Tax Strategy: Save As Much Money On Taxes As Legally Possible With Melanie Sikma And Byron McBroom, One Stop Tax Strategists

June 21, 2023




CWS 251 | Tax Strategy   A lot of times the thing that’s going to save you a lot of money is right under your nose. And without professional advice, you may spend your whole life not knowing how to do it! This is what tax strategists are for, and our guests from One Stop Tax Strategists tell us more about it. Melanie Sikma and Byron McBroom are a father and daughter team who specialize in helping business owners save as much money on taxes as legally possible. Melanie and Byron educate us with useful strategies that you can employ to avoid or reduce capital gains tax and ultimately keep more of our money so we can use it to live longer and better. They also remind us of the importance of working with legitimate professionals to make sure they’re doing what’s best for us. Tune in and unlock one of the keys to creating wealth, simplified!

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Tax Strategy: Save As Much Money On Taxes As Legally Possible With Melanie Sikma And Byron McBroom, One Stop Tax Strategists

In this episode, I have two special guests. I have Melanie Sikma and her father Byron McBroom with One Stop Tax Strategists. They help business owners pay the little taxes legally possible while also continuing to get you to live longer with your money. Melanie and Byron, how are you? Good. How are you doing? Doing great. Thanks for coming on. I know this is going to be a jam-packed episode. We’re going to provide a lot of information to investors because I know one of the common themes I always see from not only real estate investors but people in general is, “How can I pay less in taxes?” The first question we got to roll into is if you want to give a little bit of background about your company, what you do, and some of the dynamics. My dad here has been a CPA longer than I’ve been alive so he’s got a lot of experience. I grew up listening to him talk super passionately about saving his client’s money and all of his buddies we’d go on camping trips. I never thought I’d work with him but then I discovered it’s fun to save people money. That’s where it formulated and then we found that different entrepreneurs and investors have different needs. That’s where One Stop was formulated. It is where we pair them with the best tax professional to fit their needs. I bet you get a lot of friends when you save them money. It’s funny because a lot of people think it’s too good to be true. We’ve had interviews with people where we showed them how to save $90,000 a year and it’s hard for them to believe that their present CPAs leaving that much money on the table. That brings up an interesting question because a lot of people always are like, “I’m looking for a CPA. I’m looking for a tax professional.” What should entrepreneurs and investors be looking for when they’re looking to engage with a tax professional? Obviously, somebody that’s proactive, but what does that mean? You should find somebody that is going to ask the questions for you. A lot of the time, taxes is a world that needs translation. It’s a whole other language. You need somebody that’s going to ask you the questions that you’re not even thinking of. Instead of asking questions to fill out the forms, ask you questions that are going to save you money, especially annual tax planning at the end of every year. Making sure you’re not going to have surprises and being proactive.
CWS 251 | Tax Strategy

Tax Strategy: Taxes is a world that needs translation. It’s a whole other language. You need somebody who’s going to ask you the questions that you’re not even thinking of.

