Episode #393: Duncan Kelm, Arrow Point Tax – Strategic Tax Planning & Tax Mitigation Strategies
Guest: Duncan Kelm comes from a background as an Olympic rugby player and consulting manager. With a mind for analytics and long-term focus, he built a tax firm that is focused on forward-looking tax planning. Specializing in work with small businesses owners, and complex individual scenarios, Arrow Point focuses on delivering above and beyond value with tax minimization and tax savings.
Date Recorded: 2/10/2022 | Run-Time: 45:59
Summary: In today’s episode, we’re talking about everyone’s favorite subject – taxes! Tax day is less than 2 months away so this couldn’t be timelier. Duncan walks us through some tax breaks for businesses, individuals & private investments.
We touch on the difference in taxes within the US and then get into the Employee Retention Tax Credit, which Duncan pounds the table about why more people need to know about it.
Then we get into my personal favorite, yes, QSBS. We also touch on Opportunity Zones, which long-time listeners have heard us talk about before.
Duncan provided resources related to the conversation today: Employee Retention Tax Credit & his Top Tax Strategies.
Comments or suggestions? Interested in sponsoring an episode? Email Colby at colby@cambriainvestments.com
Links from the Episode:
- 0:40 – Intro
- 1:40 – Welcome to our guest, Duncan Kelm
- 3:28 – Moving to the Caribbean and Puerto Rico for Act 20 & 22 tax breaks
- 8:23 – The Employee Retention Credit
- 13:09 – QSBS
- 15:53 – Journey to 100x
- 19:19 – Mutual fund fees, taxes, and dead money from holding for too long
- 20:17 – Qualified opportunity zones
- 25:05 – Episode #386: John Arnold, Arnold Ventures
- 22:47 – Narrow the Wealth and Income Gap
- 28:26 – Energy efficiency and electric vehicle tax credits
- 29:30 – The difference between tax deductions and tax credits
- 32:02 – Residential energy efficient property credits and the Section 280A Augusta Rule
- 37:38 – Some of the biggest tax mistakes and omissions people make
- 40:16 – His most memorable investment or tax experience
- 41:09 – Learn more about Duncan; Arrowpoint Tax Services; Employee Retention Tax Credit; Twitter; LinkedIn Call 707-896-8760
Transcript of Episode 393:
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Disclaimer: Meb Faber is the co-founder and chief investment officer at Cambria Investment Management. Due to industry regulations, he will not discuss any of Cambria’s funds on this podcast. All opinions expressed by podcast participants are solely their own opinions and do not reflect the opinion of Cambria Investment Management or its affiliates. For more information, visit cambriainvestments.com.
Meb: Welcome, friends, today, we have an episode that could save you some big bucks. We’re talking multiple commas here. Our guest is a managing partner for Arrow Point Tax Services specializing in financial plans and processes for business owners, professionals, and executives with an eye on taxes. Today’s show we’re talking about everyone’s favorite subject taxes, tax day’s less than two months away, so this couldn’t be more timely.
Our guest walks us through some tax breaks for businesses, individuals, and private investments. We touch on the difference in taxes across the U.S. And then get in the employee retention tax credit, which our guest pounds the table about why more business owners need to know about it. Then we get into my personal favorite, yep, QSBS.
We also touched on opportunity zones, which longtime listeners have heard us talk a lot about before. And before we get to the episode, anything we discuss today is not specific tax advice, every scenario is different. Seek out a tax professional opinion, yadda, yadda, yadda, yadda. Please enjoy this episode with Arrow Point Tax Services Duncan Kelm.
Meb: Duncan, my friend, welcome to the show.
Duncan: Meb, thanks for having me. Looking forward to it.
Meb: Where do we find you today?
Duncan: Santa Rosa, California. For those that don’t know where that is, that’s about 60 miles north of San Francisco and wine country.
Meb: Well, it’s kind of beer country where you are now. I mean, you have some world-class breweries down the road, too, last time I was in town, we got to sample, that scene is growing and putting your town on the map.
Duncan: Big time, Russian River brewery, Lagunitas, Bear Republic. Those are all some national brands that are all local here. So, we know our IPAs.
Meb: It’s kind of Pliny… There was a running joke amongst my friends a couple years ago where back when Pliny was hard to find…it’s less hard now…the local and the keg toppings for…what is it…the Pliny of the Younger unlimited releases.
