In this episode of the Main Street Business Podcast, hosts Mark J Kohler and Mat Sorensen offer their expertise on wealth building strategies, tax planning, and legal perspectives for both budding and seasoned entrepreneurs. They discuss four case studies, each bringing unique circumstances and challenges to the table.
Here's what you can look forward to:
This episode is a must-listen for anyone interested in real estate investment, tax-saving strategies, and those planning to buy or sell a business.
In this episode of the Main Street Business Podcast, hosts Mark J Kohler and Mat Sorensen offer their expertise on wealth building strategies, tax planning, and legal perspectives for both budding and seasoned entrepreneurs. They discuss four case studies, each bringing unique circumstances and challenges to the table.
Here's what you can look forward to:
This episode is a must-listen for anyone interested in real estate investment, tax-saving strategies, and those planning to buy or sell a business.
A lot of people's mind gets blown when they're like, wait, I can buy real estate with my IRA. Like, I can go buy the duplex down the street. My IRa gets the rent and the appreciation. And when I sell the property, I don't pay any tax. It just goes back into my IRA. Yeah, you can do that. And if you know real estate, use that as your vehicle to build your long term wealth in your retirement account.
Mark J Kohler:A lot of people don't think rental property is a small business. It's a small business. It's on a schedule, e. But you can write off home office, you can write off dining, you can write off auto. You can learn to create better cash flow. Rental properties are like rabbits. If you manage them properly and let them commingle, magical things happen.
Mat Sorensen:And I think it's the most underutilized tool to build and grow wealth is self directed retirement accounts. But real estate is one of those investments. You're playing the long game. But as you start putting, stacking assets, buying more and more properties, building more equity over time, paying down the mortgage debt, figuring out how to write stuff off, and expenses in your personal life that benefit you that you never thought you could, putting money back in your pocket. Welcome, everyone, to the masonry business podcast. This is Matt Sorensen in the studio doing the hard work. Mark J. Kohler on location, you know.
Mark J Kohler:Yeah, I'm roughing it in Aspen. It's a dirty job, but someone had to come.
Mat Sorensen:California. Nice.
Mark J Kohler:Yeah, Aspen, California. Thank you. For you dumb and dumber fans, it was funny. There's like five kids over here by this fire pit. By the way, if you're watching the YouTube version, I'm in this old gondola that's like a coffee hot chocolate station at night. And I just took it over this morning for the podcast. And there's these kids over by the fire pit screwing around. I was like, hey, I'll give each one of them $20 just to get lost. So I don't hear them in the background. I go over there to give them each 20, and they're like, $20? I was like, picking up a nickel. That's all you got? You got a honey. I couldn't get rid of them. This little kid is an ass. But I mean, they're like wearing around the little furs.
Mat Sorensen:Yeah, they got Mary Swanson's their mom. She throws out a little more than 20 just to get rid of them.
Mark J Kohler:Going to take a lot more than a 20, bud. Like, jeez, runs over, jumps in his Porsche, but anyway, yeah, it is a whole different world over here. It's funny. Eight out of ten women, full length furs. If you got a problem with furs, do not come to Aspen. Just a little FYI. Anyway.
Mat Sorensen:Yeah, we got a cool podcast today. We want to go over some case examples, some studies on main street business owners, people out there trying to live the american dream and break through some of the strategies they're using from a tax and legal standpoint, and also building wealth. Try to give some tips that we're doing every day. Mark and I are business and tax lawyers. We've been doing this for decades now. I'd say decades. Well, we've done the 10,000 consults, and we got a law firm, CPA network, accounting network of tax practitioners, a trust company with the one and a half billion in assets. We've been down the road. I just want to say that you can feel good listening to us, and hopefully we'll give some tips that might help you in your situation. Something you can relate to.
Mark J Kohler:Absolutely. And I know it sounds a little oxymoronic. You're in Aspen, giving us main street practical advice. Hey, I've never been here. This was my dream vacation for Valentine's. I was like, we're going to give it a shot. So anyway, got a killer deal with it. No, this is great. So we've got four case studies. So let's tell you what the four case studies are first. So hopefully we can really entice you to stay engaged in the podcast. Maybe you'll share this podcast with a family member or a friend that you know is in this situation. So, Matt, I'll throw out two, and then you throw out the two that you've selected. The first one I love, which is just bread and butter, main street America. Happens all the time. Had two case studies like this week with our main street tax pro network, and it was the working professional in the spouse that's a realtor or into the real estate game, earning ordinary income commissions or flipping a home. There's that. And they had three or four rental properties and no structure. They had just kind of put their heads down, started working. I'll give you more details in a moment. That's number one. Number two is we've got a w two wage earner. And I had this call this week one of our forums. A w two wage owner and married with two rentals. And they're like, no, we don't have much going on. Just two rentals. Just do our tax return sort of thing, and they didn't see some opportunities there. So I kind of went to the real estate route are my two examples, but those are my two hypotheticals for you. Wage earners out there with a little something on the side and an investment of rental property. Where do you go next? What do you got?
