How to Know If Your CPA Is Helping You or Holding You Back | Kelly Tate E35

Not sure if your tax advisor is actually optimizing your returns, or just filing forms? In this episode of the Hotel Investor Playbook, we’re joined by Kelly Tate, a CPA with over two decades of experience helping real estate and hospitality investors navigate the tax code with confidence.

We dive into key strategies like bonus depreciation, Section 179, and cost segregation, and explore how to structure your entities to maximize tax efficiency, especially when you’re juggling both real estate ownership and active operations.

Whether you’re an experienced sponsor or just scaling into your first hotel deal, this conversation will help you ask better questions, avoid common pitfalls, and gain peace of mind that your CPA is adding real value.

Topics Covered:

• The difference between Section 179 and bonus depreciation
• How cost segregation works and when to use it
• Why your entity structure matters more than you think
• How to know if your CPA is the right fit for real estate investing
• When to consider getting a second opinion on your tax strategy

About Kelly

Kelly Tate is a seasoned CPA, entrepreneur, and Co-Founder/CFO of KTA Financial Services, a Las Vegas-based firm specializing in bookkeeping and tax preparation for franchise owners. With over 15 years of experience, Kelly has built a reputation for helping clients navigate taxation, deal structure, and financing. Through KTA and his own firm, Kelly Tate CPA, he serves hundreds of businesses with innovative financial solutions and proprietary technology. His mission: to simplify and elevate financial operations so business owners can focus on growth.

Connect with Michael on Instagram or LinkedIn.

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Transcript

Michael Russell 0:00

Have you ever had that sinking feeling that your CPA might be missing something, but you don't know enough to challenge them? You're not alone. On this episode of the Hotel Investor Playbook, we sit down with Kelly Tate, a real estate savvy CPA who breaks down how to know if your tax strategy is truly working for you, or quietly leaving money on the table. We cover bonus depreciation, cost tags, entity structures, and how to audit your own situation, even if you're not a tax expert. If you're looking for more clarity and peace of mind around your tax strategy, this one's pure gold. Let's dive in. Welcome to the Hotel Investor Playbook, your guide to building wealth and freedom through boutique hotel ownership, hosted by Mike and Nate. Get in the game. On this podcast, we talk story about everything you need to know to make money investing in hotels and hospitality assets. On today's show, we have Kelly Tate, a CPA that's been in the business for over two decades, that is going to talk shop about everything we need to know about taxes, particularly as it relates to investing in hotels. Kelly, welcome to the show.

Kelly Lee Tate 1:27

Well, hey, thanks guys for having me. I really appreciate it.

Nathan St Cyr 1:30

Yeah, maybe we're pumped.

Michael Russell 1:32

That's right. So yeah, I don't know that people wake up in the morning and are like, oh, I'm so excited to talk about taxes, but you've been in this business for a long time. I am curious, like, what motivated you to want to dive into being a CPA and and to dedicate your life to taxes?

Kelly Lee Tate 1:48

Great question. I recently graduated with a finance degree. And when I got out of school, I was like, what do I do with this? I had no idea what to do with it. Everybody wanted me to sell insurance. And so I actually was a petroleum landman for about three years. And then I thought, nah, I don't want to do this either. And so I went back to school, got an accounting degree. I always had an aptitude for it. Corporate taxes always interested me. I like the strategy to it. I like just the nuts and bolts of it. We're good with math. It's kind of got a lot of law to it. So I was attracted to it. So I thought, let me go try this. And I've been doing it ever since.

Nathan St Cyr 2:23

Bro, I just feel like you just spoke Mike Russell's love language.

Michael Russell 2:28

Well, let's talk taxes, baby. What's happening in the world of taxes at the moment that you know real estate and hospitality investors should be paying attention to? Are there any major changes on the horizon or strategies people should be leveraging before they disappear?

Kelly Lee Tate 2:46

Well, I think that everybody should be paying attention to Trump and what he's doing on this reconciliation bill and what's going to happen with the tax world. I don't have a crystal ball to say exactly what's going to be in that thing, but there's discussions of capcades, whether they would go up or down, ordinary income tax rates. There's a lot of stuff in that bill. So I think that's one thing everybody should be looking at. Whether you own a business or you're going to buy a business or invest in a business, you got to think about the rules and how those are going to play in. Oddly enough, the last four years, there's been very little change in the tax code, other than things that were done with the Jobs and Creation Act in 2017, which is also Trump, that are slowly phasing out, like bonus depreciation or things like that. We'll see if those things get renewed with this new tax bill.

Michael Russell 3:38

Yeah. So what is the status with like bonus depreciation? I've heard a couple of variations of where we are, and I'm not following this as closely as presumably you are, but we all want 100% bonus depreciation to come back, at least from a real estate investor's perspective, that's a huge bonus. And so what is the current status with that now?