  I know everyone does things a little bit differently and you’ve probably looked at prior returns and might have wanted to pull your hair out or shake your head because there are things that are overlooked. What are the most commonly overlooked strategies for entrepreneurs and real estate investors on their taxes? We formulated something called our eight-step tax solution. We’ve put that together because we found a lot of people weren’t taking advantage of those strategies. The first step I’d say is to make sure you get your books in order. A lot of people overlook the importance of good bookkeeping and a good set of books, and they don’t realize that that’s really the launching tool for all tax planning. You can’t do any tax planning if you don’t know your numbers and if you’re not capturing all the deductions possible. Number two is making sure you have all your stuff in the right type of entity. Dad, do you want to talk a little bit about the different entities and the importance of that for real estate investors? Make sure you get your books in order. You can’t do any tax planning if you don’t know your numbers. Click To Tweet Most people either are going to be sole proprietors, S corporations, or LLCs. Normally, if you’re flipping properties, you should most likely be an S corporation because that’s subject to self-employment tax. If you’re buying and holding properties, then you want to be an LLC. Obviously, a lot of this matters what state you’re in like Tennessee has a 6.5% business tax to it. Other states don’t have any or they have a small tax. There are four states which are not that friendly to S corporations, Tennessee, Louisiana, New York, and I’m missing one so I’ll have to come back to that one. Normally, if you’re buying and holding, you need to be LLC. If you’re a regular business, it really depends. I would say if you’re making over $70,000 a year, you should be an S corporation. If you’re making under that, then you’d probably be an LLC. It’s important to be an entity with legal protection. I had a client call me and they have a trucking company. Their son was driving one of the trucks and he caused a big accident on the freeway in the merging lanes and somebody got hurt. They only have $1 million of life insurance with no umbrella. Now they’re looking at potentially losing everything they’ve ever worked for because of one accident. Make sure you have some liability protection in addition to having intact savings. It’s interesting because I see a lot of people stay at the proverbial Holiday Inn and provide a lot of advice both legal and tax of, “You should set up an LLC. You should do this and that.” From what it sounds like, it’s not a one size fits all. There’s a lot that has to come into play and I didn’t even realize the state even comes into play too based on the different types of entities. I had a friend that we purchased our house from and this was before I knew her, so I didn’t pass up giving her good advice. She had eleven rental properties, got into a car accident, and got sued. She didn’t have any LLC or umbrella insurance. She got sued and lost all of them. That was their retirement. It’s important to have a proper setup to have something in place. It’s not on our checklist, but an umbrella policy probably is one of the most important things you can do.
CWS 251 | Tax Strategy

Tax Strategy: Getting an umbrella policy probably is one of the most important things you can do.