Mat Sorensen:Yeah, I got two scenarios. We come up with a lot. One is the person who has a business they've been working and building for years, and they're on the back end of their career, they're looking to retire, and they're trying to figure out how to monetize the value of the business. How do I pass this on? How do I sell it? What are some of the business things I need to think about? And then also, what's the tax ramifications I'm going to have? Everybody's got those questions. We're advising clients through that every day on the side of selling, but also on the side of buying as well, but want to focus on someone trying to sell. And then, of course, this one is, I mean, every ten minutes, a directed Ira, someone who has retirement account funds, and they might have some, their spouse has some, their other family members have some, their friends got some, and they want to go do a deal, and they want to do maybe a bigger deal. Maybe they don't want to just buy the single family rental down the street or lend $50 or go into a private fund at 50 or 100 grand. They want to do something a little bit more. But how can I combine those funds from these different sources together to do a deal and the ones I've done very frequently, and I'll give the example, I've got kind of two variations of it, is basically, how do I pool this money together? And we'll get into that fact pattern here in a second. So those are going to be the four scenarios we're going to work through, and we'll see if we can do this in time. I don't know how long this podcast is going to be. We'll hit our points, though, and we'll minimize the dumb and dumber jokes.
Mark J Kohler:Yeah, I don't think it needs to take a lot of time to just give you a framework of planning. And of course, everybody's situation is a little different. These are some general fact patterns. Then you dive into, okay, how much are they in debt? Do they have kids or not? What have they got in savings for retirement? What are their long term plans? Where do they live? So you can understand there's going to be a lot of variables and why? A consult with one of our tax lawyers for just an hour or so on what we call a comprehensive consult, very affordable, can make a plan, and so they can take that to their other professionals or decide to jump ship if they haven't been getting that right type of advice. All right, so, number one, the professional with the entrepreneur spouse doing real estate. So the example that we had this week, gosh off the truth here, was their net income for last year. And so this was a working wager. Husband w two making 100 grand, 250. Very relatable. A lot of people build his career that way. And his wife had started doing real estate when the kids were getting older and loved her. Friend network, joined a brokerage, and she'd been doing great. And last year, she netted over 200 grand on a schedule c, mind you, the sole proprietorship, not good. And then they have three or four rental properties they'd kind of picked up along the way. But to them, they were just kind of knockoffs. Like, they had these rentals. They weren't really focused on them per se. They were cash flowing. They were per se smart about it. They really hadn't dived into any structure at all. They had no llcs at all.
Mat Sorensen:I love this scenario because it's a perfect one of people who are focused on earning income, building their career, getting to a good wage, getting out and finding that entrepreneurial itch, whether it's real estate, acquiring rentals along the way, I mean, they're doing a lot of the things people, sometimes people skip over that and like, how do I save taxes? Like, go make some money, go start a business, go acquire some assets. And they're, like, already freaked out about the taxes. It's like they've done the hard work, I guess, is what I want to say here. To go get that income, get that entrepreneurial business going, the real estate realtor business, and then pick up those rentals as they're going, use that income to go acquire assets. So this is a very common client scenario for us and how we've seen a lot of people actually have success, but they got a lot of help. I'm sure these people have some awesome opportunities, actually, not just building wealth here, what and what they're doing, but to save on taxes.
Mark J Kohler:Totally. And what happens with these people? The tax and legal is an afterthought because like Matt said, they just put their heads down and work hard. Now, some people take that tax and legal planning to heart all throughout the process, and we might share some things here that you haven't thought of, but these people were just clean slate. So I'll throw out two or three recommendations, Matt, see if you have any that you would add. What we normally start with in a case study like this is the trifecta. Just giving them a simple visual diagram of where we want everything structured, where do we want it, why? And so with the trifecta, we're going to talk about, do you even have a revocable living trust? You're a family, you've got kids. Now, whether you're single, with kids or without, having that trust base is so important because if something happens to you, where's it all go? So we want to start with, do they have a foundation to build upon? And it can be very affordable. 1500 to two grand to get a quality estate plan in place. Own the home, own the businesses that we're going to create. But that's number one. Number two, this wife has got to have an S corporation. She's making two hundred k the self employment tax savings that we could generate just in 2023. And I think we're going to be able to. Well, we won't be able to help her. For 23, she didn't have an LLC, but in 24, the self employment tax savings would easily be over $10,000. And they would want to strangle their old CPA for not bringing that up. And you cpas out there, that's being very conservative. I've been teaching reasonable comp in an s corp for 20 years, never had a problem. I stand behind my teachings. You can find out more about that. So we need her in an S corp. And then number three on that trifecta, we want to see some llcs to hold those rental properties and we're going to look at the equity involved. I'm not saying an LLC for every rental, maybe one LLC to hold all three. What state are they in? What are the plans with those rental properties? Are they high risk tenants? Again, the equity involved, we want to maybe put those eggs in different baskets. We can throw them all in one basket for now and then talk about their next real estate venture. What's amazing that's getting out of the gate. I've got like ten more. But right there. That's life changing for that family.
