Understanding Audits

Just the mere mention of an IRS “audit” strikes fear in the heart of most Americans; in fact, many would be short sale investors are so overwhelmed by the prospect they completely avoid the topic altogether. Unfortunately, what you don’t (want to) know can still hurt you when it comes to taxes; after all, ignorance of the law is no excuse and you must still sign-off on all tax forms prior to the final submission. Understanding a little about audits can go a long way toward preventing problems in the first place.

1. The very first thing to understand about audits is that they are not as common as most people imagine….in fact, audit rates have steadily declined over the past decades. In 1963 over 5.5 percent of all Americans were audited. In 2008 only .80 of Americans were audited – less than 1 percent of taxpayers annually. Audit rates for landlords do not appear to be any higher than that of the average population according to “How to Beat the IRS at Its Own Game” by Amir Aczel and approximate that of most small business owners. Real estate dealers and investors also appear to garner roughly equivalent audit rates.

2. Automated Under-reporter Program. Although not widely known, the IRS compiles and compares payment data submitted by banks, financial institutions and property managers, repair co’s etc.. against rental receipts and mortgage interest payments claimed by landlords. When the amounts don’t match, it automatically triggers further investigation.

3. Avoid round numbers. Yes, they are easier but it raises a red flag that the amount in question could be “made up” rather than real.

4. State and federal returns should match. Sounds simple but it’s a common mistake likely to trigger additional scrutiny at one end or the other.

5. Don’t file early. Why give IRS additional time to decide whether or not to audit your return? Remember, they have three years to make up their mind…more than sufficient time!

6. Stay within market averages! The IRS makes good use of average market rates for each area and you should too. Avoid renting or selling to friends and family where it could be construed as a gift, barter or other irregularity in need of additional “attention” (ie, an audit).

7. Keep those receipts. Without a doubt, good record keeping is the first defense against an audit. When in doubt, make a note and include it with your tax return.
Bottom line: Don’t cheat on taxes but also don’t become so fearful of an audit that you miss available tax write-offs and deductions. Stay within the legal limits and use aggressive tax strategies to reduce taxes and maximize profits.

NorthWest Real Estate

The 5 C’s to Securing Cash

Banks are in the business of making money so it should come as no surprise that lending is at the top of the priority list. Outside of transaction fees and other miscellaneous charges, the main method of making money available to most lenders is the origination and/or servicing of loans. Understanding how and why lenders make loans should be the concern of every short sale investor. Use these 5 C’s to secure cash during an economic boom or bust.

Character – Believe it or not, character still counts when it comes to securing credit. Although the days of personal banking have given way to big business and impersonal internet applications, a substantial character reference is still as valuable as ever. Prior education and experience, quality of references, background and industry experience as well as other character traits can provide the additional incentive to put your application over the edge.

Conditions – Make it clear how the money will be used; for example, to purchase a property, make needed repairs, fund a small business operation or other conditions and contingencies. Demonstrate a steady growth pattern and history of success before moving to bigger and better things. Novice short sale investors will need to be more flexible on conditions when obtaining funding in order to obtain funds but be sure you fully understand all conditions prior to signing. Remember – a significant number of current short sale properties were originally purchased by investors. Don’t add to the swelling ranks of investments gone bad.

Collateral – Collateral is essentially a tangible asset used as security on a loan. In theory, it can consist of nearly anything of value including tangible assets such as other real estate, equipment, business assets, inventory or even future receipts. This is an area frequently overlooked by many short sale investors; for example, rather than simply securing a loan based upon personal assets, consider using future rents or profits as collateral when securing a private loan.

Capital – This is the money you bring to the table in order to secure the deal. Generally speaking the more “skin” you have in the game, the happier lenders are to loan money. The rationale is that people are more motivated to make a property pay off if they have a significant amount to lose along the way. Of course, cash is king but for those that aren’t quite ready to finance the entire purchase out of pocket, providing sufficient capital is one way to sweeten (or save) a deal.

Capacity – This is the most critical factor of all; the ability to repay the loan. Whether you borrow from Aunt Sally or a big institutional bank, everyone wants to know how and when you will repay the money. Be prepared to show cash flow, reserves, repayment schedule and other pertinent information. Remember, banks frequently discount rents by at least 25% in order to address vacancies and maintenance so be sure to build-in a buffer on currently carried properties so they work as assets in your favor when attempting to secure funding for future properties.

NorthWest Real Estate