Quickbooks is a fantastic resource and I’m happy to recommend it to my accounting and tax clients. I remember when it could cost tens of thousands of dollars for a decent accounting software package. Plus, you’d then have to hire an expert to come set it up. Figure a few thousand for that as well.

This program has made it easy. In fact, it’s maybe a little too easy. In these days of everybody trying to do-it-yourself for their small businesses, it may seem a little easier than it actually is.

One of the challenges I face with my tax clients is sorting out their accounting so that we can prepare their return.  I’m used to some real estate challenges, because real estate accounting is not simple. In fact, that’s why I wrote “Easy Accounting for Real Estate Investors.”  Bookkeeping is tough.  Real estate accounting is even tougher. And then add in creative techniques, wow. You need advisors who understand what terms like “sandwich leases”, “rent to own” and the like actually mean.

We are especially fond of Quickbooks Online for our clients. It lets us log in and actually see what is going on. Plus we can fix problems if we need to.

There is one problem, though. Many of our clients have multiple enterprises. They may have one or two businesses, plus multiple real estate properties. If you have Quickbooks installed on your regular desktop (and not online) then you can run multiple companies for no extra charge. With Quickbooks Online, you have to buy a subscription for each company. It is possible to get a multi-company discount or be set up to get referral income when you refer someone (in this case, yourself).  But the fact remains, it will still cost you more.

This is the Quickbooks Online dilemma. If you run everything through one set-up by using classes to differentiate the different companies, you can end up with paying only one fee. But have you just negated any asset protection by commingling your bank account?

One solution we’ve used is to create a “management company” that handles the income and expenses for each company. Think of it like a property management company who may handle 100 different clients. They don’t run 100 different checking accounts. They have just one, but they do separate each enterprise. At the end of the year, they issue a statement of the cash flow in and out for each enterprise. Those are then reported on each company’s books. Meanwhile each company has their own bank account and they get a regular deposit (monthly or quarterly) of the income. If the business or investment is cash flow negative (in other words, it takes cash to keep running), then make sure you clearly identify that the payments come from that company.

Here’s how it would look:

Company A is an investment.

Company B is the management company.

Investment makes cash flow.  Company B pays Company A.

Investment needs cash flow.  Company A pays Company B. (You can make a loan to Company A to fund it.)

If you need help with your Quickbooks Online set up or operation, we can help. Give Richard a call at 888-592-4769.

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One of our tasks at the first of the year is to destroy one year’s worth of records.  Otherwise, as much as we try to keep our businesses virtual, we’re going to get buried in paperwork.If you’re facing that too, you might be wondering how long to keep records.

First off, we divide our types of files into two types: permanent and temporary.
Permanent files:  These are the files for assets, liabilities and contracts.  In our case, it include files for real estate we own (purchase contract, closing statement, receipts and agreements for improvements), purchase agreement for our cars (we keep the titles in a safe deposit box), insurance policies and personal paperwork like birth certificates, etc.

We keep the permanent files, well, permanently. If we sell one of the real estate properties, it would then move to the temporary file for that year.

Temporary files:  These are the receipts and records for that year. We have multiple companies, so there is a group of files for our separate companies.  For example, US Tax Aid Services has a set of temporary files. USTaxAid has a set of temporary files.

When you’re asking “How long do you keep tax records?”, you’re really asking about the temporary files.

The IRS can go back 3 years from date of filing. So if you’re only talking about how long to keep IRS records, then it would be back just 4 years. (You add a year for the time to file)  But some states have longer statutes, so you need to pay attention to that as well. For example, in the case of Arizona, there is a 6 year statute. If you, your business or your investments are in Arizona, keep your records for 7 years.

We moved out of Arizona in 2008, so we’re still in the Arizona statute time. That means we destroyed the records for 2005 this year.  That’s back 8 years from now. Next year, we’ll destroy 2006. The next 2007 until we reach the point where Arizona drops off and then we can catch up to just the federal statute of limitations of 3 years.