Mat Sorensen:Yeah, in those things right there, they have a plan for their assets. By the way, the trust is going to avoid probate if they own their home and they've got rentals. Are those all in the same state or different states? If you've got those rentals in three different states and your home in one. You're going to be doing probate in four states, by the way, to move your assets around upon your death. And that happens for one. One spouse passes, too. Not just when the second the spouse dies. There's just a lot of headache there. So you got to plan there. You're actually saving taxes. All this planning is getting paid before by the tax savings, and you're keeping money in your pocket because of what you save with the s corp. And I think the next thing here that's unique in this scenario, but is still common out there is the real estate professional designation, too. They've got the rental properties. One thing that happens common is there's losses on the tax return from the rental properties. And this is even if the properties are cash flowing right, you're putting money in your pocket, you're actually cash flowing it month to month. But because of the depreciation on the properties, you're getting this actual loss because you get to expense the value of the property over time. And every year you get to take a big expense. That's the depreciation expense that reduces your income. Well, for a lot of people, that hits a negative on their tax turn. And all this taxable income they have over here from the schedule C and from the w two, from their wage, doesn't get affected, it doesn't get reduced, unless they designate real estate professional status, which they'll be able to do here because the wife is a realtor, she's a real estate professional. If one spouse qualifies, they both do. Now, those real estate losses on the rentals are coming over to offset the ordinary income. And so that's a huge benefit to them in that scenario. That's first tax strategy.
Mark J Kohler:Oh, totally. And so I'm just going to ratle off four or five other things that we would be talking about in their plan. And Matt nailed the next most important one because the real estate professional status is going to be critical. Then let me go through a litany of other things we're going to put on a list. And I want you to know when we meet with our clients, and this is what should happen to many of you when you meet with your professional. Maybe you choose one of our tax lawyers that follow mine in Matt's mo. But it's not trying to do everything at once. It's trying to do it in stages where you, the client isn't overwhelmed and it's doable and it's exciting and there's a progress. It's not get rich overnight. There's a progression. And so anyway, the other things that I'm going to look at first, should the wife be doing a solo 401K? She could be stocking away a lot of money in a solo four hundred and one k. And meanwhile looking for their next rental property. Those are going to be two major wealth building steps. Next I want to see, do we have a board of advisors or board of directors set up for both entities on both sides of the trifecta? One for operations, one for the holdings, and getting the kids on the board. I want family trips written off. I want the family getting integrated into the planning and learning about the business, writing off expenses for the kids that you might be still supporting to some degree. They're going to be playing a role in the ongoing business. At this point, I want to be writing off auto, dining, travel, looking at healthcare issues. Are they healthy or unhealthy? Can we incorporate an HRA? That would be huge. The wife could hire the husband and provide unlimited health care benefits on top of health insurance. Those would be the next five to seven things I would hit. We could talk about home office, Augusta rule, talking about all the little things that we could start doing to really just whittle that 200 grand of hers down 150, kick out some salary, save on self employment tax, fund a 401k, buy the next rental. Holy crap. The next three to five years could just be phenomenal. So that'd be my summary to that case study. Matt, any final thoughts on that one?
Mat Sorensen:No, I love it. There's a lot of opportunity in that example, and because there's two key factors there, rental, real estate and a small business. When you have either of those two, we have a lot of things to work with and a lot of tax savings and planning opportunities. When you don't have either one of those, you're a little bit more limited. And so. And that might be the next example you have, I think, the w two wage earner. I don't know the facts and scenarios on that one. You want to lay that one out or do you want me to go with one of mine?
Mark J Kohler:No. Yeah. Why don't we offset with cinema two? Let's jump over. You choose one of yours that you like. Kick it off.
