I won a house at a real estate auction. I can buy it either with
personal money, or with money in my corporation's account. The intent
is to either rent it out or resell, I have not decided.
My question is, from a tax standpoint, is it better to own it through
a S corp, or personally?
To reduce liability, you should own it in an LLC or a corporation. LLC
is easier to manage for compliance, and a corporation may offer more
tax advantages with higher cash flow; might depend on whether your
income is considered active or passive. I have several properties all
owned under LLCs. Good luck.
I NEVER advise a client to own an appreciating asset, typically real estate,
inside a corporation of ANY kind, not even an S Corp.
C corporations do not get the benefit of special long term capital gain tax
rates. Renting the house will reduce your basis because of depreciation.
Selling the house will (at least we HOPE) result in a gain, if for no other
reason than simply because of the depreciation recapture rules. So if a C
Corp sells a house it will pay tax at regular C Corp tax rates.
Why not an S Corp, it is a pass through and any gain will pass through to
the stockholders and THEY get long term capital gain rates right?
Technically yes, today, with the current rules we have, and assuming the IRS
never challenges your S election. Unfortunately, I've seen more a few S
Corps get their S elections revoked because they failed to play by the
rules - usually this is accidental, but sometimes its deliberate. Either
way, if the IRS rejects your S election the house is stuck in a C corp. and
generally higher tax rates apply.
I am not a lawyer so I am not giving you legal advice - you need to also be
aware that should the corp. (c or s, doesn't matter) gets sued then all the
assets of the corp. are at risk. Hence, it may not be advisable to put all
your eggs in one basket. This is why the big players set up multiple
companies to conduct business - multiple companies create multiple layers of
shielding to help protect assets in the event of a suit. And it matters not
a whit whether its the S corp. business or the rental that results in the
suit, all the corp. assets would still be at risk.
Rentals are considered passive activities and no self employment tax is due
on any of the annual profit BUT ONLY if it is held personally or in a
pass-through entity, like an LLC or S Corp. If you do go the S corp. route
you must report the rental on a separatea form as an attachment to the
1120S - similar to using a Schedule E as part of your 1040. If you set up a
single member LLC and owned the house either alone or with your spouse, you
will still be a disregarded entity but you'd report it on Schedule E as part
of your personal return.
Holding the rental in an S Corp means that its still a passive activity but
that does NOT necessarily relieve you of the requirement to tax payroll as
an employee, so you're still on the hook for payroll taxes -which can be
avoided by using an LLC or Schedule E.
Lastly, REMOVING a rental from an S Corp - say you want to live there
personally or simply want to shut down the corporation for whatever reason -
means you have treat the distribution AS IF it was sold to you at full fair
market value. This is part of the Deemed Sales Rules. This generates
phantom income at the corp. level which you have to pay tax on even though
there is no actual cash with which to pay the tax.
You really should see a local tax pro with experience in rental properties
before you make a decision that will cost you more to unwind than it would
cost to get help and do it right from the beginning.
Gene E. Utterback, EA, RFC, ABA
There is NO self employment for C Corporations. Instead you take a salary,
subject to FICA taxes.
Not at all.
Corporations, both S & C, are required to pay their employees - INCLUDING
the owners who perform services for the corp, including the management of
rentals - a SALARY. This salary is subject to FICA taxes. So while the
rental activity itself would be passive, by holding it in a corp of any kind
essentially converts at least some of the income to ordinary income, subject
to a tax that would NOT apply if you held the rental differently.
Alternatively, LLC members and Schedule E operators are NOT ALLOWED to take
a salary. Instead, LLC members may need to take Guaranteed Payments which
are subject to Self Employment tax. HOWEVER, if the ONLY item in the LLC is
a rental then it would stay a passive activity and SE tax would not apply.
Schedule E operators also pay no SE tax.
Gene E. Utterback, EA, RFC, ABA