If you’re still left wondering how long to keep records, check the state statute of limitations with your accountant. If it’s longer than 3 years, use that number + 1 to determine how long to keep records. After that, safely destroy the files (shred, burn, give to your Chihuahua to chew up, whatever works for you) so that no one can get hold of private information.

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If you have independent contractors (instead of employees) in your business, the IRS is going to be watching closely. This is one of the red flag areas for audit this year and even more as the laws change to require medical insurance for employees.

That doesn’t mean that everyone who works for you is an independent contractor. People that are clearly independent, with their own businesses and how control when and how they work are more likely to be independent contractors. You also need to make sure you have an Independent Contractor Agreement.

IfYou need to prepare Form 1099-MISC in January for any Independent Contractor (IC) you paid $600 or more to.  Here’s a simple rule if you’re wondering who gets a Form 1099:

• Pay over $600 for labor in the year.  YES
• Corporation.  NO
• Lawyer. YES – no matter what type of business structure.

The most important thing for you to do right now, before the end of the year, is to make sure you have a Form W-9 for each Independent Contractor. When it’s time to do your annual reporting in January, you’ll need to have the social security number or EIN for each worker. And if they’re not around or left under less than desirable circumstances, you may have a hard time getting that necessary information.

What happens if you can’t get a Form W-9 and so can’t prepare the 1099s? The IRS may say you don’t get to take a deduction.  In a recent case, a large company failed to issue over $1 million of Form 1099s to their ICs.  The IRS denied the deduction and so the company had to pay tax on $1 million dollars.

Mark your calendar to get the 1099s prepared by January of next year.  And meanwhile make sure you have a Form W-9 for everyone who worked for you.

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Your depreciation calculation is only as good as your accounting. First, you start with the basis, which is comprised of the purchase price plus some capitalizable expenses when you purchase the property.

The next step is to break down the basis into land, real property and personal property.

Land versus Building

Typically, the land and the depreciable portion of the building are recorded separately. If you hold your property within a business structure (and we strongly recommend that you do!), you will need to separately report the land value from the depreciable portion on the tax return for the entity.

Calculating Land Value

I’m frequently asked about strategies to calculate the land value. Since land is not depreciable, you will want the lowest value legally and reasonably possible.

The most objective method I’ve found for valuing land is to look at the County Assessor’s records. The assessed value almost never matches your basis but the breakdown reported by the Assessor (land and buildings) will show the percentage assigned by the County Assessor to the land. You can use that percentage to determine the land versus depreciable value when recording the initial transaction. Most of the AJEs shown throughout this book show just one entry for the property amount. In actuality, however, you would record the land and property separately.

Calculating Personal Property Value

Personal property items include the air conditioner, kitchen appliances like the stove and refrigerator and many other items. In fact, you could even declare the driveway to be personal property!

Personal property items are not recorded on your financial statements separately. These valuations are held on a subsidiary schedule, which is then used to calculate depreciation for the tax return. After the personal property depreciation amount has been calculated, an entry is made on your financial statement for the sum of all assets per property.

Proper accounting is critical to getting all of your real estate deductions. To learn more about real estate accounting, as well as real estate loopholes, choosing the right business structure and more, go to http://www.RealEstateLoopholes.com and check out the Real Estate Accountant in a Box, on sale now!

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It gets a little more confusing when you buy or sell with creative real estate techniques like with lease options.

The confusion about buy and sell dates in lease option transactions was made very clear when I spoke briefly with a woman named Carla at a real estate seminar. She had bought a home with a lease option from the current owner, which she then leased to a new buyer. Carla’s buyer had faithfully made payments on the property for over two years and now wanted to exercise his option on the property. When he exercised his option, the buyer paid (including the initial option amount he’d paid to Carla) a total of $125,000 for the property. Of course, Carla had to first buy the property from her initial seller for her agreed-upon option price of $95,500.

The entire transaction occurred through a simultaneous escrow (each purchase and sale happened at the same time). Carla knew she would have to pay tax on her gain of $34,500 ($125,000 – $95,500), but, since she had controlled the property for the past two years, Carla assumed that she would qualify for long-term capital gains treatment (currently fifteen percent).