Mat Sorensen:Okay. I've had two different scenarios of these and I just want you to think about these for the retirement accounts. As you know, most of the regular listeners, any of you new listeners here, we love using retirement accounts to invest in real estate. Private companies, your IRA and 401K just do not have to buy stocks, bonds, and mutual funds. So we have a company directed IrA. We're a trust company helping clients across the country. Over 20,000 clients served 1.6 billion in assets. We're out there doing this every day and have an amazing team. But I run across this example quite a bit, and there's always, like, some big aha. Moment for people of, wow, I never even thought that was in my realm of what I could do. First of all, a lot of people's mind gets blown when they're like, wait, I can buy real estate with my IRA. Like, I can go buy the duplex down the street with my IRA, and my IRa gets the rent and the appreciation. And when I sell the property, I don't pay any tax. It just goes back into my IRA. Yeah, you can do that. And if you know real estate, use that as your vehicle to build your long term wealth in your retirement account. But then I get the client that's like, well, I've got 150 in an old employer. Four hundred and one k. Okay, case study.
Mark J Kohler:So this is exactly.
Mat Sorensen:I'm giving you the facts here. I'm giving you the facts. Okay?
Mark J Kohler:I'm teaching this. Everybody I know, Matt, wants to teach it, all right?
Mat Sorensen:I'm setting the pre frame so people have some context for this that are new, all right? 150k in an old employer 401K. He's got 100k in a traditional IRA. Spouse has 50k in a Roth Ira. Dad has 100k he wants to put into this. Neighbor's got 100k. Interested in doing real estate. Okay, right there, you've got five hundred k. Now, I had a family group like this. I was just running the numbers here and making them up as I go. But I had a family kind of a group like this where it was a husband and wife. It was actually a sister, a dad, and a friend. And they all kind of put in fifty k to one hundred and fifty k around there into an LLC. Everybody took their little stake in the LLC. Whether, and this is IRA funds, these are retirement account dollars. They pulled an LLC. LLC goes out and buys an apartment building. This is like a 16 unit building. They got a loan to cover the balance of it has to be what's called non recourse. But to them, they were like, first their minds blown that, oh, my gosh, I can use that money to buy real estate. But then they're like, I don't want to just buy that single family rental down the street. I want to do a bigger deal. And by pooling some of these dollars that they never even thought about their own account, their spouse, their old employer 401K that's been in a target date fund. They couldn't even tell you what it is. Their friend. That's the real estate kind of. That was kind of their real estate connection, actually, that wants to throw in some personal cash that their dad got in on this, too. We created this LLC to go out and buy that bigger deal that could drive bigger returns than the smaller single family rental. And so that's an incredible option to grow and build wealth. That's a great opportunity using self directing.
Mark J Kohler:Love it. Love it. And you went straight to the climax of the case study because that's what ultimately they wanted to do. Let me take another shot at that case study and kind of more of a steps standpoint. So the client comes in, and I love the fact pattern. And usually it's initiated by the couple that has this old 150 grand sitting there at Fidelity and this rollover Ira from this old job. And they're like, what the hell do we do with it? And they end up on our doorstep. Because they've heard of examples like Matt just gave. So they're kind of here, and they're like, what do we do next? Now, again, where they live, current retirement structures, debt, kids in college, who knows what? There could be a lot of other factors. But if we just isolate that and we know where we're going to go with them, like, Matt just gave the reveal of where they're going to be so excited when they get that LLC going, but they're kind of stuck. They don't know what to do next. So step one, we get them on call and we're like, okay, so let's get that old 401K rolled into a self directed IRA. So we want to get that into. Now, they may have a solo four hundred and one k. One of them can be an entrepreneur. Those are other facts that could evolve. But the point is, we got this old IRA sitting at Fidelity in order to do this. Step one is we got to get it to a self directed format. That's what we do every day@directedira.com. And we get it over to that Ira, the wife's Ira. We got to get that into that roth. We got to get that self directed. So these kind of steps, step one is getting all the money moved to a self directed platform. It doesn't cost any taxes, there's no penalties. You're not selling anything. That's going to create a tax scenario for you. We've just got to get it to a new platform. Fidelity hates it. They're going to try to tell you not to do it, and that's because fidelity doesn't make money off your money any longer, but you're in control now. Step two would be okay, did you want to pool more money? Let's get them on the call. So then we start usually with the second call, having all the players on a phone call. What do you got? What do you got? What do you got? What do you guys want to do? And we start explaining where we're going to go with this. Like Matt said, this pooling scenario, and everybody gets their questions answered. They get their money moved to that platform. And then step three is, all right, where do you want to go with this? Do you want to buy a rental Airbnb? Do you want to do a syndication? Is it something offshore? What do you want to buy with it? And as they define to us, kind of what their dream project is, then we craft that LLC, craft it in the right state, and this could be, again, a $1,500 to two grand proposition from helping them structure the LLC. It's not an expensive situation, and all of a sudden they're free to go. And so those would be kind of the steps. I know I'm making it a little more basic that, but I don't know if you'd add any more steps or things to be aware of in that process.