And so there was a joke a few years ago, where I was talking to my wife, and we had a newborn and I was, like, “Hey, but there’s a Pliny topping this week, I got to go meet some friends.” But then it just became an excuse anytime we get out of the house I would be, like, “Sorry, there’s a Pliny event going on.” And she’s, like, “Do they do this once a week? This doesn’t seem very rare.” There’s a good lesson in marketing and scarcity, there, listeners, for sure.
Today, we’re going to be talking about taxes. And listeners before you sign off, this could be one of the most impactful discussions you’ll ever listen to because it could save you a lot of money. And a lot of what we’re going to discuss today is a topic that many people avoid, much to their detriment.
Because it’s either confusing, boring, they don’t understand it, they’re just too lazy. But it often can have an impact in tens of thousands, hundreds of thousands. And also, if you’re an advisor for your clients, it could be, certainly, even into the millions. So buckle in, you may have to listen to this one twice.
You and I were rapping, I said I’m getting ready to go on a road trip because we’re renovating our house, sort of my nightmare, real estate ownership. So, we’re going to be out for a few weeks. I mentioned I was going to be down in Miami, which was the old ETF conference, and then Puerto Rico to see our friends at Alpha Architect. And then up to Mississippi. So, Puerto Rico is the subject of probably one of the biggest tax breaks around if you’re willing to pick up your bags and move.
Duncan: If you’re aware of it, there’s something called Act 20 and Act 22 that really reduce business income and capital gain. There’s a reason a lot of billionaire hedge funders about two years before they sell or exchange, or do whatever they’re doing, take a position and go set up 180-plus days in Puerto Rico.
Meb: Of all the people I’ve talked to that have done it, it seems like it’s almost a 50/50 split, where everyone moves somewhere with the romance. And obviously, there are places like Wyoming, Montana, Florida, Texas, the traditional ones, but Puerto Rico is a whole nother level. But you have to move to the Caribbean.
Duncan: It helps with federal taxes, where all those other ones are state taxes. When you hear about people leaving places like where I find myself in California, where the highest rate is 13.3% and moving. It’s a trend that’s happening quite a bit. And when you look at the data in California, they actually have a net inflow of people. There’s still more people moving here than moving away, but the average income is significantly different. Well, that’s to do with taxes.
Meb: I used to joke, there’ll be, like, a beautiful sunset, we’d go for this amazing beach day, or surf, or something, hike. And I’ll be, like, “Okay, tax is worth it.” I still love this place. But at the same time when I talk to my friends that have been to Puerto Rico, there’s about 50/50. Fifty love it and stay, 50% say, “Look, this isn’t for me, island time. It was fun for a week, but it’s not what I was expecting.” And you have to be there half the year, very strict. You can’t fudge that half the time, or else you give it up, so…
Duncan: It is ridiculously strict to…they will pull plane records; they will pull cell phone records, if it’s a big enough deal. California Franchise Tax Board, I think are more stringent, and they are better funded than the IRS in looking into those things. So, in California, at least…and, look, I get it, sunshine, tax, I’m not going anywhere. But we have high tax rates in California. So, there are a lot of things that can be done to try and protect against realizing that income, one of which is maybe living outside the state for half the year.
The thing is, the Franchise Tax Board looks very closely at what you’re doing. Did you materially leave all your social standings? Did you get a driver’s license? I’m not joking when I said I’ve seen some court cases that are referencing some very unique items to basically say, “Well, you didn’t actually move.”
Meb: So, careful with your Instagram and Facebook account, listeners, that’s the takeaway. All right, Duncan, you are a tax expert. Let’s start to dig in. Where do you want to begin? Because there’s about a dozen we could probably talk about, but some are probably more timely and impactful than others. Let’s tackle a few. But what’s the first that’s on your mind?
Duncan: Well, the first thing, I would say, is tax expert is probably a loose term because I understand a very small subset of the tax code, the tax code is complicated. It is a Frankenstein law these days. But on that note, and recently, for small businesses, there’s one that I think is just going really missed right now. It’s called the Employee Retention Tax Credit. And what that is, it came about in March of 2020, the same time everybody was going into lockdown. And really, the United States was hit with COVID.
And a lot of small businesses aren’t aware of this because, at the time, the CARES Act was passed, and a lot of different stimulus came out. If you remember, we’re talking trillions of dollars with all these various programs, and people were just trying to keep the lights on. So, at the time this credit came out, it was either you could take a PPP loan, or you could take this payroll tax credit. So, almost uniformly, everybody moved to the PPP. I’m sure you’ve talked to plenty of people…in December of 2020, this credit became eligible to retroactively go back again.