However, after we reviewed her transaction Carla learned that she actually hadn’t bought the property until the day of the simultaneous escrow. Her holding period wasn’t the two years that it had been rented. Her holding period was about a minute, and that meant she had to pay tax at her ordinary tax rate.

Unfortunately for Carla, she hadn’t had an expert review her deal ahead of time, and she didn’t properly understand her transaction. By the time Carla did understand what had happened, she owed more than double the amount of tax she thought she would, and worse yet, she had already spent most of her profit!

Make sure your real estate accounting is keeping up with your real estate purchases and sales. If you are busy making money, focus on that and let us help you with your real estate accounting. Give Richard a call at 888-592-4769 to find out how we can help.

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That statistic has always stuck with me because I think explains why so many real estate professionals got into trouble with IRS audits. Real estate accounting is complicated and unique. And then, if you’re doing something a little outside the box like with creative real estate buying or selling, there are bound to be problems if your advisor doesn’t understand the nuances.

Today we’re going to talk about accounting tips for five common creative real estate buying techniques. The first thing to note is that when we say ‘buy’ we mean that you have received all of the constructive benefits of ownership. You aren’t leasing or otherwise controlling a property, you are actually an owner.

(If you need more clarification on that, please check out Easy Accounting for Real Estate Investors, part of the Real Estate Accountant in a Box program.)

1. Standard Property Purchase. You obtain financing, buy the property through a title company or through an attorney and receive a HUD-1 Statement on closing. You have the title, all rights to take depreciation, and nothing more to do with the seller.
2. Purchase with Wrap-Around Lease. In this case your purchase contract may require you to make payments to the seller, while the seller remains responsible for paying the underlying mortgage. You could also be responsible for paying the seller a small sum of money every month and making the seller’s mortgage payments on top of that amount. Or you might just give the seller a larger down-payment and make the mortgage payments directly. You have an ongoing commitment to the seller here, although title has not been recorded as transferred.
3. Mortgage Assumption Purchase. Here, you step into the seller’s shoes and continue his or her existing mortgage. Your name is substituted for the seller’s on the mortgage paperwork with the original lender. For all intents and purposes, this is the same as an standard purchase. Title passes, and you have no ongoing commitments to the seller. You need the lender’s permission here – you can’t just step in and start making the payments or you may find yourself in a situation where the lender calls the mortgage due in full and you have to scramble to find new financing, or risk losing the property.
4. Purchase with Carry Back Note. This purchase method is similar to 2 above – purchase with wrap-around lease. Here you are doing a combination of lender financing and seller financing (usually because you can’t or don’t want to borrow enough money to do a straight purchase). After the purchase you will still owe money to the seller. In this case, you will make both the monthly mortgage payments, plus periodic payments on the carry back note to the seller on whatever terms you agree. Title transfers, but the owner is entitled to put a charge over the property until the carry back note has been paid off.
5. Mortage Assumption with Carry Back Note. This method is a blend of 3 and 4 above. You assume the owner’s existing financing (after the lender has approved the deal) and agree to pay the owner a certain amount on top of taking over his or her mortgage payments. How you pay the owner back is structured in the carry back note, and could be monthly, semi-annually, or whatever terms you both agree to. Title transfers, but the owner is entitled to put a charge over the property until the carry back note has been paid off.

The accounting for the five purchase methods listed above is going to be fairly similar. Methods 1 and 3 are the easiest, as they’re both straightforward purchases with a single entry and a single set of monthly entries to cover the mortgage. Methods 2, 4 and 5 are more complex as you will need to be tracking both the mortgage payments and additional payments to the seller for the carry back note or wrap around lease.

P.S. We cover specifics and sample journal entries for each of these circumstances as part of the Real Estate Accountant in a Box.

Or, you may decide to hire our experienced accountants to do the accounting for you. Give Richard a call at 888-592-4769 for more information.

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But that doesn’t mean that the IRS is just going to take your word for how much the gain is. More and more, they are asking for proof on how the gain was calculated.

Gain is calculated as:

Sales Price
Less (Selling Costs)
Less (Basis)

The sales price will be pretty easy for the IRS to pin down. That’s because the title company or attorney who handled the transaction is required to give you a Form 1099-S to report the total sales price.

