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| The Basics | Rent your house for a business meeting
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Ever wish the tax code offered more deductions to homeowners besides mortgage interest and property taxes? Turns out it does.
By Jeff Schnepper
I realize most of us dont equate fun with the tax code, but the code is so huge and complex that its not hard to find something that can amuse you and possibly save you money, too. So, try this:
How would you like to take money out of one pocket, deduct it as a business expense, and then put it in your other pocket tax-free? Even better, howd you like to do it completely legally?
It may sound complicated, but its actually fairly simple. And it can put real cash in your pocket. I call this the Schnepper Super Shelter.
To make the Schnepper Super Shelter work, you need a modest amount of background on how the tax code treats business expenses.
Suite deal
So, lets start with this assumption. You own a legitimate business, and you rent a suite in a hotel for a business meeting. You hold the meeting and collect the documentation that the event was a true business event.
Clearly, the rent you pay is an allowable business deduction. Both small and big businesses do this all the time. The hotel, meanwhile, has generated some taxable rental income. Nothing new here -- yet.
Now, instead of your business renting a suite in a hotel, you decide to rent my home. Once again, if you actually use it for business purposes and can document the business use, theres no reason why you shouldnt get the same rental deduction on your tax return.
And, so I should also have some taxable rental income, right?
Wrong!
The Olympics dilemma
I want you to think Olympics, Super Bowl and World Series.
Many years ago, Congress recognized that there might be situations where someone might rent out his home on a short-term basis. Families rented out homes and apartments for the 1984 Los Angeles Olympics and the 1996 Olympics in Atlanta. It sometimes happens in cities where the Super Bowl and World Series are held.
And rather than require an allocation of heat, electricity, utilities, depreciation, interest, taxes etc. over the short-term rental, Congress actually came up with a reasonable solution.
- The short-term landlord gets zero additional deductions for the expenses from the rental.
- None of the income is taxable.
The code section (because everyones going to look it up) is Section 280A (g). It specifically states that if you rent out your home for less than 15 days during the calendar year, none of the income is taxable.
Client dinners dont count
Be careful when you read the code section, because the general rule is that you get no deduction simply because you use your home for a business function like a client dinner.
There are several exceptions, one of which is for the rental of the house. The Internal Revenue Code is full of general rules, exceptions, and exceptions and limitations to the exceptions.
If youre an employee of the business that rents the house, then theres an exception to the exception. You get no deductions for the rental of your house to your employer.
But your company can deduct the cost of renting your house. So, I reduce my business expenses and potentially pocket some cash tax-free. The Schnepper Super Shelter.
How to make the provision really pay
Lets get creative. If you have a regular corporation (the tax pros call it a C corporation), the corporation receives the deduction, and you receive tax-free income rather than taxable dividends or compensation. Thats the easy one.
Now, lets say you have what the tax pros call an S corporation. Thats a corporation that passes through its expenses and income to the owners. Its taxed similar to a partnership.
If your S corporation rents and uses your home for business, then it gets to take the deduction. But since the deduction is passed through directly to you, it also reduces your personal income-tax liability. And, if you dont rent out the home for more than 14 days, none of the income is taxable to you.
Take it out of one pocket -- deduct it -- and put it in the other pocket tax-free.
What if youre self-employed? What if you dont have a corporation?
Remember the old Wall Street adage, Bulls make money; bears make money; pigs get slaughtered. You can push the envelope. But dont be a pig.
If the house is in your name, that may be the pig position. But what if the house is in the name of your spouse? Arguably, that should work.
Alternatively, if I rent Charleys house, and Charley rents your house, and you rent my house, were clearly within the four corners of the law.
The IRS perspective
What arguments can the IRS make? As long as the space is used for business, there should be no issue as to the legitimacy of the deduction. You just have to prove the business use. The tax pros call that the business nexus.
Prove the business use with specific documentation. If you have a monthly meeting, keep the minutes. Craft the minutes with the reason youre having the meeting outside your normal business location. The standard reason is so that youre not bothered by the interruptions of your normal business setting.
Prove the reasonableness of the rental charge by getting a letter from a local hotel. If the Four Seasons is charging $500 a day for a suite for a meeting, a note from them should be sufficient substantiation for your $500 a day rental expense. On an annual basis, thats a $6,000 deduction (saving $2,100 in tax each year if youre in the 35% tax bracket) plus $6,000 in tax-free income.
So long as you can substantiate the business connection and the reasonableness of the charge, the deduction should be allowed.
As for the tax-free receipt of the rental income, the Internal Revenue Code clearly states that its not taxable as long as you rent for less than 15 days during the year. The IRS really has no argument here.
Is the Schnepper Super Shelter an aggressive strategy? Absolutely.
Was this part of the congressional intent when the Internal Revenue Code was drafted? Absolutely not.
But just because Congress didnt think about it when they drafted the law doesnt mean it doesnt work under the law that was passed.
Why shouldnt you use this technique now to reduce your taxable income? No reason at all. But, once it becomes known and used by many, I strongly suspect Congress will move to change the law.
I guess they dont have a sense of fun.
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