So, if all of a sudden you qualified for it, still couldn’t do it if you did the PPP. That changed in March and April of 2021 with the third stimulus, President Biden authorized the ability to do both, but you have to account for both accurately. So, just like our tax code, it’s a Frankenstein of a tax credit. But the ones I’ve done, we’re talking about well into the six figures most of the time on par greater than their original PPP loans.
Meb: What’s involved? What is the qualification needed? And then how do you go about the process? And what is the rough benefit? I believe it’s per employee.
Duncan: So this is tied to payroll tax, Social Security, FICA. There’s a form called a 941, which most businesses file quarterly to basically tell the government and the state, we have made X amount. We have paid our people this much in wages, Social Security, Medicare has been withheld, etc. So what this credit does, is basically looks at what wages were paid, you have to strip out what were attributed to a PPP loan forgiveness. And then what remains is up to a certain amount per employee, you get either 50% or 70% of that amount back or so.
Qualification, again, just like the credit itself has changed a few times. There’s technically four ways to qualify. One is you had a full suspension of your business operation. So, the example I give is a barbershop in California. Basically, they were not able to operate, authority said your business is not essential, shut down. So, that is considered a full suspension. As long as a mandate was in place that said your business couldn’t operate, you’d qualify for this credit. So, it could be a week, it could be a year, depending on what state you’re in what your local government was saying.
Partial suspension is another way to qualify. And essentially, what that is, is a business needs to have a nominal part of their operations impacted by a government mandate. That’s kind of some vague language. So, let’s define it a little bit further. Generally speaking, the IRS has been seen to have said that a nominal impact of business is about a 10% reduction in either operational personnel, operational hours, or in, potentially, revenue.
So, the example I like to give is a grocery store, because a grocery store pretty much uniformly across the country was considered essential service. However, a grocery store that has a deli or a small restaurant inside of it, theoretically, could qualify for the employee retention credit through this mechanism of partial suspension if that restaurant was ordered to shut down, even if the rest of the store was able to operate.
So, the threshold would be a nominal portion of the business. So, if that restaurant hired 15 of maybe 100 employees that would rise to the level of a nominal suspension, and thus the business would qualify. Third one is from a drop in revenue.
Meb: So, basically, if you’re a small business owner, the process would be email Duncan, say, “All right, I probably qualify, I’m not sure. Can you help me?” And you said most probably do that come across your desk.
Duncan: Well, I would just say California was so restrictive as even essential businesses rise to the level of a nominal impact and generally would qualify. If you could work remote, then, yeah, you’re not going to qualify for it.
Meb: So, for the groups you’ve helped thus far, what’s sort of the range as, like, a lot of these businesses… I mean, I imagine the sky’s the limit, but are most probably saved, like, 10 grand, 100 grand. Is there any massive savings, you’ve seen where you’re, like, “Holy cow, this is an enormous number for this business that otherwise wouldn’t have done it”?
Duncan: They’re big numbers, like I had said, close to PPP, if not more. So, I think I’ve done about 50-plus businesses at this point, and the vast majority are in California. I think the average credit is $185,000-ish. And the largest one I think I’ve done is $3.4 million.
Meb: It seems like an obvious no-brainer. I mean, look, we all hate paying taxes. And particularly, is there anything better than getting money back, it’s getting money back from the government. So, listeners, you guys ping Duncan, and if you find over 10 grand, you owe me at least a six-pack of Pliny the Younger, it can’t be Pliny the Elder.
Duncan: That’s not cheap, though, you know? Sure.
Meb: A keg, then, and over 100 grand or a million, and we can talk. We’ll go for a rafting trip.
Duncan: There you go. I said there were four ways to qualify. I missed probably the easiest one. If you started a business after March of 2020 and you didn’t have other businesses that were generating a million dollars a year…so, Meb, you have businesses, I have a couple different businesses.
If those were aggregated over a million dollars in 2020 and 2019, then you’re not qualified. But anybody who started out the gate, new business and had employees, you’d qualify in the third, and actually, the fourth quarter of 2021. And it can be, if you maximize it, it’s $100,000.
Meb: That one’s probably the most timely for the listeners, get on it, because otherwise in a short few years, it’ll expire. What’s another one we should be talking about here?