The cost of selling will include things like the commission paid to the real estate broker and transactional fees. Those expenses will be on the closing statement (also known as a HUD-1).

You also can subtract the adjusted basis for your home. This is the calculation that the IRS is challenging. They want to see proof for the basis you are claiming.

The basis either starts with the purchase price you paid for the property of the rolled over basis if you had sold a previous home pre-1997 and deferred gain according to old tax law.

The basis is increased if there are additions and improvements to the property and decreased if there is a partial sale of part of the property.

And your records need to be able to prove all of that. Here’s a quick list of some of the items you should keep.

1. Closing statements from the purchase of the home.
2. “Rollover” basis from a previous sale and purchase. If a previous home was sold pre-1997 and the basis was rolled into the current home you will need to know this rolled over amount for calculation upon a sale.
3. Receipts and contracts related to additions and improvements.
4. Any documentation related to partial sales of some of the property.

Additionally, keep copies of insurance policies, property tax information and any other pertinent information for the property.

Plus, if you used all or some of property for business purpose, you will have to adjust your basis by accumulated depreciation. Keep proof of that as well.

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• Balance Sheet
• Income Statement
• Cash Flow Statement

In some cases when you are reviewing an investment you might be presented with an income statement only. The income statement is only one part of the financial statements. You MUST see all of the financial statements in order to get a full sense of the investment potential.

Sometimes you will be handed a set of projected financial statements. The term “projected” means “my best guess” or “I sure hope this is true” or “I wish this was true.” A lot of the problems that have occurred with publicly-traded companies happened because someone read a projection and believed it was an accurate reflection of the company. A projection is simply an estimate based on suppositions that may or may not occur. That projection (or guess) is only as good as the assumptions. If you review a projection or pro-forma, ask to see the assumptions.

Balance Sheet

The balance sheet is a snapshot of a company. It shows the assets, liabilities and equity (net worth) of the company at a given point in time.

Assets are the things you own. They may be devalued over time with depreciation or amortization. The accumulation of that depreciation (accumulated depreciation) or amortization (accumulated amortization) is called a contra-asset account as it reduces the asset amount. Liabilities are the amount you owe. The equity is the value of the assets minus liabilities.

Income Statement (also called the Profit & Loss Statement)

The Income Statements show the income and expense items for a specific period of time. The Balance Sheet is a “snapshot” as of a certain date whereas the Income Statement shows the income and expense totals for a specific period. The first thing to note on the Income Statement will be the period. I like to look at statements that show a current month column next to a year-to-date column. Some financial statements will present only one month, which is not always an accurate representation of the overall status of the business.

Statement of Cash Flows

The third type of financial statement is a Statement of Cash Flows. These are not commonly prepared for small business, which I think is a real mistake. In my opinion, the Statement of Cash Flows is the best indicator of the strength of the business.

The Statement of Cash Flows is different from the other two statements – the Balance Sheet and the Income Statement – as the Statement of Cash Flows starts with the Net Income and then adjusts from there to show how cash has been impacted by operating activities, financing activities and investing activities.

So far, the basics of business accounting are the same as it is for real estate accounting. In the next blog articles, we’re going to look at some specific real estate accounting tips.

You spend hundreds of thousands of dollars on real estate, how much are you paying to protect that real estate? RIGHT NOW the Real Estate Accountant in a Box is available at a special price. Go here for more information.

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It’s easy to become better at checking references, but the only fail-safe way to stop embezzlement with an in-house is to hire more people or stay involved in your accounting on a daily basis. The problem is that small businesses don’t have a full accounting staff and so because there is no division of duties, it becomes much easier for a bookkeeper to steal. Not every bookkeeper has larceny in his or her heart, but we sure hear a lot of stories like this one. That’s why I feel so strongly that small businesses should have an outside virtual bookkeeper and/or a virtual CFO. Here’s one small business who really wished they had: http://www.ranchosantafereview.com/2012/07/25/bookkeeper-sentenced-for-embezzling-funds-from-solana-beach-company/

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