Kelly Lee Tate 3:56

So you know what he in the olden days before bonus depreciation, we had a code section called Section 179. And once Section 179, back when I started 25 years ago, you could expense up to $25,000 that year, and then the rest of you had to depreciate, right? And then slowly they were creeping that up. And I think right now I believe it's a million dollars. But then bonus came along around the really right after 9-11. They wanted to spur the economy. Bonus came along, and bonus has been around ever since, but it's always been a different percentage, whether it's 100% bonus or 50% or 30%. Well, it was a hundred percent for 2022, and then 23 down to 80, 24 down to 460, and it just keeps going lower and lower till it's gonna be gone. So, like what I've seen this last year, we've been trying to take section 179 on clients because we get 100% still, versus bonus. Whereas two years ago, you were taking bonus on everything. So we'll see what happens with the tax code, the changes that Trump's gonna make. They say this is basically what's called a sunset provision, meaning it expires over time. And it but it not only expires, it's rationally down 20% a year. So they may renew it, but will they renew it at 100%? I don't know. Could be 50, could be 70. We had years in the 2000s where it was 30, 50 percent for several years straight. It didn't change at all. And that makes 179 a little more attractive in certain circumstances. So we'll we'll see what happens with the tax bill. But if nothing happens on the tax bill, it's gonna go away.

Nathan St Cyr 5:44

Okay, cool. So can I rewind a little bit? Because I got a couple questions. Number one, I remember 179 from does this sound right? Whatever. I bought a Range Rover, and because of its weight and whatever, it was like I I got to write the entire thing off, and it was a Range Rover ain't cheap. And so that was a significant purchase that this had nothing to do with before my real estate investment. It this was whatever. So I was when you said 179, I'm like, oh yeah, yeah, okay. But let's just pretend that bonus bonus depreciation didn't exist, right? Let's just pretend for a moment that it's that's that it's back down to zero. So there is no additional bonus depreciation. So walk me through then when you say 179, does performing a cost segregation and 179 do there is there a correlation between the two of them? Is that the code that's used?

Kelly Lee Tate 6:40

A little bit, sort of. They're really separate things, but here's how you walk through it, okay? Okay. So if you have a cost segregation study because you basically want to take a structure and you want to cut that structure into its little pieces that are three, five, seven-year, fifteen year, or thirty-nine-year property, right? Yep. So what we're trying to do, and I'll use a dental office as an example. A dental office has all kinds of airlines and water lines and power lines and various things that run through the building or through the floor in order for the dentist to do their work. So the concept behind it is that, hey, this is this piece of equipment that runs my air is a five-year piece of property. So all of the lines that run through the wall to the compressor should also be a five-year property as part of this. And so basically, you take, like, say, a million-dollar dental office, which normally has 39-year property straight line, and say, uh-uh, we're gonna cut this thing up into all the seven, five-year stuff because it's got all these components within it, and we're gonna make five and seven-year property out of it. So we're gonna sell, oops, so we're gonna accelerate a ton of the depreciation. Well, once you then create five and seven-year property or 15-year property, then you can say, okay, now I want to take section 179 on that property because it's qualified. Like the building itself is not a qualified piece of property for 179, it's a straight-line 39-year priest property. But the other property could be qualified. So you say, okay, now I did my cost say then I cut it up into these pieces. Now I'm going to apply section 179 and I'm going to elect to expense all this stuff today, one time.

Nathan St Cyr 8:26

Understood. Okay. And so under 179, you had talked about that that that number had been creeping up over the years. It started at something like 25 grand and then it was going up and up and up. And so where is where is 179 at today? I'll tell you, I gotta look it up because it changes so much.

Kelly Lee Tate 8:43

Yeah. 179. 2025, the maximum 179 deduction is 1,250,000.

Michael Russell 8:52

Dang, I thought it was gonna be like next to nothing. Uh now we're talking, baby. It's gone up and up and up.

Nathan St Cyr 8:59

Then what is bonus depreciation? I don't understand. If let's just say you have a $2.5 million building and you do a cost segregation study, and that cost segregation study tells you that 50% of it fits into that three year, five-year, seven year category, and that and that only $1.25 million of it is structural under the 39-year straight line depreciation. Are you saying that even if bonus depreciation was gone, you could take that full $1,250,000 that fell within that $3,500, and seven year as expense now?

Kelly Lee Tate 9:37

Accelerated depreciation. That's right. That's right. You could take $179,000. Because $179 is all about qualified property. If you have qualified property, you could take it. Wow.

Michael Russell 9:49

We learned something new every day. So we could just end the podcast here. Thanks so much for being on, Kelly. This has been great.

Kelly Lee Tate 9:57

Yeah, it's it's it like I said, when I started 25 years ago, 179 was 25,000. Even in those dollars 25 years ago, what's 25 was nothing? We had clients that were spending way, way more than that. We could take 179, I think we'd get it, maybe like a piece of the property, we'd get 179, and the rest of it, we'd have regular depreciation. And if you didn't want 179, typically you're still gonna get to deduct around 30 to 35 percent of it because depreciation is accelerated for tax. All right.

Michael Russell 10:28

So I was gonna hold off a minute to ask this question, but I'm I gotta ask it now. You just dropped some knowledge. Like we had no idea about this. And so you're a CPA, you're not just performing like someone's tax returns, but you're working constantly on tax strategy thinking forward. What are ways that you can reduce your tax liability in the future? And I have this constant, I don't know, feeling, I don't want to call it concern, but just like this situation in my mind where I'm like, how do I know my current CPA is really getting the very most? How do I know that I'm getting all the tax advantage that it that I should be getting? Like here I am talking to you now, and be like, I'm gonna go ask my CPA about this, but he's never said this to me before, right? And so I'm wondering, like, okay, if someone has a CPA currently or they're thinking about hiring someone, what are some of the things that they should be asking, or how do they identify if this CPA is knowledgeable, particularly in the area of investing, hotel investing or real estate investing, to where they can add true value?