Duncan: Let’s talk about your absolute favorite, which is qualified small business.
Meb: Oh, yeah. Although, I feel a little reluctant having helped bring this into the popular lexicon over the past few years. Because I feel like now the senators…you know, Congress people just go back to day trading stocks like you have been for the last three years. Stop focusing on these tiny startup companies under 50 million that are changing the world, and go back to your day trading vaccine companies for your kids and wife’s accounts, like, come on. Anyway, tell us what it is.
Duncan: I agree. Yeah. And you’re mentioned that because in Build Back Better it was targeted, they were going to reduce the benefit in half. So, 1202 qualified small business stock. Essentially if you go through and you check the appropriate boxes, original issuance. The second is it’s got to be a C Corp, the third, you have to own it for five years.
And then the fourth is at the time you receive those shares…the easiest way to describe this without getting into the details of how the tax code lays this out is the market cap, so to speak, has to be under about $50 million.
So, small businesses, small startup businesses trying to raise capital, pursuing innovation, growth, etc. And what you get if you check all those boxes, when you sell it, you’re actually able to avoid all the capital gains on the growth. My goal is to probably have at least 100 of these in the next 10 years. And basically, just play the odds.
Meb: The way to think about it, listeners, is you’re investing in these amazing companies, and the way that it’s currently written is 10 times your gain, or…
Duncan: Ten million.
Meb: Ten million, right.
Duncan: But that’s a nuance, too, because I can give you things if you’re married to get up to 30 million, you can do a lot of stuff there.
Meb: And this is why I think it’s actually been an absolute Cambrian explosion in innovation is it incentivizes people to invest in a true startup. This is pre-Series A, essentially, this is seed level valuations that 5, 10 up to 20 million, Series A, maybe. But these are tiny startups just with a dream and a product or a service. And, so a small-cap nowadays starts at $300 million.
So again, these are super small companies. But think about this QSBS is, it’s like everything you want about investing wrapped into one, you have to hold it. So there’s no day trading of this, there’s no Robin Hood, but it’s like true investing, you hold something for at least five years. And it aligns you with this super optimistic world, we talk a lot about it in our journey to 100 Ex-post, listeners, if you want to get deeper.
And then for the ones that perhaps are over 50 million, you can also put those in, like, Alto IRA or other retirement accounts where you may not have the necessarily the benefit. But regardless, building a portfolio of these is…I think the worst-case scenario the Congress people would do would be either cut the benefit in half or…
Duncan: Reduce the benefits tied to income, something along those lines is what I would think.
Meb: If you’re some sort of wealth or max criteria to where you’re not somehow getting a billion dollars out of it. Anyway, it’s potentially one of the biggest tax benefits that I think actually has a huge, long-tail spillover effect. Because if you’re a founder, or people investing in startups, and you have a good outcome, what do you do with it? You recycle it, you invest in more founders and startups and outcomes.
Duncan: It’s commensurate with risk as well. So you’re being rewarded for taking risk into a venture that most likely is not going to pay off. So, they’re incentivizing capital that may not be there.
Meb: I paint a rosy picture of this world, but the reality of we talked about this in the post is probably darn near half of your investments are going to be zeros or not going to return much money. Another quarter may return your money or a little bit more.
And it’s really in that final 5%, 10%, maybe even 20%, where the interesting things happen. So the big takeaway for me that I always try to tell people is make sure you place a lot of bets and start small. The people cannonball in the pool and only putting all their money in three bets, to me, that’s the worst way to go about it, you need probably a minimum of 20, ideally 50 to 100 at some point.
So we’re going to have to delete this segment because we don’t want a lot of Congress people to listen to this. And they’re going to say you guys are trying to do tax breaks. And it’s a bunch of rich people. But the reality is, what really needs to happen is we need to change the accreditation rules to make it like a DMV style test. So anyone can invest in these instead of shit coins, and all these other FX day trading and GameStop and AMC, end of rant.
Look into it again, listeners, we did a poll a while back on Twitter, where I was, like, “Do you implement or have you ever even heard of 1202 QSBS?” And it was, like, 98% had not. And I said it’s funny, because what do all investors focus on? They focus on performance. So they buy what has worked, they like the shiny object.
Level two, they focus on expense ratio, which is important, of course, but three or four, maybe number seven down the line is taxes, which we talk a lot about mutual funds versus ETFs. But also something like this, which completely could potentially eliminate, or shelter, a lot of the gains is even more impactful. So it’s like the criteria should be reversed. You should start with Uncle Sam, find all your alpha there, and then move down the line to actually the other ideas.