  One of the first things that people would always mention to me is you can put everything into an LLC or however you want to structure it, but you want to have an umbrella policy no matter what. That’s absolutely something you want. Other things that we find that people aren’t taking advantage of are if they have lower tax brackets around them, there are a lot of opportunities there to shift money to lower tax brackets. We call that our ebbtide plan because an ebbtide lowers all boats. For instance, I get my kids on the payroll. I have a 5 and a 7-year-old and they’re my little models so I pay them close to 14,000 a piece tax-free. Different things like that but the biggest thing is making sure you’re talking with your tax professionals so that you don’t miss out on strategies because we have a lot of conversations like, “You did the conversation,” rather than the, “Let’s do this.” Here’s a great example of using tax brackets around you. My mom is 90 years old and doesn’t work anymore. She still does the bookkeeping for a church but we formed a corporation that provides a service to my accounting firm. What we did is I paid her a profit of $84,000 for that service. What that means is that $84,000 is not taxed to me so I say $41,000, but she only had to pay $11,000 on her return. By using your family members and people around you use tax brackets, they might be college students, indigent brothers-in-law, or the baby mama or baby daddy. All of those significantly lower your tax brackets. Melanie, you mentioned with the kids, then you can set them up for a Roth IRA as well. There are so many ways that this can continue to get that snowball rolling, especially for people at a young age. To me, I never knew anything about this. I remember my first job. Basically, you put in a company 401(k) and at that point in time, I think the Roth had just come out and nobody even told me about that. When I left my job, it was like, “You have to either keep it or move it to a new employer. You can’t self-direct it.” Now there are a lot of other avenues. One of the things I see a lot about and hear people sometimes get caught with and be interested to hear some of the things that are best practices and some of the things that are probably worst practices. For example, people working W-2 trying to claim a real estate professional. I’ve seen people attempt to do that. Sometimes, if they get caught, they’ve been very unsuccessful. I’m curious about some of the best strategies and some of the worst strategies. All the W-2 people that come think that you can do all this stuff, but with the W-2, there’s really not a lot you can do. To touch on the real estate professional, we have a flowchart that we could send people if they want to text us. We could share out the number in a little bit, but we’d be happy to share the real estate professional flowchart to help them decide. It’s difficult for that though because you have to have 750 hours. Unless your job is actually in the real estate field, a contractor, or something like that, it’s very tough. The worst practice is I saw this one guy and he was a W-2 employee. He didn’t have any rentals. He was planning on jumping into getting rentals. That’s why he wanted to talk to us. His person turned his primary home and had him rent it to his LLC and was pulling deductions out of his butt basically. I’m like, “You could get in trouble for that. It’s not good at all.” That was one of the bad practices we’ve seen. Dad, what’s something else you’ve seen? One of the things that’s really good is just to make sure and set up a separate bank account and have a dedicated credit card. When you’re out there spending money associated with real estate, you either charge it on that credit card or pay for it with that ATM card or check. That way, it puts all your expenses into a pot, then it’s very easy at the end of the year to summarize those numbers up either for tax planning or to find out where you’re at about how to do your taxes. You make the decision when you’re spending the money. Is this a business item or is this a personal item? If you’re super about that, doing your taxes at the end of the year is a lot simpler because everything is in one spot. That’s one of the best practices. Also, a best practice is to meet with your tax preparer or planner strategist before the end of the year. People come in February and March all the time and they want to do everything possible. I want to be aggressive on this, but the ship has already sailed. The secret is to give them a checklist of things to do by December 31st and then they can minimize their tax. All you can do in January, February, and March is maybe take bonus depreciation on an asset that they’ve already done. They can’t be proactive. That’s great advice of being in touch whether it’s quarterly or semi-annually. You don’t want to come the first week in January once your bank statements get closed out and stuff and put everything in your software, send that, and that’s your first contact with your accountant for the year. You’re planning for next year at that point in time. Another worst practice I found is that a lot of people think that it’s the CPA’s or the tax professional’s job to make something a deduction. That’s not our role. Our role is to help you use the tax code to your advantage. It’s not our decision if something is a deduction or not. Everything’s a deduction until you get audited. The main thing is to follow the rules and use them to your advantage rather than trying to be fib about things or sneak deductions in. Dad, what was the guy doing with his books and then we did the kick-the-can plan with him? What he was doing is he was invoicing his customers, he would collect checks before December 31st and then he was voiding out the invoices, holding the checks until January, then re-voicing and depositing the checks. What I did with the guy was I showed him examples where people had gone to prison for less than he had done. We gave him a list of things that he could do legally and not have to worry about it and get the same or a better result. Another thing people need to do when they’re doing tax planning, especially if they’re involved in real estate, is to make sure and discuss with their banker what their minimum income needs to be. You don’t do a lot of good job at tax planning, but kill yourself when it comes to bank financing and you miss out on a deal. We did a plan years ago for a guy when we first started doing a lot of this and we got him down to where he is paying almost zero tax, but then as he went to go buy properties, he was doing a lot of flips. He had a real struggle qualifying for the flips because he had got his income down so low. A lot of times, we need to talk to the banker, find out what we need to maintain and pay a little bit of extra tax, but it’s a cost of being able to borrow money.
CWS 251 | Tax Strategy

Tax Strategy: One thing people need to do when they’re doing tax planning, especially if they’re involved in real estate, is to discuss with their banker what their minimum income needs to be.