Kelly Lee Tate 11:36

I think that what they brought up before the cost segregation study. If you talk to your CPA and they don't know what that is, you probably should move on. They're not, they may be great at taxes, but they're probably not great at real estate taxes because that's a pretty common thing for anybody who's done a lot or a lot of real estate. I think 179, I I man, I mean, I hope this is true. I feel like it's true. I feel like most CPAs are gonna absolutely maximize 179 or bonus or whatever depreciation you're gonna take, unless there's a reason to just not do. Every now and then we have circumstances where we would opt out. We'd say, nope, we're not gonna do that. Taxpayer wants a higher income, they're gonna buy a house, or taxpayer wants certain whatever. So sometimes we just say we don't want to reduce our net income that much.

Nathan St Cyr 12:23

So based on what you just said, a reason what why maybe you wouldn't take the full one 179, or maybe even in the case of the full bonus depreciation that you're eligible for, uh can you walk me through if let's say you have um just I'm gonna throw out a random number. Let's say you have $500,000 worth of accelerated depreciation that you could use right now. Yeah. And let's say that you made $500,000 of gross income, but you have $250,000 of expenses from your active expenses from your your business. Do they use the depreciation first? And so really what you're doing is you're you're chewing up that depreciation, and now you're that active loss doesn't get pushed forward in the next year. So in essence, you're you're kind of wasting that bonus. I don't know if I articulated that well.

Kelly Lee Tate 13:22

So let me let me answer this this way. Okay. So even if you can't use it, it'll carry forward. And it may carry forward in a couple of different ways. So say the 179, you had net income of 200,000, but you had depreciation of another 300,000. So you created a hundred thousand dollar loss, right? There's things that can get in the way of you taking that hundred thousand dollars, okay? Number one, you gotta have basis. If you don't have basis, which we can go through that concept, but if you don't have basis, you can't take the loss, so the loss would just carry forward. Number two, I always get these two mixed up. I gotta think about this for a second. S-corpse, it's gonna pass through to you on to your personal return, and you're gonna have to test your basis to see if you can take it. On a partnership, if you have a partnership that shows a loss and it was created by 179, 179 is gonna get stuck at the partnership level until next year. Or such a like a later year and you have net income to eat it up. Does that make sense? So you never lose it, but you may not always be able to use it, which is why when you have a cost set or you're doing these things where you're doing asset intensive stuff, it's always good to talk to your CPA and walk through am I gonna get to use this on my tax return? Because maybe my wife has a $400,000 W-2 and I'd love to offset that. But can't you or can't you? You gotta look at the you gotta watch, you gotta look at how it flows through down to you at your individual level and go, okay, I'm gonna am I gonna get to use this currently, or is this something that's gonna carry forward next year or when I have that income in the future? Does that make sense?

Nathan St Cyr 15:09

Yeah, it does. I I wish I knew all those variables.

Kelly Lee Tate 15:12

There's several variables to doing that. Uh the S-corp side, you got basis issues. You don't have as many basis issues with partnerships, because partnerships can use debt that's guaranteed as basis or recourse debt, whereas S-Corps cannot.

Nathan St Cyr 15:29

And I'm gonna be frank, I I don't I don't like I know basis from the standpoint of purchasing a property, and then that's where your basis sets, and then as time goes on, and you've taken depreciation or not, so there your basis lowers or goes up. But is that what you're meaning when you're saying basis? Yeah, kind of.

Kelly Lee Tate 15:49

I mean, basis, basis is affected by a few different factors. Let's just use real estate, that's what we're talking about. You're gonna have basis of the property that you buy, right? You bit you buy a property and it's three million dollars, you're that's your basis in the property. Okay. That's not necessarily your individual basis in your entity, and that's what we're really talking about is your individual basis because you could have three million dollars and then say you you borrowed two million of that to buy. The other million, Nathan, you put in three hundred thousand, Michael put in seven hundred thousand. So your individual basis is Michael has got seven hundred thousand at risk, you've got three hundred thousand at risk. So that's your basic, it's a starting point for your basis. Now let's say you guys had a partnership, and that two million dollars, you guys said, we're both on the hook for this 50-50. So now you each get an additional million dollars of basis from the debt. Okay. Well, let's change it from a partnership to an escort and say that that's the same scenario exactly, but it's an escort. Now, Nathan, you've got 300,000 of basis, Michael's got 700, and that's it. There's no debt basis. Really big difference between partnerships and escorts.

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Michael Russell 17:39

Do you remember that we went through? So we have a partnership. We went through this where we had different a different basis for Nathan and myself. So on our very first commercial property, Nathan came in with a larger investment to start than I had. And so his basis was greater than mine. And then over time we refinanced, and so Nathan got the majority of his money capital back. And so then our basis from our perspective is well like, hey, we're 50-50 now. And so I remember there was some like financial maneuvering that our CPA was working on, and I don't exactly know how this stuff works. I mean, honestly, you guys are like wizards. Like I look at a tax return, I'd like to think I'm like a pretty astute person, but man, it's like it's like a foreign language. Like, I don't know how to find all this stuff on my tax return. Like what you're describing here in conversation, I'm like, yeah, it makes sense. When I go look at my 80-page tax return, whatever it is, because we have so much stuff in it these days, there's just no way that I'm gonna find it. So, like, I don't know. I I feel like this is this is difficult in practice to really understand whether or not we're we're getting the best financial or tax advice. And and this is not a knock on our our current CPA. What really what this is is my skeptical being and my my nature is to to verify everything, all of our employees, our our operations. I audit the heck out of everything, and I'm feeling super vulnerable because I don't know how to audit our tax returns. And this is such an important part of our business is what is expression, Nathan?

