Tax Deductions for Expenses
Here are some of the types of expenses that you can use to maximize your tax deductions as a real estate agent.
Office or Home Office
If you pay for office space, you can deduct the cost that you pay for the office space along with any related expenses.
Your home office doesn’t have to be a separate room in your house, it can be just a portion of a room. It could just be a desk and chair in a corner of a room, but it does have to be a space that is used exclusively for business purposes.
To take the home office deduction, you would measure the square footage of that space. Then you can either use the “simplified method” and take a deduction of $5 per square foot (up to a maximum of 300 square feet), or the more complicated “regular” method, which involves calculating the portion of your house that is your home office and then deducting the actual house expenses associated with that portion. If you use the “regular” method, you have to track the depreciation amount that it adds to your home, and then that adds to the taxes you may pay later when you sell it (“depreciation recapture”). You don’t have to deal with that if you use the simplified method.
Supplies
Supplies that get used up such as paper, postage, folders, business cards, etc. can be deducted as an expense.
Equipment and purchases that last more than a year may need to be depreciated, which means you can’t take the expense in one year, but instead you may only be able to deduct a portion of the expense over a number of years (as defined by the IRS asset categories). But if you add the “de minimis safe harbor election” to your tax return, you can deduct expenses up to $2500 in the current year as an expense without using depreciation. For larger expenses, you may be able to instead use bonus or section 179 to take some or all of the expense in one tax year.
Driving Miles
Automobile costs are a deductible expense when you use the car for business purposes. You do have to keep track of the miles you drive for business purposes. The phone app “Everlance” is a great way to do that.
There are two methods you can use to calculate the vehicle expense on your tax return. The first is the “actual expenses” expense method. To use the actual method, you have to save receipts and calculate the actual amount you spent on gas, auto insurance, repairs, maintenance, registration, and other vehicle expenses. (Tickets are never deductible.) The deductible cost also includes a portion of the original cost of the car, which you typically need to depreciate (spread out) over a number of years. All of these costs are then multiplied by the fraction of “business” use of the vehicle relative to the total miles driven to compute your deductible vehicle expense. If the percent of business use is under 50%, you can’t use the actual expenses method.
The much simpler alternative is to use the “standard mileage” method. The 2023 standard mileage expense is $0.655 per mile. The standard mileage rate is considered to be an estimation of the total cost of using the vehicle, including gas, insurance, maintenance, repairs, and depreciation. The only vehicle costs that you can still additionally deduct when using the standard rate is your actual cost for tolls, parking fees, interest on a vehicle loan, while using the car for business purposes.
Note: If you start with the actual expenses method, you can’t later switch to the standard mileage method for the same vehicle. But if you start with the standard mileage method, you can later switch to the actual expenses method if you want.
Licensing Fees
Fees that you need to pay to maintain your license, education expenses, liability insurance, and Realtor association fees, MLS fees, etc. are deductible expenses.
Unfortunately, expenses that you pay for training/testing before you start working as a real estate agent are not deductible. So fees you pay to get your initially get your real estate license, including training courses, books, etc. are not deductible if they are expenses that you pay before you start working. The tax law only allows education expenses that are to improve or maintain your current job, not to qualify for a new profession.
Using an S-Corp to Reduce Your Taxes
Real estate agents usually earn their income as self-employment income. And when you have self-employment income, one strategy you can use to reduce your taxes is an S corporation. The way you take advantage of an S-corp strategy is rather than your income going to you directly, your income goes into the S-corp, and then you pay yourself as an employee of your own corporation. But your employee pay can be a smaller amount than the income of the S-corp, and the rest of the money the S-corp makes is instead paid to you as a “distribution”. The advantage of this is you only have to pay self-employment tax (social security and medicare, totaling 15.3%) on your employee income, but not on the portion that is a distribution.
It generally only makes sense to consider using an S-corp if your income is fairly high. The reason is with an S-corp you have to pay yourself a “reasonable salary”, and the tax advantage only comes from the portion of your income that is above a reasonable salary. This requirement is strictly enforced by the IRS, so you do have to make sure you are paying yourself a salary that is at least typical income for someone with your skills, experience, geographic area, and hours worked. But if your income is significantly higher than the typical reasonable salary for someone doing what you do, then you may be able to save some taxes by forming an S-corp.
It’s worth mentioning that you do need to evaluate the way the tax calculations work out in your particular situation before choosing to create an S-corp. There are other complicating factors, including QBI. QBI is a special reduction in taxes that was introduced in 2017 as part of the Tax Cuts and Jobs Act. It allows you to reduce the tax on your income as a sole-proprietor, partnership, or S-corp by 20% if your income is below certain limits. But it doesn’t apply to the portion of the S-corp income that is paid to you as an employee. So it depends on how the math works out depending on all the numbers, but in some cases you may be better off not using an S-corp. So be sure to evaluate it for your particular situation, or talk to a tax professional first.
Advantages of Real Estate Professional Status for Real Estate Investing
If you own rental property, a great perk of being a real estate agent is you can qualify for “real estate professional status”. The advantage of this status is that it allows your rental income to be classified as non-passive income, which means your taxable losses from your rental properties can offset your regular income and reduce your taxes. We have an article that explains real estate professional status.