  That’s an important point. Sometimes, doing too much strategy can hurt you down the line where you can’t get that leverage. I want to rewind a little bit because we briefly touched upon it and I’d like to have you explain and do a little bit of deeper dive into explaining what a real estate professional is and what it means. What are some of the benefits that somebody who qualifies for that can get? A real estate professional is someone that obviously spends a big chunk of their time doing real estate. We have the flowchart and we’ll give you the text number. We can text that flowchart to you, but you got to spend 750 hours. If you’re a full-time realtor, that automatically qualifies you. Either you or your spouse, it’s a combination of those hours. If you’re physically doing the work on your real estate, that qualifies, but if you have a full-time job in IT or something like that and you’re working 2,200 or 2,300 hours a year, it’s going to be very difficult to get that 750 in because that gets you up to 3,000 hours a year. You need a good logbook if you’re on the bubble to show you that. There’s a rule that says if you have losses on your rentals, which most of them do because they have depreciation and everything. If you’re a real estate professional, you’re not subject to limiting those losses. For instance, let’s say I want to buy an apartment complex for a couple of million dollars and generate a $500,000 first-year bonus depreciation. What that means is that a $500,000 loss now can offset my W-2 income. You can take a sizable deduction. Normally, if you’re not a real estate professional, that loss carries over and you take it when you have future gains but if you’re a real estate professional, you can take those and get a bunch of cashflow to offset either your business or your large W-2. The real benefit is being able to take the tax deductions that people that aren’t professionals can’t. To simplify it, it turns your passive losses into active losses and it allows their passive losses to offset your active income or W-2 income. It’s powerful if you do have a hiring W-2 and if the spouse does a real estate professional status because that can offset that. I’m assuming it’s only in a passive real estate venture. For example, I know somebody who invested in a company but it’s an operating company that has losses every year. I think there might be a max that they can take in the losses because they’re not active. I don’t know the full story but it took $100,000 in losses and he’s like, “I can’t deduct it all this year.” It was a passive loss. Your passive losses can’t offset your W-2 or it can’t offset your interest in dividends that you make unless the loss is related to real estate and you’re a real estate professional. If it’s a regular loss then no. You don’t lose those, but they carry forward until you have gains from it. Another thing that I see some people not realize is when they own real estate in multiple states and that has potentially some significant ramifications. Do you want to talk about that for a few minutes? The biggest thing is knowing what different states and the laws that different states have. It’s important to work that your tax professional understands the different states and the laws associated with that to make sure you’re not screwing yourself over and doing anything that complicates things a little bit. Dad, you can add to that. We already talked a little bit about Tennessee because they have an excise tax of 6.5% of your net income. Now if it’s real estate, that’s not going to be a problem because depreciation losses usually offset the gains that you have. That’s not too bad of a problem. That 6.5% would be on the net and only if you’re an LLC or an S corporation. We live in California. If I invest in a state that has tax and I pay say 5% tax to Arizona, what happens is I pay the Arizona tax but then I get a deduction off my California taxes for the amount I paid Arizona. If you live in a high-tax state, it doesn’t cost you that much to invest in other states. If you live in Florida, Texas, or one of the zero-tax states then you’re going to start and invest in California, you’re going to be paying your California taxes even though you don’t live in California. It’s something to be aware of. If you’re looking at buying out-of-state properties, which most people don’t buy out-of-state properties in California because their houses are too expensive, you need to find out the rules on that state. It’s something so you have in the back of your mind when you’re making those purchase decisions and if they’re going to have a large capital gain.
CWS 251 | Tax Strategy

Tax Strategy: If you’re looking to buy out-of-state properties, you need to find out the rules of that state.