Nathan St Cyr 19:13

It's not what you it's not what you make, it's what you keep. That's the thing that matters. Because I gotta tell you, like the way that this is making me feel walking through this. I mean, seriously, it actually changes a little bit my physiology, the way that I'm breathing. I'm like, oh, like kind of thinking through because I think without knowledge, I think a lot of times fear comes from not having knowledge, and there's such deep levels of expertise and differences between all of these different things from corporation types and rules for this versus that, that we don't even know if we have how do we even know what we don't know? I guess that's what it boils down to. And is there a way that someone like you that that helps people with tax strategy, like what would it cost for us? To get an assessment. Let's just say we're like Kelly, we would like you to assess where we're at. We'd like to spend some time with you and go over, like, hey, here's our big picture, and there's our big picture, and then we each have individual pictures. So how does all that roll up together? Like, how much time does that take? And what's the what's the cost for us to go through that process? Because to me, it's feeling it feels overwhelming.

Kelly Lee Tate 20:23

Yeah, I could, I could see why. I mean, it's there's thousands of pages back scoped out there, and and that's why guys like me, they get into it for guys like you. And I've done evaluations for other clients over the years that said, hey, you know what? I just not sure that everything looks right. I want a second opinion, and it's something to look over. Typically, we just we just charge our hourly rates on it. Usually it's me that does it. I charge $350 an hour. It should in general, between reviewing it and going over it with the client and giving them some pointers, if hopefully there's none, hopefully everything looks great. But it's typically it's simply a couple hour project, two to three hours to do that. That's a reasonably complicated tax trade. That's not a simple tax trade. That could take 20 minutes. But if you've got entities that are flowing in, you've got real estate professional questions, basis questions, those kinds of things, it could take an hour or two to review it and then go over it with client and say, hey, here's where maybe you could think about changing a few things. And then that depends on whether you want to do individual level, you want to do entity level too. Because the entities are different too. How how is somebody doing that tax return how they paired?

Michael Russell 21:31

Yes. So this gives me peace of mind because again, I have no reason to believe that we're not getting sound advice, but I need to audit. And because I don't know how to audit, I want to hire a third party that will just tell me, hey, your CPA is doing a great job, or hey, he's missing these things because they're consequential and not just one year, but like over the course of like making all these investments, like if we're missing year after year of potential opportunity, like I need to know that so that I can rest well at night because it just keeps compounding. So, man, when you just explained that, I I got really excited because that's just one thing that I could check off that is like ruminating in my mind that we I felt like some vulnerability. I just want some some peace of mind in that area.

Kelly Lee Tate 22:18

I I have a client today that came to me about 11 years ago and he owns I don't know about 11 or 12 commercial properties. And he came into my office and he says, Hey, I've got this guy, do you want my tax return? I'm not quite sure that he's getting it right or whatever. And I said, Yeah, you could bring it in, I'll take a look at it, or whatever. So he crimson his tax return, it's like this big. I mean, it's huge. The guy that was doing it was about 90 years old at the time he was preparing this, and I started going through it. He had done the entire tax return by hand, added every number, carried the numbers to whatever schedules. And I'm looking at this thing, going, Well, I can't just look at this because now I'd have to add up every dumb number on this thing in order to make sure it's right. Yeah. So I just was like, let me just I just recreated it in my own system because I'm like, this is the only way to really check this return and see if it's right. And it was 95% good. The man, the I eras were minor, but this guy's name was Char. He died the year after, which is why this is the client here now. But it he got it mostly right. He missed a few numbers here and there, but he did it all by hand. It was amazing. Dang, that's crazy. Can I digress?

Michael Russell 23:30

I just that made me think of something. Do you guys use AI at all? Like, are you can you just take a tax return and throw that bad boy in a chat GPT and be like, hey, is this being done correctly?

Kelly Lee Tate 23:40

Yeah, we don't use it for that. For that purpose, we don't use it. I mean, our software has diagnostics, so we get levels of diagnostics, like, hey, you got something really wrong with the return, caution, maybe it's wrong, informational. Yeah, the the the tech software is really doing that for us. But I've had at least one client. We've prepared his return and he's throwing it through chat GPT to see if it pointed out anything that was wrong. And he's told me I play golf with this guy all the time. He's like, Kelly, I'm gonna throw it through chat at GPT. Like, go ahead. I'm pretty confident it's right, so no big deal.

Michael Russell 24:18

You were a little nervous at the time, I'm sure. I was a little nervous, but all right. I want to zoom out, but Nathan, before we do, because I know I you love to dig into the minutiae, you're good at this stuff too. But before we zoom out, is there anything else you want to ask Kelly on this specific subject?