Duncan: You never want to let the tax tail wag the dog, you can make the wrong decision. So, start thinking about Uncle Sam and California State what they’re taking from what you’re making and it starts to factor into structure and go-forward basis.
Meb: A good example I think, listeners, that’s probably more relatable is I hear this all the time with two things. One is people with mutual funds. They say, “Well, look, I know this is an expensive fund. I know it’s tax-inefficient, but I have a pretty large embedded gain, I just don’t want to sell it.” And I say, “Well, look, you got to go through and run the numbers. How much is this 1.5% per year fee costing you, and then the taxes you’re paying per year on these distributions and capital gains?”
And a second one that’s a little more behavioral is people get wedded to a position. For example, my family, I can think of an example where they had held GE for a really long time. And say, “Well, I have this huge capital gain, and I can’t sell it.”
And then here we are 20-plus years later from its peak where it’s down 50%. So, it’s just been dead money for 22 years, and not only dead money, hugely negative money. So, I think your point of wagging the dog, you should be aware of it. But also realize there’s some pretty big opportunity costs if you make it your sole decision when it comes to an investment.
Duncan: Tax should be one of the inputs, not the only input.
Meb: Let’s cover some more of your other favorite tax topics to talk about.
Duncan: Yeah, let’s talk about something called Qualified Opportunity Zones. This one came about in 2017 with the Tax Cuts and Jobs Act, and three main benefits. It’s an incentive program designed to move capital into impoverished areas around the country, and territories.
So, they basically went through the census, each state had to submit these zones, so to speak. In the past, these were called empowerment zones. Now they’re called qualified opportunity zones. Each state submitted a pro-rata kind of along how Congress is split, how many zones they got, and California had over 100. There are over 8,000 across all the states and all the territories. A lot of firms are in these.
Most people look at qualified opportunity zones as a real estate investment, you have to put capital gains. And it’s all capital gains, you can’t just put income or non-capital gains into these and get the tax benefits. They go into a real estate property that’s maybe dilapidated, needs improvements.
Within the program, there are guidelines on how much capital you have to put in to get the improvements. The money you owe on the capital gains that go into one of these funds, you don’t owe that until 2026. So, you got a deferment at this point, forum change, I think it’s the end of 2026 it will be forum change.
If you hold that investment, in the first version, we’re talking about real estate for 10 years, whatever that sells, whatever in the future, you’re not going to owe any capital gains on the growth. So, a million dollars goes in, say, just for rough numbers, you owe 20% capital gains, in 2026 you’re going to owe $200,000.
That can come from anywhere. Most funds that are syndicating and doing these types of things generally do some sort of loan against the value of the property to give it back to their partners to be able to pay that tax. But whatever that growth grows to, and you hold it for 10 years, you love things that kind of handcuff you a little bit in terms of long-term. And I like your poll about what is long-term. This is long-term.
So in a sense, psychologically behavior to hold. A decade in real estates, you can find places around the country that it probably hasn’t performed well over a decade, certainly, through 2008 and the teens, but for the most part, it’s an appreciating asset and generally it tends to go up. Plus, you’re probably working with a professional who’s helping guide this and work on rents, whatever.
So, whatever that growth is that $1,000,000 grows to $4,000,000, 30 years from now, you theoretically would have $3 million of capital gain. But under this program, again, like qualified small business stock, you get to miss out on all that. It’s a big one.
Meb: We talked about this a fair amount when it first launched, let’s see, 2017, probably, and we were talking about 2018. As we walk forward now, for the first three years, how do you think it’s going? Because it’s something that the use case is mostly real estate, I imagine you see a fair amount of startup campuses or accelerators in a certain area.
To me, that would be a really cool way to do it would be to buy a building and house, a handful, certain, like, near universities that seems like a perfect use case. Is it something that’s playing out as anticipated or what?
Duncan: It’s really funny. I think it hasn’t performed like they had probably expected to having entered capital. From what I’ve seen and what’s coming across my desk it’s almost all real estate, which is ironic to me, because the other way you can use this program to put capital gains into is a business that is located in one of these zones.
I happen to be sitting in one right now, when they go back old census, sometimes nice areas, and I consider where our office is a pretty nice area in downtown Santa Rosa, and Pliny is a quarter mile that way. It just so happened that this was a zone. So, I’m in a qualified opportunity zone. My businesses are qualified opportunity’s zone businesses.