Mat Sorensen:Yeah, I think the key is understanding the concept of what's possible and realizing when you're new to it, you're going to need a little advice. And that's what we're doing at KQS lawyers, helping structure those llcs. We can get the accounts at directed Ira. And I think a lot of people are like, I just don't know how to pull this off. Well, we do. We've done it hundreds of times for clients. Let us help you figure out how to structure the deal. You're the person that knows the deal and finds the deal. But getting these pieces put together to go execute it is what we're good at. And frankly, it's where a lot of people get hung up with other professionals. But it's such a powerful strategy, and one that is, and I think it's the most underutilized tool to build and grow wealth, is self directed retirement accounts. That's $35 trillion, and people aren't even thinking about them. So I want to just give one example there. I just want to say one other quick example. That is his case study, but this is just a fun one. It was. I had seven clients. These were all engineering students. These guys went to. They were in their forty s, and they all went to the engineering school together. They all became engineers, had great incomes, and they bounced around jobs. And so a lot of them had Iras and old 401 ks with significant balances. Well, one of those guys that was an engineer turned into a commercial real estate agent, and he wanted to go buy a commercial office building. So he went to this friend group of his that they've all stayed in touch over the years, and each of them put in around 100 to 200 grand into an LLC, and they bought a commercial office building. And so that was just a group of friends that were like, hey, really? We can use this in real estate? How do we do it? And they all just came together. Those consults were hilarious because I'm hearing all the college stories from these guys, and I'm like, you guys know I'm on the clock billing you by the hour to hear these stories.
Mark J Kohler:Do these guys play tag? Was one of them Jeremy Reiner, by any have like a tradition every year for two years where they play tag?
Mat Sorensen:No. I love that movie, though. But unfortunately, no, but those guys just, they needed to get to the self directed Ira. They combined their funds to an LLC, and they bought a property worth for a few million bucks that they wouldn't be able to buy themselves. And those accounts eventually moved over here. Actually, we have them now. So another cool strategy is people coming together, small group of friends, doing a bigger deal using their retirement account funds.
Mark J Kohler:Hello. The final takeaway on this case study, if I may say, is if that intrigues you at all, you know, some that it would get over to our sister podcast, please. It's free. Go over and start binging on it. The first 20 episodes are phenomenal because we just built the framework for you to have that base of knowledge. It's a self directed IRA podcast, and if you just throw it in search, it's always in our description. Our sister podcast as well. Go check that out and send it to those six other friends of yours from college. You guys will be having a great time. All right, now, third case study for some of you, they're like, mark, I don't have a half a mil. I can't buy a $2 million building. Blah, blah, blah. I love this other case study. And this is, I'd say this the hidden gem that they really don't know. They're sitting a and I'll even say, let's go a single individual in this. I'll modify that a little bit. A single individual that has a couple of rentals on the side, they've worked Hard, this man or woman, to build a little career. They've got a great w two scenario. They've got benefits. They're funding their 401K every year. But on the side, maybe their parents taught them how to buy a rental, or they picked up a little rental down the street. Could be a duplex, single family home, whatever. Well, they hear our podcast, they talk to us, and they go, well, can you just do my taxes? This was a case, literally this week. Can you just help us with our taxes? Is there an accountant in your network that could help us out? And all it is then I talked to our tax pro that interviewed this client on a discovery call, and the client was just like, yeah, I just have a couple of rentals. There's no real planning opportunity. There's nothing here. I'm not a real estate professional. And what I was then able to do with our tax pro was say, whoa, whoa. You've got to reframe this for this client. And so, in that case study, and many of you may be in that situation, here's where I'd start. And then you take another bite at the apple. I said, holy crap. You are sitting on the future of your retirement. This is a wonderful opportunity. And folks, I would say to them, you've got a small business. A lot of people don't think rental properties is a small business. It's a small business. It's on a schedule, e. But you can write off home office, you can write off dining, you can write off auto, you can learn to create better cash flow. You can say, where am I going next? Rental properties are like rabbits. If you manage them properly and let them commingle, magical things happen. These rentals turn into four rentals, and then six rentals, and soon this client that didn't think they had much. Six to ten years from now, they've got five grand of cash flow every month, and they're like, holy crap. And that can be tax free cash flow. And so I think in that case study, what I'd like to start with before we get to maybe some specific things. I like Matt. We're both kind of switching our approach here. Maybe you can give some specifics of where you go next on that call. But the concept is, know that you're on a business, you're on a future wealth building machine, and own it and get excited about it and tell people, yeah, I'm a real estate investor. I thought you worked at Cisco. You were a project manager with a w two. No, I'm a real estate investor and get excited about it. And you know what happens? Opportunities come your way, you start learning things you never knew you'd even needed to know. And so that's point number one with that type of case study for me.