Nathan St Cyr 24:34

I mean, you just got me spinning with AI. Like we're using it now consistently and we're going into this new world. And our fractional CFO, he was really excited about this. And he's like, he's he was building models and testing them against AI and having AI learn, and and he was really excited. And and basically his concept was how he was gonna be able to be so much more efficient and accurate and check for inaccuracies. And so I guess I I would ask you that as we're we're moving forward, let's say over the course of the next five years, how do you see this? How do you see AI impacting tax strategy? I mean, I think it's gonna have a huge impact.

Kelly Lee Tate 25:21

It's very interesting that I used to pay for uh really high dollar tax research software three three years ago, call it seven years before that, or whatever, well, however long I've been opening on my own. And I got rid of it about three years ago because frankly, I found I could Google and code section almost anything I really wanted to do, just talk Google. So then you throw AI, which in my mind is Google on steroids. I I think that we're gonna be able to plug in a scenario and say, hey, I've got property A over here, and it's in an LLC, and I got property B, it's in an S-corp. Here's the ownership of the various properties, and somehow I'm gonna put all this together in one thing, and I don't want to pay any taxes. And I think AI is gonna tell us how to do it. It's gonna look through the code sections and go, oh, okay, well, that's a that's a merger, and it's a type Y merger, and you got to do this first, and you got to do it by this date. And I think it's gonna tell us all kinds of stuff when we have these complicated transactions where we usually we're going out because these are not things that happen every day in the tax world. So we're going out resourcing and going, okay, I got A and B and I got to get them together, but ownership's different, entity types are different, I got to figure out how to do this without creating some giant tax bill. And I think AI is gonna help us tremendously with stuff like that.

Michael Russell 26:43

Yeah, that that sounds that scenario sounds extremely convenient. All of a sudden, though, I I started thinking about perhaps the liability, like just throwing all of our tax information into AI and not really having a clear understanding of where it's going. And then someone has our full picture. I mean, unless you go through manually and redact every single line of your social security or whatever, but they're gonna have your entire life right there. Like that seems potentially from a hacker's perspective, they could really do some damage if that information was proliferating. So I don't know, I'm a little concerned about that, but I see your point. Like, if there was a safe and secure way to do this and know with confidence that that information is secure, it seems like, well, why not?

Kelly Lee Tate 27:23

Yeah, I think if you could do scenarios without really naming names, you're you're in a safe garage. That's true.

Michael Russell 27:28

Well, I I want to zoom out then, if that's all right, because yeah, you know, we started to get into the minutiae here and it got a little confusing pretty fast. And so what I want to know is no, it's all good. You know, we're going with flow. I want to know how you kind of help clients decide as it comes to entity structure, right? How do you help clients decide between an LLC, an S Corp, a C Corp, or maybe a combination where in our situation there's both real estate ownership and there's also an active business or operations that are involved? Great question.

Kelly Lee Tate 28:03

Just like some basic rules that we sort of follow. LLCs right now are all the thing, right? Everybody forms an LLC. It's it's an easy thing to do. Most states like Nevada, Wyoming are the most popular states to incorporate these days, and LLCs provide the most liability or tech protection. This at least in my attorney friends tell. So I I would say 95% of what I see today is formative as an LLC. If anyhow had a choice to me, if you're a single-member LLC, you're just a sole comprier. Yeah. But if you're a multi-member LLC, you're default to a partnership. Basically, it's a partnership tax return, which may or may not be what you want to be. Or you can make an election on a form 2553 to be taxed as an escort. Okay. So then you really kind of got to decide which one am I going to do? So let's just let's just roll out the single member guy and say that we got multiple members and they're not married because two married people are considered one person. Okay. So we roll them a scenario where you got two or more members unrelated. I tend to look at it, I think the partnership is by far more flexible. By far. You can do disproportionate contributions, disproportionate distributions, you can do special allocations of expenses or income if you guys are if people agree to it. You just there's just a lot more flexibility, not to mention you get basis for debt, which in MS Corp you do not. So I find a lot of reasons to do partnerships with multi-member people that are going to do business together. And if you're doing real estate, LLC partnership is the better way to go, also. And I'm going to go back to why that's the reason. Because if you did an escort, let's go to the S Corp scenario real quick. The S Corp, I see more as an entity that's better for professionals, accountants, lawyers, doctors, architects, these kind of people. Number one, you can make an election to be a single member. That's fine, and still have an escort. And that's what a lot, a lot of doctors do. But the reason that multi-members don't do it a lot is because contributions now have to be proportionate to ownership. So like take the scenario we talked about earlier where you guys came in with into a partnership with different amounts of money. Now all of a sudden, say they were going to come in with 200 grand total, but Nathan was going to come in with 150, Michael, you were going to come in with 50. Well, you can't be a 50-50 escort can do that because contributions and distributions have to be in proportionate to ownership. So that's that's kind of a stalemate for a lot of people. So the only way the way we get around that, if somebody says no, but I really, really want to be an escort, okay. Well then the guy with 150 has to loan the guy with 50 50,000 of his money personally, and then they each put in 100. Now you now you can have 50-50 ownership, you can get 50-50 distributions. And that but it always has to be proportionate to ownership. So that's that's a real hindrance for a lot of businesses. So you have to follow those rules. The second thing that's a real hindrance is when you put an appreciating piece of property in a corporation, like a hotel or a house or a commercial property, whatever that is, if you try to take that piece out of that corporation at any point in time, you try to distribute it and say, hey, I don't want this in the corp anymore. I want it over here in this LLC, you've created a taxable event. You have to treat it as if you sold for the fair market value as of that day. I was just with a client before this, and they have a it's it's a similar concept. They had a C Corp that they wanted to move to an S-corp. Same thing. When they move from a C Corp to an S-corp, they have to pretend they sold everything that's in there, pay the taxes on it. So it created this big taxable event. That's what S-Corps do with appreciating property. It creates taxable events. If you ever try to get out without selling, you've sold it anyway. It's a deemed sale. But those are like the main reasons. S Corps are popular, like I said, with the professionals. And the reason it's popular is because they can save a ton of payroll taxes. Say you have a doctor, he's making half a million dollars. You know, he could take a hundred thousand dollar, maybe a hundred and fifty thousand dollar salary out of there, pay the payroll taxes, and all the rest of it, he can take his distributions and avoid the payroll tax.

