 00:14:37.470 --> 00:14:39.889 net worth person, you may have so much gifts 00:14:39.889 --> 00:14:41.830 that you've given that, or let's say you have 00:14:41.830 --> 00:14:44.190 all these loans that have accrued, that the IRS 00:14:44.190 --> 00:14:46.700 actually are considering gifts. to where it now 00:14:46.700 --> 00:14:48.580 actually starts taking away from your gift tax 00:14:48.580 --> 00:14:51.279 exemption. The other part is more so, hey, I 00:14:51.279 --> 00:14:52.840 see this more with like installment agreements, 00:14:52.860 --> 00:14:55.480 for example, where, hey, I'm gonna give you money 00:14:55.480 --> 00:14:58.139 or, hey, I'm gonna sell you this item and you're 00:14:58.139 --> 00:15:01.019 gonna pay me back over time. Well, the IRS says 00:15:01.019 --> 00:15:03.179 you have to charge interest in that situation. 00:15:03.639 --> 00:15:07.500 And so if you receive money back, the IRS is 00:15:07.500 --> 00:15:09.440 gonna say, hey, your agreement said you're gonna 00:15:09.440 --> 00:15:11.980 receive $10 ,000 back. So hey, you sold it for 00:15:11.980 --> 00:15:14.519 50, you're gonna get $10 ,000 back for five years, 00:15:14.639 --> 00:15:17.019 hypothetically. Well, the IRS is gonna say, hey, 00:15:17.240 --> 00:15:19.960 that payment, a portion of that is gonna be interest, 00:15:20.360 --> 00:15:22.600 and you're gonna pay tax on that interest. And 00:15:22.600 --> 00:15:25.080 so it's important to, if you do an installment 00:15:25.080 --> 00:15:27.740 agreement, that you do have at least the minimum 00:15:27.740 --> 00:15:30.220 interest rate tied to it. Because if you receive 00:15:30.220 --> 00:15:32.629 that money, Instead of you paying capital gains 00:15:32.629 --> 00:15:34.549 on all of it, let's say when you receive it back, 00:15:34.690 --> 00:15:36.389 you're going to pay income tax on the interest 00:15:36.389 --> 00:15:38.970 component. And that will throw people off and 00:15:38.970 --> 00:15:41.950 it will make them want to rethink how they do 00:15:41.950 --> 00:15:44.590 things. So a few other things, I see interest 00:15:44.590 --> 00:15:47.889 on investment items. So for example, if I buy 00:15:47.889 --> 00:15:50.470 a zero coupon bond, even if I'm not getting my 00:15:50.470 --> 00:15:53.750 interest into the bond matures, the amount of 00:15:53.750 --> 00:15:55.909 interest that's effectively accruing, I could 00:15:55.909 --> 00:15:58.899 pay tax on that amount. So, hey, I bought this 00:15:58.899 --> 00:16:01.860 bond for 10 ,000, but it was actually only worth 00:16:01.860 --> 00:16:05.299 9 ,000. So I bought it for nine. That thousand 00:16:05.299 --> 00:16:07.580 dollars, let's say, it matures over five years. 00:16:07.740 --> 00:16:10.519 Well, $200 of that is basically considered the 00:16:10.519 --> 00:16:12.759 imputed interest, as the IRS would consider it. 00:16:12.820 --> 00:16:15.519 And I'll pay tax on that $200, even if I don't 00:16:15.519 --> 00:16:17.240 receive my money back until the end of the five 00:16:17.240 --> 00:16:19.639 years. So that's kind of technical. But those 00:16:19.639 --> 00:16:22.179 are things that if you're in investment situations 00:16:22.179 --> 00:16:24.659 or you're selling things over multiple years, 00:16:24.909 --> 00:16:26.789 or you have an agreement that spans multiple 00:16:26.789 --> 00:16:29.389 years, it's important to understand what is the 00:16:29.389 --> 00:16:31.809 amount of tax I owe today versus what I could 00:16:31.809 --> 00:16:33.990 pay in the future. Or if I'm taking depreciation 00:16:33.990 --> 00:16:36.590 today, how's that going to impact my cash flow 00:16:36.590 --> 00:16:38.409 tomorrow? And then how's that going to impact 00:16:38.409 --> 00:16:41.570 my taxes? Or if I'm in a partnership, what's 00:16:41.570 --> 00:16:43.809 our profits? How much am I going to pay tax on 00:16:43.809 --> 00:16:45.909 those profits versus how much cash am I actually 00:16:45.909 --> 00:16:48.309 receiving? So those are probably