I insist: keeping good records is the single most important factor in minimizing your taxes. My previous post explained this statement.
The next logical question is – how do we get there? True, the really good bookkeeping is not easy, particularly for real estate businesses. Today, we will discuss five simple ways to get you started on the right track.
- Stop paying cash
Cash leaves no tracks. You cannot prove it to the IRS, and you cannot prove it to the guy who laid your tiles yesterday but this morning denies that you did, in fact, pay him last night. Yet, the reality of the REI business is that sometimes cash is the only possible method. Solution? Carry a stack of these old-fashioned business tools and make your own improvised receipts. Have the guy sign it, too. And then, of course, record it at the end of the day! - Separate business from personal
You don’t always have to formally create a business entity for your real estate business, but setting up a separate bank account is a must. It can even be what the bank calls a personal account, but it has to be dedicated to your business. And then stick to this fundamental rule: all business expenses are paid out of business account, and all personal expenses – out of personal account. Occasionally (hopefully), your business account will be short. A common mistake is to then pay out of personal account. Don’t! Instead, make it two steps: transfer money from personal account into business account and then pay it out of business account. - Do not group things together
You may think that combining all insurance payments into one total figure is helpful. It is not. House insurance, car insurance, health insurance – all go into different places on your tax return, and life insurance does not go there at all. Lump them all together – and you will make your tax preparer (and, worse, the IRS) rather unhappy. Same goes for repairs: not everything that you call repairs can be called repairs for tax purposes. $2,000 spent on painting is very different from $2,000 spent on carpet and from $2,000 spent on siding. You cannot throw them all into one bucket. Travel, education, supplies – all of these categories may need to be broken down later on. So, if you are not sure – do NOT combine! - Do assign each item to a specific property
Many expenses are easily linked to one specific property: mortgages, taxes, insurance, repairs. Record them accordingly! If you have multiple properties, it’s a royal pain to figure out several months later which house this insurance payment was for. Yet, many expenses are generic in nature and do not apply to just one property: automobile expenses, general advertising, tools, technology, education, legal and accounting fees, etc. These business overhead expenses should me classified as such. In other words, if you operate 5 rental properties, you will need 6 (5 + 1) tabs in Excel or 6 classes in QuickBooks or 6 pages in a paper logbook: one for each property plus one for general expenses. - Do mileage log – the modern way
The IRS absolutely loves to ask for a mileage log during an audit. Without a mileage log, you will have very hard time defending your deduction for driving. But keeping this log is such a dreadful chore, don’t you know? It used to be, not anymore! These days, we all have smart phones, and there’re many mileage tracking apps, both for Android and for iPhone. One piece of advice: choose an app that is likely to be supported for years to come, preferably from a large company. It is worth paying some money for. Remember – you will need access to your mileage log 2-3 years later, should the IRS decide to verify it.