Michael Russell 32:41

Okay, so let's let's stop there because what I hear you're saying, and I'm I'm familiar with this. So in another business, I have an S-corp and I compare that to my real estate. But with real estate income from operations, you're you're gonna pay self-employment tax. And so when you have an S-corp, you do have to pay self-employment tax, but you can change the allocation of how much you're paying yourself. So if you basically say, well, I earned half a million dollars, but I'm only paying myself a salary of $100,000, then the other $400,000 is not subject to self-employment. It's subject to whatever dividend regular income tax. And so self-employment tax is in addition to regular tax, an extra 15% or somewhere around there, from what I understand, but it's it's above and beyond regular tax. So clearly, if you can save 15% of your income, then you want to distribute as much of the income as possible to be paid as a dividend and not paid as your salary that you're claiming you're paying yourself. So there's value. So now that we've established that piece, I want to pivot to in our situation with operating hotels, in our case, hostels, there is active income from the operations of the business. And so I've heard that oftentimes people will set up ownership of the entity that they own the property as an LLC, but then the operations will be organized within the entity of an S-corp so that they can limit or mitigate self-employment taxes as a result. And so I just wanted to get your opinion on that.

Kelly Lee Tate 34:28

Yeah, no, I think it's a great strategy. We do it a lot. In essence, what you're doing is you create that partnership with that income-producing property, and then you create this S-corp over here, and then you say this S-corp's managing that income-producing property. So income-producing property is going to pay a management fee to the S-Corp. And then out of the S-Corp, you pay your salaries and you have other pass-through income, but the S-Corp, the distributions aren't subject to self-employment tax, which is 15.3%. Whereas on the partnership side, if you're actively involved, general partner, everything's subject to self-employment tax. Many, many businesses are set up like that. Because you have liability protection within each entity, so you don't want to stick all your eggs in one basket. So you could have several different partnerships. They could hotel one, hotel two, hotel three, whatever, and they're all paying management to one. Yeah.

Michael Russell 35:34

No, that that is gold. I love that. And and I want to expand on that with a very specific situation, but this might apply to a lot of our listeners. Okay. Nathan and I, prior to taking investor capital, which we're in the process of doing so now, or we're buying a property or raising money. But prior to this, Nathan and I are just the sole owners in a partnership. So a multi-member partnership, LLC, in which we we own our properties in Hawaii, and each one is owned under its own LLC. But let's just take our Maui property. Our Maui property is a cash cow. Yep. 50% allocation. So this thing's a cash cow, it's spitting out money. We're taking the money, we're paying ourselves this draw. And again, like I feel a little vulnerable here because I don't actually know how this works from a tax perspective. So what's unclear to me is we're taking this draw from the income of the business that Nathan and I own 50-50. But in order to purchase the business or the property, I should say more specifically, originally, we had to put money in. And then thereafter, we had to continue to reinvest money to make the improvement. So we bought the property, we put a down payment down. That was capital that came out of our bank account. And then thereafter, we continue to make property improvements, which we had to pay for. So I don't know the exact number. I'm going to pick a round number just for simplicity and say, let's say Nathan and I have invested a million dollars. Okay. Total. Well, now that we're drawing money each and every month, we need to know is that money that we're drawing taxable or is it just a return of our original capital? Does that make sense? Yeah, it makes sense. And this is a partnership, right? Yep. Yep. Okay. Okay. Like, like you use the word, I just want to make sure that I understand this correctly, but you use the word there was our original basis, so our 50-50 basis. So is the return of capital reducing our basis or is it considered taxable income?