  I’ve had people ask, “I own property in three states,” and they realize they have to file the returns in those three states and do not realize, “I thought I own it.” I’m like, “No. You got to file in every state you own.” It doesn’t mean you shouldn’t do it. It complicates the situation a little more. There’s the traditional real estate, but something that’s gotten really hot over the last few years and I haven’t played in this market or game, but I’m curious to hear, is short-term rentals because those are operated differently than the long-term rental. Are there different tax implications on a short-term rental versus a long-term twelve-month rental? Short-term rental is going to be taxed as active income. Short-term rentals can offset your active income from other sources. I think it’s a little more work. I’ve never done either, so I don’t know, but from what I hear, it’s a little more work to manage. If you’re netting over $70,000 there, you create an S corp so it can offset your active income. There are different rules where long-term rental is more active. Short-term rentals are subject to self-employment tax which is social security taxes 15.3% of your net amount. Now a good strategy for short-term rentals is, let’s say you buy some short-term rentals, you want to make sure you manage them the first year because there’s a carve-out for short-term rentals that if you do that, you’re allowed to take the losses against your W-2. You manage it the first year and that way you can take those losses, you take bonus depreciation in the first year, and then after that first year, you can convert it and have somebody else manage them. If you can manage them in the first year, that allows you to take those losses against your wages. That’s a really good strategy for W-2 people where normally there are no strategies. If you wanted to get your kids on the payroll in a short-term rental, it’s a lot easier to justify a modeling expense where in a long-term rental, once you get a tenant, there’s really no modeling expense. You mentioned something a few times, and for our audience who may not understand it, bonus depreciation. Can you explain what bonus depreciation is? Bonus depreciation is when you buy a piece of property. Let’s say I buy a house and when you buy that house, you break it into components. You might have appliances you’re buying, you might have carpets, doors, or landscaping. There are all these different things. With bonus depreciation, when you buy it, you’re allowed to take a first-year write-off and write off the whole thing. What’s 80% this year was a 100% last year. Anything that has under a 20-year life like a carpet has a 5 or 7-year life, a door might have a 5 or 7 life, and I think landscaping is a 10 or 15 or 20-year life. Anything that’s under twenty years, you can take all in the year of purchase. Now it’s times 80%. Next year, it’ll go down to 60%, but you can take a massive tax deduction in the first year of buying some but you have to be an active manager of that property. You can’t have someone else managing it because then you’re a passive person and you can’t take the losses. That way, you can take those massive losses in the first year and then convert them to somebody else management when you’ve used up the largest chunk of all the bonus depreciation that would come through. One thing I think some people sometimes ask a lot about is when you take this bonus depreciation, correct me if I’m wrong, but you’re lowering your cost basis. When you do sell the asset, you’re paying it back, but you’re going to be paying more in tax because you took that depreciation unless you’re 1031 or something like that. You’re going to get the money upfront, then you have the interest-free use of that money for several years and then you’re going to pay it back. We have other strategies when you go to sell properties to help you avoid capital gains. One of the big strategies for real estate investing is when you take depreciation deductions on a property, you’re getting the deduction at ordinary income rates. Ordinary income rates in California, for example, are up to 37% for the federal and up to 13% for the state. That’s a 50% tax savings. You pay 50% tax. The beautiful thing is when you sell the property and only pay capital gains tax, you pay a maximum of 20% capital gains plus 13%. You’re getting the deduction at 50%, but you’re only paying it back at 33%. That’s just one of the basic tenets of real estate investing and how the law is structured to benefit you. Even if you don’t take the bonus depreciation, you get a lot of benefits from doing that. I saw somebody make a comment and I was curious. They invested in a syndication that took a bunch of bonus depreciation upfront, and essentially, they got completely wiped out and foreclosure and lost everything. Their $100,000 investment went down to zero. They made a comment like, “I lost $100,000 but now I have to pay back the bonus depreciation or something as well.” It’s almost like a double whammy. Was I understanding that correctly? What happens is they probably bought a leveraged investment. Let’s say put $100,000 down but they bought a $500,000 investment. They put 20% down so they took bonus depreciation and it was a mini storage place because you get 50% bonus depreciation. They put $100,000 into it and they took a $250,000 tax deduction but they still owe $400,000 in debt. What happens when the place got foreclosed on, on a foreclosure, your sale price is considered the amount of debt that you have. They had $400,000 in debt, which was the sales price. Their basis was the $250,000 which was the purchase price of $500,000 minus the $250,000 bonus depreciation they took. That would’ve generated $150,000 of taxable income on the foreclosure which is brutal because you don’t have the money. It’s called Phantom Income. For me, I do this episode and it’s a good potpourri back and forth of things popping in my head and as things come up. Another one we talked about is deferred income which I know is 1031s, but another strategy a lot of people do with real estate is using a