Mat Sorensen:Yeah. I think anyone in that real estate space, this is long term wealth building rental properties. A lot of people, they hear about wholesaling and flipping properties. Yeah. Someone trying to make money tomorrow to pay the bills, and you could do that, and that might be you, and that's what you're great at. But real estate is one of those investments. You're playing the long game. But as you start putting, stacking assets, buying more and more properties, building more equity over time, paying down the mortgage debt, figuring out how to write stuff off and expenses in your personal life that benefit you that you never thought you could, putting money back in your pocket, you're getting appreciation, the rents go up over time. There's all these benefits of it. Now, hopefully you've got a mortgage rate that's low and doesn't adjust and go up with rates either. So you've got all these little perks working for you that I think get better over time. And that's probably one of the biggest takeaways I've had as I've owned rental properties and as they built over time. Best properties I have right now. The best performing properties are the ones I've held the longest period. Mortgages are paid down significantly. The amount of principal from what I do pay on the mortgage that pays down the mortgage versus what's interest is way higher now. The rents are double or triple from when I acquired the properties now. And sometimes when you're three to five years in, depending where the economy is, you can be like, I'm just barely eating by. Hold on. This is the long game here. We're not doing. This is not a sprint, this is the marathon. This is the long game. And it just keeps getting better and better as you go. As a wealth building tool, you could.
Mark J Kohler:Have a briefcase of a million dollars, but you don't want to blow that. You don't want to blow it on fast cars, going on shopping sprees, new suits, burgers. Somebody do that if they were announced that and fill it with ious, you're going to owe yourself later. You're going to pay that.
Mat Sorensen:This one's a Lamborghini. You might want to hold on to this one, or is that the Ferrari? I forgot?
Mark J Kohler:You got to think of the long game here. So some of the practical steps. When I would meet with a client in that situation, I'd first tell them how exciting this is, and then I'd open up and look at their schedule. E. What are they currently writing off against those two rentals? Because there's two pieces to this. It's building the inflow and taking write offs on anything possible. And so we're going to look at the dining, the auto, the travel, the board of advisors, making sure there's an LLC in place for asset protection. Do you have a trust in place? And the single individuals, they go, well, I don't have kids or married. I don't need a trust. Really? You're the most exposed because where's your shiz go if something happens to you? Well, I don't know. Well, it's going to go to your parents in most states. And you're like, well, I don't want to give money to my parents. I'd rather give to my brother or sister or charity or whatever. So you got to have that estate plan, get the LLC for those rentals, and then we're going to start looking at all those write offs. And what will happen is these clients go, well, my old accountant says those write offs don't help me because I'm a w two wager. I don't get a deduction for those. You'll get a deduction. We're going to take those write offs and they start pooling and what's called a passive loss carry forward. So when you go to sell the rentals, you don't pay tax because you've been pooling all these write offs over the years. And that's where Matt and his concept of the long game really plays out well, too, because you're like, well, I don't get a write off for that. Oh, you do. It's just delayed gratification. It's going to come. And when I see a client that's a w two wage earner with a couple of rentals, first thing I look at, their tax return is what you carry forward. And they're like, well, what do you mean? Well, haven't you been taking as many write off since you can against these rentals and pooling them for the future when you go to sell? No, no one told me that. Oh, my gosh. And once you explain it, they're like, holy crap. I could write off this. I could write off my laptop. I could write off my cell phone, I could write, yes, you own a business, for crying out loud. And so that's where that practical knowledge comes into play. And then what do they want to do? Buy that third rental as fast as possible, because now they see the future. So that's case study number three.
Mat Sorensen:All right.
Mark J Kohler:Love it. Okay, Matt, so you had a big business owner or real estate owner, something like that. Tell us what you got.
Mat Sorensen:A business owner, mainstream business owner, actually selling a flooring business. This one was way back in the day, Mark, if you remember this one. But this guy, he was in his older 50s, Main street business owner, had a flooring business that kind of had a local customer base, but also sold online. And he was ready to hang it up. He was done. He'd been working this thing for 20 plus years, had some family in the business, which was a consideration, an issue we had to work through, but eventually put the market, the business, up for sale, found a buyer for the business, and this buyer came in. And I'm just going to lay out the basic terms here and get to some of the considerations. The buyer came in, the purchase price was about two point, somewhere in between. I think it's 2.8 million.
Mark J Kohler:His first name was Hans, wasn't it? Hans, yeah.
Mat Sorensen:I don't want to give his name. I know. I would say his last name, but.
Mark J Kohler:I remember that anyway. It was great. It was great.