Kelly Lee Tate 37:45

Yeah, it's a it's a great question. I'm gonna hopefully explain this in a way that your listeners can understand the concept. It's it's a little complicated. So partnerships are passed through entities, right? So it doesn't pay any taxes. You guys get K1s, and whatever income or loss it has, it passes through to you personally and you pay the taxes. Okay. Okay. When you put in money, you're each creating what's called a capital account or your original base. But in a barnership's called capital account, your capital account's gonna get calculated every single year when you do your tax return, and you're gonna know what's it. This is my capital account, which is really your basis most of the time. It's very similar to your basis. So when you take the draws, technically it's not taxable, but if you think about it, if the partnership had net income, because we'll assume that the money you put in, you spent it, you gave it to the bank, or you sped it on leasehold improvements, or you you spent it was gone. So when you take the draws, you're really it's not a taxable item, it's just a capital account adjustment. But if the partnership had net income, you're gonna pay taxes on the netting. And if in maybe those first year or two the partnership had losses because you were pumping money into it and getting $179 or bonus depreciation or whatever, you probably had losses that you're able to take. All gets kind of cooked in together, to be honest. Like I'll take, I'll put it this way. So say this year you made a million dollars on that partnership. You could take no distributions whatsoever. You're still gonna pay taxes on a million dollars, but it's gonna pass through to you on a K1. Doesn't matter what you with what you do with the distributions. So it's just all gets sort of baked to the same cake. Yeah. So I I say it's not non-taxable, and I'm it's probably not explaining this well. It's not taxable, but at the same time, it it doesn't really matter because you either have a cash to pay yourself back, or you don't. You didn't give if you'd put it in as a loan and then you were paying it back to yourself, I would say, yeah, that's not taxable, it's just a loan. But because you contributed as an owner, as a as a contribution to the to the entity. And then he got baked into everything else.

Michael Russell 40:03

The way I'm interpreting what you're saying, so we're we're creating our basis at the time of purchase, and then we're continuing to add to that basis as we reinvest in capital improvements over time. That basis is then growing. And then when we go to sell the property, for example, then that basis will be calculated that whatever income from the proceeds of the sale are determined is going to be subtracted from the basis of what we put into the property, both at purchase and over time. But on an ongoing year-to-year basis, cash flow that we're earning from profits of the business, that's taxable. So really the tax savings comes upon an event like a sale, where our basis is then calculated as a deduction from proceeds from the sale. Is that accurate?

Kelly Lee Tate 40:56

Kind of, yeah. Yeah, it's it's accurate. But think if think about this too. Basis is affected by a few things, okay? So initially you get an increase in basis for money that you put it. That makes sense. You put money in, you get basis for it. When you had net income, you pay taxes on that net income, you get basis for the net income. If you had losses and you took and you those losses pass through to you, that's gonna reduce your basis. Because now you get to take out on your tax return as a lot. So your basis is gonna go down. When you take distributions, you're gonna reduce your basis. So your your basis is gonna constantly fluctuate and flow year to year based upon the additions and the subtractions to the basis. Because you could put in, so say you put in that 500,000 that first year, and then we were able to take section 179 on 500,000 of assets and it flowed through to you guys. Well, now your basis is zero. You started with 500, and now you took these losses of 500, so now you have zero basis. So if you sold the property the next day, you're gonna you're gonna pay taxes on the whole thing. Does that make sense?

Nathan St Cyr 42:07

Okay. And then when we look at the the net income, that net income would be delivered by the K1. Correct? Yep. And so that number, let's say it's $250,000, right? Now I've got a $250,000 tax liability. Forget how it got there, it's all baked in together. Here's the net in, here's the net income. Basis is going up and down based on what goes back, what comes out, this, that, whether we do use depreciation, whether we don't, all that. Then now we've got this net income that the K1 delivers to us. And now if we have, let's say we have cost segregation that's been done, and we have $500,000 of accelerated depreciation, that offsets $250,000 of the $250,000 of net income. Correct? And now we still have $250,000 left over of that cuss egg for that passes on to the next year for later.

Kelly Lee Tate 43:14

That's right. I mean, a good part is you never lose it, it's always there. So one part about the tax code that's reasonably fair is that these losses, you don't ever lose them. They're they're they're gonna carry forward, we're gonna use them at some point in time.

Michael Russell 43:26

So would it be better then instead of just giving or like just reinvesting money into the business, would it be better to just open up a loan? Right? Like let's say we're not trying to borrow any more money, because obviously if we're trying to borrow more debt, then that could be an obstacle. But if we're not immediately trying to borrow more money, we're just kind of set, we got permanent debt for the next 10 years, let's say, fixed rate, whatever. And we we need, let's say, I don't know, let's say half a million bucks. We're like, all right, we got to go make these improvements. We've got it, right? Instead of us just investing it, we loan it to the business, and then that's all an expense. Wouldn't that be more optimal?

Kelly Lee Tate 43:59

In a partnership world, yes, is when you load that money to the business, you're gonna get basis for it. You get debt basis, so we can we keep track of stock basis and then we have a debt basis is another call. And so, yeah, if you loan it to the business and then you're gonna pay yourself back, it's it's not a bad option. I mean, it's it's contributing, it's not a bad option, loading it's not a bad option. Neither one of those are bad options, and the same thing on the escort, because you get basis for either side. Yeah. All right, so let's let's just summarize. And I will say one more thing, I'll just say about the loans. Well, more often when I see loans happen, it's because the business needs quarter mill or whatever it needs, and maybe one guy's got it and the other guy doesn't.

Michael Russell 44:42

Uh-huh.

Kelly Lee Tate 44:43

So, guy the Scottish says, Hey, well, I'm not gonna contribute it because yeah, we're disproportionate, but I'll loan it and the business will pay me back. Gotcha.