self-directed IRA. I’m sure there are some unique strategies for using a self-directed IRA to make sure that you can continue to grow that income tax deferred and also make sure you’re not paying UDFI or any other type of taxes on any of that. I’m curious to get your opinions on some strategies there. One of our clients is a wholesaler. This is with the Roth but he puts his options to tie up the property inside of the Roth IRA and then he sells that option inside of the Roth IRA. That makes the gain non-taxable and you could do that five times a year per Roth IRA. He does this with two of his kids, two under his wife, and then himself. That saves him a ton of money and we found it really clever. With 4 people, he can have 4 Roth IRAs. They can each do five properties a piece. He makes an average of $25,000 when he does that. That’s almost $500,000 he can make tax-free properly structured. I thought that was pretty clever. I will make the comment on this that while we’re talking tax strategies, we’re not providing tax advice as part of this episode. Always consult with your tax professional as part of that. We always stipulate that. The same thing with attorneys. It’s like, “This is an attorney but it’s not your attorney.” As you said, it’s very personal. Everybody’s situation is different so it’s important to check with whomever you’re working with to make sure that they apply to you. Everybody’s situation is different. It’s important to check with whomever you’re working with to make sure that specific tax strategies apply to you. Click To Tweet As we wrap up this episode, are there any final thoughts or things whether it’s unique strategies or disaster stories that you’ve seen people do to share with people? My final thought is it’s always important to get a second opinion and make sure that whomever you’re working with is doing the best job. It’s amazing how many people I talk to. We wrote a little booklet that we could send out if you want, but one of our chapters or the little sections is called Bad Advice is Everywhere. Especially in Instagram and TikTok days now, you’ll find bad advice everywhere. Bad advice is everywhere. Always get a second opinion to make sure that whomever you’re working with is doing the best job. Click To Tweet It’s important to not DIY your taxes. It’s important to make sure you’re getting second opinions just like you would if you were getting an estimate on your housework or if you got a bad health diagnosis. It’s important to check and make sure you’re doing everything properly. That’s one thing we always say. Make sure you’re getting a second opinion and doing your due diligence to make sure you’re in the right situation as best as possible. Actually, if anybody would like a copy of our booklet, you could just text it to the number that we will provide. The number is (209) 924-4192. If you text that, we could send you the real estate flowchart or a booklet and get you guys some information your way. One thing that I’ll share is for someone not a tax professional or does it want to be a tax professional, is to remember, tax professionals are like doctors. What I mean by that is they have certain specialties. There are certain tax professionals who don’t understand a lot of the things you can do with real estate or a lot of the creative ideas with real estate are self-directed IRAs. They’re more of a, “Nothing wrong with this. You got your W-2 and some of your income and so forth. I’ll do your taxes for you.” Some may be better with operating a business and then there are others just like a doctor might a gastro versus an oncologist or brain surgeon. They’re very different specialties as well. That’s one thing I strongly recommend. As Melanie mentioned earlier, a questionnaire and when you’re interviewing and talking with that tax professional that they understand you and your business or what you do. One of the things people can do too is we’ve created a site, TaxSavingsEstimator.com. You can go on there. It takes about 3 or 4 minutes, plug in, and answer the questions. This is low-lying fruit. We’ll show you what you’re leaving on the table. It’s to let people know that this is meant for people that have a business. If you have Airbnb or a lot of rental properties, this can work for you. You can plug in here and get a quick estimate of what you’re leaving on the table for the low-lying fruit. There are probably going to be other savings, but this is the easy stuff. It’ll address a lot of things that we talked about. That’s TaxSavingsEstimator.com. I’m curious how long you’ve had that URL because I would’ve thought that would’ve been gone a long time ago. I know we haven’t had it that long. We got lucky. They’ve got the website and the text. Any other ways you want to let people know how they can reach out to you? On my personal Instagram and then One Stop Tax Strategists, we post tax tips. I try to do it daily. Those are good ways to get little tips and tricks. We have a newsletter as well. If they text (209) 924-4192, we could get you on the newsletter. Purely, that is to give you tips and pointers. We try to provide as much information as much as possible. They can also email Tiffany@OneStopTaxStrategists if they’re interested in booking an appointment and doing a free assessment. She could do that through the text too. Melanie, Byron, thank you for joining us. I really enjoyed talking about taxes. Thanks for having us. We appreciate it. Thank you.  

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About Melanie Sikma

CWS 251 | Tax StrategyMelanie Sikma is a financial professional who grew up listening to her CPA father, Byron McBroom, talk tax and financial strategies with his business owner friends on camping trips. They love to help their clients pay as little taxes as legally possible and utilize that extra money to fund their dreams. Whether discussing tax and business strategies or the fundamentals of personal finance, they both have a passion for teaching others and help make often boring and confusing topics fun and easy to understand.

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