Mat Sorensen:So he's ready to sell. They negotiate a sell price of 2.8 million. Well, when you're selling a business, there's a number of things you're going to have to think about, and these are the considerations for this client. One, he did have a valuable business that was profitable, that had cash flow. He had made a good living off of it, but he was ready to be done. He was older, ready to hang it up. Second thing, how am I going to sell this? We had to decide the structure to sell this. Now, a lot of times it's going to be driven by the buyer. The buyer wanted to do an asset purchase, so that's what was presented. The buyer had their own lawyer and presented an asset purchase agreement to our client, the seller, to just purchase the assets of the business. And this new buyer was going to go set up their own llc or corporation to actually run and operate the business. And were going to sell the assets over to this new purchaser's business. The name, the inventory, the customers, the goodwill, all these things are assets in the business that are being sold. Now, if you think of any of you business owners that have built a business over your career, the value that's in that business, which, frankly, comes down to the cash flow. Let's be honest. It's the whole point of the thing. But then you're monetizing this at the end of the day, and there's lots of negotiation going on and how we got to the deal. But here's what the end deal structure was. The buyer actually got an SBA loan to purchase the business, which was great because it cashed out our client significantly. But our seller client took a 10% note. So 10% of that 280 grand in the example here, was carried on a note that our seller decided would get paid over a five year window. Another 10% was cashed down from the buyer. The buyer put in 280k. Seller took the note for two hundred and eighty k. And then the SBA loan funded the whole balance of the purchase price. So, at closing, our clients getting two and a half million dollars to sell the business. Pretty exciting day, right? And there was actually some business brokers involved and some fees in the transaction, of course. And there's a lot going into this, by the way. You get up to going over the inventory, the accounts receivable, what's in the operating bank account, communication plan to the employees, suppliers, vendors. There's a lot in there that has to happen. But then we got to some tax planning, too.
Mark J Kohler:Okay.
Mat Sorensen:All right.
Mark J Kohler:Can I jump in now?
Mat Sorensen:Yeah, you can jump in now.
Mark J Kohler:Great fact pattern. And just to help out on the math, 280 to 80, that'd be around 600 grand, 2.8 purchase price. So we're looking at probably 2.2 in cash. That would be coming in. Let's just say no, there was two.
Mat Sorensen:And a half because the buyer had to put in 10% cash. The lender put down the rest, and the seller just took a 10% note of 280.
Mark J Kohler:Okay. All right. So you've got the math there in front of you. It wasn't connecting for me, but we'll leave it up. It's over two mil for sure. So here's where. On a case study like this, too, what's scary for us is a lot of clients, and this is such an important warning for all of you. They go through this whole process of negotiating the deal, then call us. And they're saying, okay, state taxes. Like, holy crap. The tax savings is created in the structure of the deal. You can't structure the whole deal, sign the bottom line, and then xsx us to pick up to pieces and figure out how to save you taxes. And so in some situations, we're given a lot of latitude on the front end. Sometimes we're not. This case study, I think, was a little bit of both. There was a lot of agreements that were made, but then there wasn't finalized yet, so we had to try to figure things out. But in a case study like this, what I'd like to do is present options. Is there real estate involved? Could we do a little 1031 exchange on the warehouse that is holding all these flooring, equipment and inventory? A lot of times these business owners have bought their own building or their own warehouse or whatever. And so if we can peel out the real estate piece, we don't pay tax on that. And a lot of these clients are like, hey, I just want cash flow anyway. I'm ready to retire. So let's get that real estate piece out and create some cash flow with an apartment building, a sixplex, a fourplex, a twoplex, commercial building. Whatever next is, we want to look at maybe a CRT. This is a charitable remainder trust. You can do it with real estate or businesses. This could be a rancher with the raw land or a piece of raw land by the freeway or whatever. So if I've got two mil and a client that's in their fifty s or sixty s, man, we could create maybe a ten to 12% cash distribution payment from a charitable trust for the rest of their life. They could be getting two to 250 grand a year for the rest of their life, paid zero tax on the sale of the business, and then just pay tax on their cash flow that could be coming from this charitable trust. They get a tax deduction to do it. It's asset protected. And the CRT could be a wonderful way to monetize that big chunk of money. And finally, we have to ask, what are you doing next? What are you going to do with that two mil? And if they go, well, I'm just going to put it in the stock market. Okay. Really? Okay. It's going to be hard to create tax savings on the sale and tax savings on the income from it, and they start to realize, oh, there's other alternatives. And so that's where the case study for me starts. Gets exciting, is we start looking at ways to take that two mil and get it to work, or two five.