Michael Russell 44:52

Mike, write that down. Well, I'll just good thing we're recording this, right? Oh, yeah, where you go, go back to it later. Re-re-listen to what we're learning here today. This has been good. Look, I know that sometimes this gets a little bit complex, but it's important. This is this is the real deal stuff. Like if you're if you're doing investments and all this stuff is happening and circulating, and you're not in tune with really the tax consequences, then there's real consequence here. So this isn't as exciting as talking about the the spirit of buying a rundown motel and turning into this glamorous boutique property. A lot of our episodes are really exciting with that, but this right here, these are nuts and bolts. This is tackling and blocking, and this stuff is super important from a business perspective to to nail down. So I think this has been extremely helpful. I I think though, it's you're I'm gonna have to re-listen to this and digest all this because it's complex. And and that's why I feel like having someone in your corner that knows this stuff is absolutely critical. We harp on this all the time, that you don't need to know everything. You need to have the right people on your teams. And so, Kelly, just knowing that you're there, that you can, as a consultant, you can weigh in and review our taxes and say, hey, are you guys getting proper tax advice and tax strategy in your current situation? Or are there some things that are missing? That again, I I just want to reiterate, I'm stoked on that. I want to tee this up for you, Kelly, to be able to share with our audience. But Nathan, before we do, is there anything else you want to add?

Nathan St Cyr 46:19

Yeah, I'm waving my hands over here, like, let me say something. Okay, well, takeaway. Like, we may have gone through all of these things and we have look, these are the discussions that Mike and I have have been having. So we it's great to have a guest time where we're like, okay, look, we've been digging into this stuff. Let's like, let's, let's like go down the rabbit hole a little bit. But the biggest takeaway for me is that I like feel a little bit of a weight lifted off because I'm like, okay, well, at 350 bucks an hour on a three to five hour consultation, we're talking a thousand to fifteen hundred bucks to know whether we're on the right track and to talk to an expert that knows all of this. And that if he doesn't and there's a specific thing, then he's got the resources out there. Like that, my takeaway is that all right, I don't need to know everything, but man, it's not that overwhelming where I need to spend word dropping 25 grand to like we could get just a consultation to start to know if we're in going in the right direction or not. That was so awesome. I don't, it's one of the most valuable conversations that I've had. I appreciate it. Appreciate it. Yeah.

Kelly Lee Tate 47:29

If I had one piece of advice for for your listeners that are going out there and they're gonna create a business and buy a property, whether it's a small property, a big property, it doesn't really matter, is find somebody that's super competent at this. But then they should be curious. They should be watching stuff like this, they should be asking their own CPA questions about how did you treat this on the return? What did you do with that on the return? And get answers. And they don't have to know everything that I know. I've been doing this 25 years, but it's so helpful for a business owner to know at least the basics of this so that when they go to the next property or they go buy a vehicle, even if it's another tax subject to buy a vehicle or they whatever, that they have at least some basic knowledge to come back and say to their CPA, hey, I think I'm gonna do this. I think I need your help on this, and I or I need some advice. And what do you think? Because the one thing I see all the time is when people get surprised and then they're go, they've done some transaction that they didn't talk to me about in advance, and then they get shocked by the ramifications of that, and I'm like, We you could have called, we should have called. I mean, I'm back, I'm here all the time. I'm ready to talk to you, I want to help you with these things, but you have to let me know if he if you're planning to do something. Awesome.

Michael Russell 48:51

Well, let's end on that note. This has been great, Kelly. If our listeners want to stay in touch with you, where can they get a hold of you?

Kelly Lee Tate 49:00

So they go to my website, which is kellytakecpa.com, where they can, if somebody wants to call the office and have a conversation or do a consultation, they can call 702-754-1932. I'm in Vegas, so I'm in the Pacific time zone if that matched somebody. And if they want to email me, they can email me at Kelly at KellytateCPA.com. I would be happy to hear from anybody. Happy to do consultations, talk to people, figure out what they got going on. I was I find all the scenarios that I hear, which is day to day, very, very interesting because nothing's to say, and that's what makes it fun. Awesome.

Michael Russell 49:37

And then you're in all 50 state, you service all 50 states, is that correct?

Kelly Lee Tate 49:40

We yeah, we've service all 50 states, we've done stocks returns in every state. We probably do more Utah and California's because of our proximity. Sweet.

Michael Russell 49:49

All right. Well, hey, thanks so much for being on the show. We're gonna put all that information in the show notes. We're definitely gonna have you on again because we're growing. And as we grow, like you mentioned, there's new dynamics and new information that we need to adjust for.

Kelly Lee Tate 50:03

Well, there's so many other, so many other topics we can cover, honestly.

Michael Russell 50:07

I know. I feel like, gosh, time is just flying by. I wanted to ask you so many more questions to ask you. So we'll have to circle back with you. But again, thanks so much for being on the show. He is Kelly Tate. We are Mike and Nate, and this is another episode of the Hotel Investor Playbook. We'll catch you again next week. Aloha. Thanks for hanging out with us today on the Hotel Investor Playbook. If you got even one good nugget of wisdom about hotel investing, do us a favor, hit that subscribe button and leave us a five-star review. And hey, if you're feeling extra generous, drop a quick line in the review section. Something like Mike and Nate are the go-to hotel investing guys, or best podcast for anyone looking to crush it in hospitality. Or, you know, whatever feels right. Those little shout-outs go a long way in helping more people find the show. And they pretty much make our day. All right, appreciate you guys. Catch you next time.