If I were to try and sell this to somebody in the next few years, that’s a big bell and whistle. Hey, you deploy capital gains in here and you plan on holding my business for a long period of time. Well, hey, you can walk away with a whole lot missing in what you owe in taxes and a whole lot in your pocket.
So, the business side of things, the startups, the innovators, I read a ton about it when it first came out. They were really slow, and they being the IRS and the Treasury, to release guidance on the program. Actually it was almost a year later until we got full guidance on the program. But it basically created a mechanism where everybody thought of it, “It’s real estate.” But under the surface, it still exists. The business side of things is incredibly powerful.
Meb: I was talking about this the other day with John Arnold in our chat who, listeners, if you didn’t hear it is a great episode, but he talks about, he’s one of the world’s greatest traders in history. Retired, now focused on philanthropy, as many billionaires do, but his is trying to be impactful and transparent. And we chatted about a number of these ideas and legislation.
And my takeaway is always I like it, at least, when the government is willing to try things out. Look, you say you got some good intentions, you try to put in the right incentives, and let’s try it, if it works, great. If it doesn’t, at least, we tried something as opposed to just doing the same dumb shit over and over. This will be a fun experiment.
And we mentioned a lot on our old blog post, how to narrow the wealth and income gap on some ideas that I think are probably pretty unique and seemingly worth trying out. So, the opportunity zones will be a fun one because you can look back and probably just run the numbers on a lot of these areas.
And granted, it’s politics. So, there’s always a little bit of politicking going on when you pick the zones. And the cool part is they left it up to each state, they’re, like, “Yo, here you do it, we don’t want to be responsible for your choices.”
But I think it’ll be great to see what actually comes out of it. And I think on net, it’ll be a positive, obviously, there’s going to be the people to try to take advantage of it in a way that’s not probably the intent. But overall, it’s politics. As long as you get close, get in the right side of the universe, it ends up being a net positive.
Duncan: You kind of hit on it a little bit on closing the wealth gap and everything. We’ve got a structure that sets people up on the lower end, to have a disadvantage, when truly what I think should happen is maybe simplicity of what we currently have.
And maybe an act that’s really focused on trying to simplify what we have going on versus this Frankenstein of a tax code. Because otherwise, it’s going to be those at the higher end, who I don’t necessarily think are breaking the rules. There’s a big difference between evasion and reduction. People I work with, we’re trying to reduce, we’re trying to play the game to the letter of the law as best as we can to reduce what the overall bill is at the end.
Meb: I always love when the politicians complain of how the way people are doing the tax code. My favorite response is, like, “Hey, you wrote it, I’m following your rules. So you want to change it, go change it, write up the rules, but you’re the one that literally designed this. So don’t complain if I follow the rules. And I’m well within the letter of the law, go change it, and then I’ll follow those rules.”
Duncan: You know, the old saying people vote with their wallet. Most politicians release their tax returns, they pay people like me, or other tax professionals to do exactly what I’m doing for them. You go look at their tax return, and you look at it. They’re not just sitting there playing blanket, paying the tax. I mean, you have a point on your tax return that if you want to, pay as much tax as you want, write it in, you have the ability to do so. So I’m with you on that one.
Meb: I always laugh when the billionaires are virtue-signaling complaining about how little tax they pay. And then you ask them, say, “Well, did you pay more? You can send your option and desire to mail in a check that’s way more than you owe.” And they say, “No.” I’ll say, “Well, why not?”
Duncan: Yeah, they go, “Well, I’ll fund my private foundation instead, because I have more control.” They also get a massive tax benefit for doing such, so…
Meb: Let’s talk about some more…what other impactful tax ideas?
Duncan: We’ve talked a little bit about business and private investment, but one that moves beyond that is just energy efficiency and EV. So right now as it currently sits, there’s quite a big federal tax credit for buying a new hybrid or electric vehicle. Tesla, unfortunately, has gone through those the way the codes written is they…you drive a Tesla don’t you?
Meb: I do.
Duncan: Yeah, I rode in it. That’s right.
Meb: As my listeners know, I’m a cheap bastard. So I bought it used. So it was actually the strangest experience because it was during the pandemic, and there’s a Tesla office that’s pretty close to my work in Elsa Condo. There’s also a SpaceX, which has an actual rocket outside, which my son is near his school.