Mat Sorensen:Yeah. And I think in this specific example, and every scenario is had they were leasing the warehouse, but there's assignment of leases, and so there's all these legal things that are happening, too. And like Mark said, which is really important when you're selling your business and negotiating deal points is there's a tax ramification to some of these things that you might not be keyed in on. For example, this was an issue. In this specific scenario, we had to do what we did, what's called an allocation of purchase price. This should be done when you buy or sell a business, you have to say, all right, of that 2.8 million in the sales price, how much of that was the goodwill? How much of that was for the inventory? In this example, they did have significant inventory. How much of that is accounts receivable? And so you're breaking this down. How much of that is the consulting agreement? And here's what my client jacked up a little bit and didn't realize is he was like, well, I'm going to help teach you this business over the next two years. The guy that was buying the business had no experience in the industry. So he said, but you're going to pay me a salary of 100 grand a year for the next two years. He wanted 200 grand in a consulting agreement, which is very common, by the way, when a seller sells a building, they enter into a consulting agreement to help transition the business over to the new buyer. But he wanted a dollar amount on there because he thought it made him seem valuable. It made him feel good, like he was still getting a salary almost, and he wasn't dipping into the value of the business that he sold. In his mind, that's how he thought of it, yeah, in my mind, I'm thinking you just decided to get taxed in ordinary income under a consulting agreement, rather than getting capital gain income for just selling your business for more money. At the end of the day, the buyer doesn't care. I mean, they might have their own considerations around taxes. Some of those things you got to be careful about, frankly, what I try to do is knock that consulting agreement down to 50 grand total. It's 25k over two years. It's 50 grand. Really? You're only doing this part time anyways. Let's not get too aggressive. And that reduced his tax liability because that other 150k, we got a move to capital gain, which he got at a 20%. Actually, back then it was 15% long term, but you got at a lower rate than paying an ordinary income. So be careful on how you're allocating that and what pieces in the sell the business you're labeling, because that will have an effect on the tax outcome.
Mark J Kohler:I love it. And in some instances, I've seen the client take that consulting fee, maybe it is 200 grand, because remember, the buyer wants to write it off. They don't want to capitalize it. Yeah, they can expense it. And so the seller keeps their current escort that they've been running the business in, and now the only income is the consulting agreement. And now they have no employees. So they can plow that money into a solo four hundred and one k. And they can take that consulting agreement and have a lot of fun with it with a couple of years, if that's what they're left with. And so there's always an option to play with. There bottom line is, and I just want to finish with this point on this case study of selling raw land or selling a business, it is so important to be thinking and talking about it a year to three years before you pull the trigger, getting your EBITDA, the cash flow as high as possible with clean sets of books, presenting it to an appraiser before you go out to the market and look for that buyer. Maybe your kids are going to be the buyer. How are we going to transfer it to them? But you can't wake up one day and say, let's do it. The more planning you can do, the benefits can be significant based on it could create a better sales price, create better cash flow and better tax planning. And the last legal thing I want to throw at is thinking about non competes, the lease agreements, the contracts. What can I do after this? Two years later, can I go up? We have so many clients. What happens with a lot of these clients? They get bored. They play golf every day for six months and go, all right, I'm better than this. I can go out and I want to redo this, and I know I could do it better. And they're waiting for that non compete to fall off. And then two years later, they go out and start a competing business and do it better and leaner and more efficient than they did the first time. And then five years later, they sell that. And we see that so often. And so there's just some cool planning opportunities.
Mat Sorensen:Yeah. Well, I hope one of these four examples was something that could be in your future, something you're working through. Our team at KQS lawyers is always able to help clients from the tax planning on this, structuring the buy or sell of a business. And we got an amazing team. We're here to help. Of course, whether it's the self record retirement accounts, Mark's tax network for any of the tax planning or tax returns you might need, we just want to be a resource to you not only in providing great education, ideas and strategies, but a people and team to help you execute it and freaking pull it off. So hope these examples help.
Mark J Kohler:Now, most importantly, what I want you to know is John Denver is not full of crap. The Rocky Mountains are really rocky. And some of you may be thinking, is he like in his car? What's Bart doing? So I'll just show it for those that stuck around for the show and are watching on YouTube. So I'm in an old gondola. Like this is an old antique gondola that I've been standing in that normally do hot chocolate at night. So it's kind of a little gondola here behind me. That's where I've been hiding out. And up behind me now, you can see there are those Rocky mountains. They are legit.
Mat Sorensen:So is John Denver. Man, he knew.
Mark J Kohler:He knew. He knew what was going on. So anyway, your homework this weekend is to watch dumb and dumber and reevaluate your own structure and look at what case study you might fall in or your family or friends. Matt, thanks for being awesome co host and I just love working with you and thanks everybody for being here. We really love this podcast and love Main Street America and small business and hope that it's been a benefit to you today. Thanks for listening. We'll see you next week. Matt, any final words?
Mat Sorensen:Yeah, I was just going to say, hopefully we made you smarter and smarter from listening to this podcast, not dumb and dumber. If we did, we'd appreciate a five star review. If you feel dumb and dumber for having listening to us, just send us a private email. Okay?
Mark J Kohler:Thanks everybody. See you next time.