your three big 00:16:48.309 --> 00:16:50.970 categories relative to that whole constructive 00:16:50.970 --> 00:16:53.970 receipt or economic benefit doctrine that I mentioned 00:16:53.970 --> 00:16:57.330 earlier. to be aware of so that you could plan 00:16:57.330 --> 00:16:59.950 accordingly and you're not caught off guard by 00:16:59.950 --> 00:17:02.230 the tax bill that you have. So let me give you 00:17:02.230 --> 00:17:05.029 an old tax case that will illustrate this point 00:17:05.029 --> 00:17:08.589 and how sometimes the IRS isn't friendly when 00:17:08.589 --> 00:17:11.609 they think you have received money that you may 00:17:11.609 --> 00:17:13.809 not actually possess, but they feel that you 00:17:13.809 --> 00:17:17.789 have an economic benefit from it. In 1945, there 00:17:17.789 --> 00:17:20.009 was a case called Sproul versus Commissioner. 00:17:20.579 --> 00:17:23.059 where Mr. Sproul's employer wanted to reward 00:17:23.059 --> 00:17:26.359 him for work he had done in the past. So the 00:17:26.359 --> 00:17:29.980 company put $10 ,500 into a trust and that trust 00:17:29.980 --> 00:17:31.599 was the management of someone else. And then 00:17:31.599 --> 00:17:34.079 it was supposed to be paid out to him over subsequent 00:17:34.079 --> 00:17:37.380 years in the future. And when the trust was funded, 00:17:37.810 --> 00:17:40.390 the IRS deemed that this money was his, even 00:17:40.390 --> 00:17:42.109 if he couldn't get to it right away. So they 00:17:42.109 --> 00:17:44.430 said, hey, the money went in 1945. You're not 00:17:44.430 --> 00:17:47.569 going to get it till 1946 or 1947, but you're 00:17:47.569 --> 00:17:49.609 guaranteed to get that money. So you have no 00:17:49.609 --> 00:17:52.369 risk of that money, of that money being forfeited. 00:17:52.490 --> 00:17:54.789 And because there's no risk of it being forfeited, 00:17:54.950 --> 00:17:57.210 it effectively is yours. And so you have the 00:17:57.210 --> 00:17:59.269 right to the money. And because of that, you're 00:17:59.269 --> 00:18:02.549 going to have to pay tax on that $2 ,500 in 1945. 00:18:03.130 --> 00:18:05.710 All right. And so if you have an employer that 00:18:05.710 --> 00:18:07.809 does this, so this happens with like non -deferred 00:18:07.809 --> 00:18:11.109 comp. It could happen with stocks where from 00:18:11.109 --> 00:18:13.609 the IRS's debt point, you have an economic benefit, 00:18:13.630 --> 00:18:16.289 which means you receive this money. You receive 00:18:16.289 --> 00:18:19.450 this stock today, even if there are terms that 00:18:19.450 --> 00:18:21.150 kind of spell out when you're going to get it 00:18:21.150 --> 00:18:24.529 in the future. If you don't have a risk of losing 00:18:24.529 --> 00:18:27.390 the money or there's no strings attached to you 00:18:27.390 --> 00:18:29.410 eventually getting it, then that money could 00:18:29.410 --> 00:18:32.069 be considered taxable in that year, which means 00:18:32.069 --> 00:18:34.609 I'm going to have to report. money and pay taxes 00:18:34.609 --> 00:18:37.490 on dollars that aren't physically in my possession. 00:18:37.849 --> 00:18:40.809 And so that is important to understand if you're 00:18:40.809 --> 00:18:43.369 in that situation, you need to plan accordingly. 00:18:43.869 --> 00:18:46.930 And the IRS may not, you know, they might rule 00:18:46.930 --> 00:18:49.329 against you or the tax court, I should say might 00:18:49.329 --> 00:18:51.369 rule against you in that situation because there's 00:18:51.369 --> 00:18:53.150 different precedent that like this case that 00:18:53.150 --> 00:18:55.450 would suggest that Mr. Sproul did have to pay 00:18:55.450 --> 00:18:58.329 the tax on that $10 ,500 in the year that he 00:18:58.329 --> 00:19:01.210 received it. So hopefully you took some good 00:19:01.210 --> 00:19:04.279 tips away. As our motto is, keep more of what 00:19:04.279 --> 00:19:06.559 you earned and we will talk to you on a future 00:19:06.559 --> 00:19:06.940 episode.