If you’re a seasoned agent, you’ve been through plenty of tax cycles. But for those who are newer to the profession — or who tend to forget about taxes until the day they’re due — there are some important considerations come tax time (and all year round).
Real estate agents are like any other self-employed taxpayer. Getting it right is complicated, but there are ways to make taxes less taxing, and less costly.
Don’t wait until taxes are due to get paperwork in order
As a real estate agent, you meet a fiduciary responsibility to your clients every day. But keeping your own financial house in order can sometimes get lost in the shuffle.
“The biggest mistake — and Realtors, I find, are kind of more prone to this — is that they’re not organized,” said Carrie Lyon, a veteran CPA in Carlsborg, Washington.
When you’re busy working for your clients, it’s easy to put off filing and organizing your tax documents. But it doesn’t have to be time-consuming. You can use a spreadsheet or QuickBooks, or even something as simple as sorting your receipts into envelopes. The key is to document as you go along.
How to make expenses work for you
Another issue Lyon often sees — especially with new real estate agents — is understanding rules around deductions.
“If they’ve been W-2 employees their whole life, a lot of times they really don’t have the skills to know what’s a deduction, what’s not and how to present it,” she said.
One of the biggest expenses for most agents is mileage. “It’s not enough to just say, ‘I think I drove 5,000 miles this year for business,'” Lyon said. “You have to have a log.”
For some of her clients, that means a paper log tucked into the visor of their car. But increasingly, most use a phone app like Mile IQ. “The mileage rate is $.67 a mile,” Lyon said. “So that adds up.”
Besides mileage, any “ordinary and necessary” expenses for real estate are deductible. That includes housewarming gifts to clients — but the IRS only allows you to deduct $25 for a client gift. The limit is “super low and not even realistic anymore,” Lyon says.
You can also write off half of any client-based meals you spring for, as long as you have the receipts.
But there can be too much of a good thing. If you have so many deductions that you can’t make a profit for three out of the past five years, the IRS may consider your efforts in real estate a hobby. That means you can kiss those business deductions goodbye because they will assume you’re doing it for fun, not profit.
Avoid penalties with quarterly payments
Since you probably aren’t having taxes withheld from your commission checks, you need to set up quarterly payments with the IRS — otherwise, you’ll owe a penalty. “It’s based on your prior year, so if you’re a brand new Realtor you wouldn’t have a requirement to pay them,” Lyon said. But after that, taxes can be paid quarterly based on the previous year’s tax bill.
It’s not always easy to know what your profits will be. “You might have one year where you were just going gangbusters and had a lot of tax liability, then the following year something happens and you have a much lower tax burden,” Lyon said. “The key is trying to figure out what you should pay when your year is vastly different.”
“If you’ve paid 90 percent of what you owe, there won’t be a penalty,” she said. And if you’re married, you need to consider your spouse’s tax liability as well.
But there is also something called a “Safe Harbor” for anyone with an income of more than $150,000. Under Safe Harbor, if you pay 110% of what you owed the prior year, there won’t be a penalty if you end up owing more at tax time.
Self-employment taxes, LLCs — and when to call in a pro
Remember, you aren’t just on the hook for regular income tax. “Realtors are subject to self-employment tax,” Lyon said, which is 15.3% of your profit. That covers both sides of the social security and medicare tax that employees and employers usually pay. But, just to make matters more confusing, half of the self-employment tax can be deducted from your income tax.
If you are wondering whether you should operate as a sole proprietor or form a single-person LLC (limited liability company), Lyon said for tax purposes it won’t matter. “The IRS essentially ignores the fact that you are an LLC and treats it as if you are a sole proprietor,” Lyon said.
But it can still be a good idea to form an LLC, as it can protect your personal assets to some extent “if you make a mistake and get sued.”
Just as agents wouldn’t advise anyone to buy or sell a home without their expertise, Lyon is keen to recommend using a tax preparer. Tax software, she said, can work for simple cases, but if you make an error early on, it can compound.
She advises finding a pro to help with your taxes the same way most people find a real estate agent: Get recommendations from people you know and trust. And because you are self-employed, you can usually write off the tax preparation cost.
“Our jobs are to get the lowest tax bill under the law,” she says. “Nobody wants to pay a bunch of tax, and nobody wants to pay extra because they didn’t pay enough.”
