Tax

If you operate your business as a C or an S corporation, and if you loan money to the corporation or the corporation loans money to you, you need documentation that the loan is indeed a loan.

With the S corporation, the loan that fails as a loan can result in taxable wages to you.

With the C corporation, the loan that fails as a loan can result in taxable dividends to the shareholder.

Good News, Bad News

Nariman Teymourian got a real shock when, at the end of his IRS audit, the IRS claimed that he owed over $600,000 in taxes and penalties, primarily because he had received advances from the corporation in which he had majority control.

Good news. Mr. Teymourian won his case in court and paid zero additional taxes.

Bad news. Mr. Teymourian had to go to court.

If you own a C corporation, pay attention to your advance account. When the IRS looks at your advance account, it decides between two options:

1. The advances are loans from the corporation to you.
2. The advances are disguised dividends that should be taxable to you.

Obviously, there is a huge difference between a loan and a taxable dividend.

Here’s the Teymourian Story

Mr. Teymourian was building a home. His corporation made some big advances during this building effort. The paperwork between Mr. Teymourian and the corporation was not close to perfect, and that triggered the problems with the IRS.

Key point. Operating as a C or an S corporation requires that you be pretty good at paperwork.

Mr. Teymourian won his case, but he also had the displeasure of the IRS’s company in court.

To Do List for You

Here are seven magic questions to which you want to answer “yes” to ensure that your advances are treated as loans. We structured these as after-the-fact questions, because you would be giving your answers to the IRS after the fact.

1. Did you sign a promissory note or other document promising to repay the money to the corporation?
2. Did you pay interest on the advances?
3. Did you make payments on a fixed monthly, quarterly, or other schedule?
4. Did you give the corporation collateral to secure your repayment?
5. Did you repay the loan?
6. Did the corporation check to make sure you had the ability to repay the loan (i.e., did it look at credit reports and statements of net worth)?
7. Did both you and the corporation conduct yourselves as if the advances were loans?

Remember, if you are asked these questions today about last year or the year before, you want “yes” answers. The more “yes” answers, the better.

If you would like my help with your corporate advances account, please call me on my direct line at 408-778-9651.

• By Leon Clinton
• September 22, 2023

Can you deduct the costs of real estate seminars and boot camps?

The ability to deduct these costs largely depends on the nature of your real estate activities—are they considered a business or an investment? This distinction is crucial for understanding your tax obligations.

If your real estate activities are a business, you may be able to deduct all costs related to real estate education, such as seminars or boot camps and related travel expenses.

These costs typically cannot be deducted if your real estate activities are merely an investment.

Identifying your real estate activities as either an investment or a business is fact-specific:

• Indicators of investment activities often involve less direct involvement in property management, such as collecting rent under a net lease or owning property managed by others.
• Indicators of business activities usually involve a greater level of personal involvement in property management. Examples include personally managing rental units, seeking new tenants, and handling properties through an agent.

Your specific circumstances and involvement in your real estate activities determine their classification. A hands-on relationship with your properties may lead to your activities being considered a business for tax purposes.

If you would like to discuss your real estate activities, please call me on my direct line at 408-778-9651.

• By Leon Clinton
• September 19, 2023

I hope this message finds you well. I am writing to provide valuable insights regarding the tax implications of business meals.

As you may already be aware, there is a contradiction in the tax laws regarding personal living expenses, specifically personal meals and business meal tax deductions.

This is best illustrated by what tax professionals call the “Sutter rule.” Dr. Sutter, from whom the rule takes its name, lost the deductions for his chamber of commerce lunches and his lunches while serving on a hospital board, all because the cost of those business lunches did not exceed his personal meal costs.

The IRS invokes the Sutter rule without any specific standard, generally focusing on what it perceives as abuse or a disproportionately high number of business meals deducted. Interestingly, the IRS has applied this rule only to in-town business meals, not to those consumed while traveling for business.

Given this complex landscape, it is important to formulate an effective defense strategy. This essentially involves two elements: logic and legislation.

• The logic defense involves demonstrating that your business meals are more expensive than your personal meals.
• The legislative defense rests on the lawmakers who reduced business meal deductions to 80 percent and later to 50 percent, thereby accounting for the personal benefits.

To ensure your meal deductions, it’s critical to have the following:

• Receipts showing the purchases (food and drinks consumed)
• Proof of payment (credit card receipt/statement or canceled check)
• Names of the people with whom you had the meals
• A record of the business reason for the meal

For example, if you and a client, Harry Smith, have a Dutch-treat dinner that costs you $100, you should keep the receipt showing the food and drink as well as the second receipt showing the $100 charge to your credit card. On the receipt, you should write: “Harry Smith, client, $100 (my half), maintain relationship.”

Note in our example that you did not have to pay for Harry’s dinner to deduct your dinner. You simply had to have an ordinary business reason for dinner with Harry. But both Dutch-treat and business meals where you pick up the tab for all face the Sutter rule.

Understanding the Sutter rule, identifying its triggers, and building a defense are crucial steps in managing your business meal deductions. Please feel free to call me on my direct line if you would like to discuss the Sutter rule.

• By Leon Clinton
• September 15, 2023