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Many people prepare and file their own tax returns.  While I don’t recommend it, I can appreciate wanting to save a few bucks by doing it themselves.  What happens when you have a question?  You can’t ask your tax software. Where can you get the answers to your general tax questions?  Who do you turn to?  I suppose you could call the IRS on their toll-free line.  Do you want to sit on hold and hopefully get the right answer?  A 2004 study reflected the IRS answered 82% of taxpayer’s questions correctly.  I suggest the percentage is lower than that, perhaps as low as 50%. 

Neil Johnson (aka The Tax Dude®), an expert on US income tax planning and compliance is now making himself available to answer your general tax questions for an affordable fee.  Neil has helped numerous taxpayers over the past 20 tax seasons prepare their tax returns and his reputation is unmatched in the industry. 

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Question from M.B. about Per Diem payments

I work on the road building wind farms.  I have to live in hotels and or apartments if available for at least 9 months to a year.  I get per diem every day which covers the hotel and meals expense.  I do have a temporary address but my permanent is about 100 miles away from where I am currently located.  I have heard from a couple of people saying that you have to pay back the per diem if you go over 9 months of usage.  Is there any truth to this?  I want to make sure that I know all the facts before April 14th of next year. 

Answer from The Tax Dude®

It looks like some bad tax information is being passed around.  The problem with what you have been hearing from others is the application of two different (but sometimes related) tax issues.  The first is related to per diem payments related to business related travel.  The second related to temporary assignments away from home.

There are two ways an employer can deal with business related travel expenses.  In most situations, employers use what is called an “accountable plan”.  In an accountable plan, the employee pays the travel expenses out of pocket and then submits an expense report with receipts to the employer for reimbursement.  Since an accountable plan can be cumbersome in terms of paperwork, some employers are providing per diem payments to their employees.  By providing per diem payments, the employee is not required to substantiate use of these payments to the employer.  Per diem payments do have a catch.  The employee should use a substantial amount of these payments to cover lodging, meals and incidental travel expenses.  If a substantial amount is not used to cover travel expenses, the IRS could consider the per diem payments as disguised compensation.  As disguised compensation, the per diem payments would be considered taxable income.  The only time when this would become an issue is if the IRS elected to audit the employee’s personal tax returns.  Receiving a per diem doesn’t trigger an IRS audit because they are not separately reported to the IRS.  The employer does take a tax deduction for these payments as travel expenses.

The next issue relates to “temporary” work assignments.  When you are working away from home any single assignment which lasts more than a year is not considered temporary.  When an employee is on temporary assignment, the employee can receive tax free per diem payments.  When an assignment lasts more than a year, the employee’s “tax home” changes to the new location. This means the employee is not travelling for business, but has essentially moved his/her home from one location to another.  As such, the per diem payments are not covering travel costs.  These payments would be considered additional compensation. 

If you have noticed, I have not mentioned a single word about returning per diem payments.  This would be an issue between you and your employer based on the location and duration of your assignments. 



Question from J.G. regarding Rental Real Estate

What is the best way to handle rental properties?  LLC, Land Trust or Both?

Answer from The Tax Dude®

A land trust is an agreement between a trustee and a beneficiary to hold a piece of real estate.  The trust agreement is a private document and is not available to public.  This creates a level of privacy so creditors or other curious folks will have a difficult time figuring out who is the true owner of the property.   Typically, the only way information about the land trust can be obtained is through a court order.  A limited liability company (LLC) is a legal entity that provides liability protection for its members (owners).  For example, let’s assume an LLC owns a rental property.  A tenant at the rental property has an accident on the property.  If the tenant sues, only the assets held in the LLC are at risk.  The assets of the members are shielded from the lawsuit.

What is becoming popular among owners of multiple rental properties is the coordination of the land trust and LLC.  Here is how this works.  A property is placed into the land trust.  A LLC is formed to be the beneficiary of the land trust.  This brings us to the question of who should be the trustee.  There are several risks by naming yourself as the trustee.  It’s in your best interest to have an independent trustee or form a separate LLC to act as trustee.  The problem now becomes the cost of forming the LLCs.  LLCs are pretty expensive to form.  The application cost with the state of organization is much more expensive than forming corporations.  Furthermore, you will want to have an operating agreement for each LLC.  This gets pretty expensive. 

After you go through the time and expense of setting up the land trusts and LLCs, you now need to consider the tax reporting implications.  If each LLC is set up with one member, it’s considered a single-member LLC.  For tax purposes, single member LLCs are considered disregarded entities.  As a disregard entity, the rental income and expenses are reported on the single member’s personal tax returns.  Rental income and expenses are reported on Schedule E of the member’s tax return.  All rental income and attributable expenses are reported by property on this schedule.  Most rental properties (especially in the first years) will be reporting losses on Schedule E.  Rental real estate is considered a passive activity and the deductibility of these losses are subject to the passive activity rules. 

In applying the passive activity rules to rental real estate investors, the investor falls into one of three categories:

Passive Participants - If you own part or all of an income property and do not actively participate in the management of the property, you are not allowed to write off any rental losses in the year of the loss on your tax return.  Your rental losses build-up from year-to-year until you have rental income to offset the losses or you sell the property.  When you sell the property, you can write-off all unused rental losses that have accumulated while you have owned the property. 

Active Participants - If you own income property and actively participate in the management of the property and your adjusted gross income is less than $100,000, you can write off up to $25,000 in rental losses.  The amount of rental losses that you can write off is proportionately phased out between $100,000 and $150,000.  For example, if your adjusted gross income is $125,000, you can write off $12,500 in rental losses in the year of the loss.  If you are an active participant and your adjusted gross income is $150,000 or more, you can write off no rental losses on your tax return in the year of the loss.  Any unused losses are suspended until you have passive income or dispose of the property.  To qualify as an active participant you only need to have a very small level of participation in the real estate activity. For example, you may be treated as actively participating if you make management decisions in a significant and bona fide sense. Management decisions that count as active participation include approving new tenants, deciding on rental terms, approving expenditures, and similar decisions. Only individuals can actively participate in rental real estate activities. Limited partners are not treated as actively participating in a partnership’s rental real estate activities. Additionally, you are not treated as actively participating in a rental estate activity unless your interest (including your spouse’s interest) in the activity was at least 10% (by value) of all interests in the activity throughout the year.

Real Estate Professionals - Real estate professionals can write-off all rental losses in the year of the loss on their tax return.  No rental losses are carried forward, they are written off in the year of the loss.  You must meet IRS guidelines to claim real estate professional status.  The IRS guidelines for claiming real estate professional status can be complicated depending on your situation.  To qualify as a real estate professional, you must pass a two-part time-related test. First, you must spend at least 750 hours on real estate activities during the tax year. Second, you must spend more time on real estate activities than on other income producing activities.

Once you have determined your level of participation, you will know how the losses from your rental activities will impact your tax return. 

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