And so we’ll drive by and check out the Falcon. But the funny part about this is, I traded in my car, picked up a Tesla, and it was zero contact. So, I just dropped off my keys picked up my car, and I’m, like, “Can I just drive this away?” It was such a strange experience, but like most, I love it. So, let’s say you’re going to buy one of these new hot Rivians or Ford electric vehicles. What’s the credit?
Duncan: They wrote the code based on battery size, so you can actually have a gas vehicle that’s partially electric. I actually have one of these. I have the only electric mini-van. I have three kids, so we’re rolling around a mini-van. I love it, it’s a utility vehicle. But it gets 30 miles electric before gas kicks in. That rises to the level of appropriate battery that you get the full tax credit. So, that’s a $7,500 credit.
And I think it’s probably worth just quickly mentioning, deductions verse credits because a lot of times people will be talking, and they’ll go, “Oh, yeah, it’s a write-off,” like, the “Seinfeld” episode, right? But you don’t really understand. So, the difference between a deduction and a credit, say, you make $100, a deduction of $20 means that you still have $80 of exposed taxable income. You owe tax on that 80. So if you had a 50%, tax, you’d owe $40. A credit is a reduction dollar for dollar of your tax bill.
Meb: So, credit, you want more than a deduction?
Duncan: Yeah, credits are far better in terms of taxation. So, EV, federal up to 7,500 there’s a website, I think I included it in the doc I sent over that has a link to every car that’s either out right now or coming out and what the current tax credit is based on how many they’ve produced. Because they start to get phased out once they hit 200,000 in production and 400,000.
So that’s why Tesla and, I think, GMC are completely phased out, you don’t get any tax credits on those anymore. Biden Administration is talking about changing that and bringing that back. It’ll be a boon for Tesla.
Meb: I was thinking the other day that Ford, I saw the news, they just stopped taking reservations because they got so many for their new SUV. And I was like, you know, if Tesla actually built a pickup that people wanted, it may be a $2-trillion company, the valuation may have grown into it because people were just going bananas for these pickup trucks.
So, they should have just done both. Say, “Look, we’ll do Cybertruck, and also, by the way, you want your F150 variant.” I still remember I watched the unveiling, and I thought it was a joke where they were going to take the shell off and reveal the real pickup underneath. And it just kept going on. I was, like, “Wait, this is the real truck?”
Duncan: The memes from throwing the ball against the window are just too good.
Meb: We have a little more time. What else is in the queue?
Duncan: This is a smaller one, but one that probably most people would qualify for in some capacity, residential energy efficient property credits. So, you install a nest or a smart thermometer, or you put in new windows or insulation, or something along those lines, you can get up to a $500-tax credit. And there are different thresholds on how you get to that.
That’s the max. So, we’re not talking about major dollars here. But most people probably have one or two things that they put through, but they didn’t really even think about would qualify. And as long as you tell your tax preparer, or you’re doing it yourself, make sure.
Meb: You made the whole point of listening to this podcast worthwhile. I mean, 500 bucks is 500 bucks. That’s one dinner in Los Angeles now. There’s the great Charles Barkley where he was talking a couple years ago, someone asked about 20 grand on something.
He’s, like, “What do you mean? That’s like one hand of blackjack.” He’s the best. What was inflation? You never know, but 500 bucks is 500 bucks, that’s a lot of money. So, I didn’t know that. We have a nest. Is that, like, solar panels, too? Or is that, like, a whole nother level of something?
Duncan: That’s a separate credit. This is just for the small potatoes stuff, you can only do it one time. So, if you do it all this year, then that’s it. The fact we’re in tax season right now, or about to be, is a good thing and maybe bring it up. I got another business one that’s pretty decent. It almost sounds too good to be true. And in some ways, you got to really watch it when you’re doing it, but it’s called Section 280A Augusta Rule.
It was named after Augusta, Georgia and what happens there. They are the masters, essentially, they throw the owners of the homes out during the masters. And people aren’t just going to give their place away for free. So they had a bunch of people, and I guess so that were upset. From what I understand, I’ve never authenticated this, but that were mad about having to declare this income when they didn’t want to leave in the first place.
So, a while back, they passed a code in 280A. That allows for 14 days a year or less if you only rent your property, and it has to be your primary residence, you need to be owner. You don’t have to declare the income. So, even if you did an Airbnb, or something like that, as long as it’s under 14. Of course, disclaimer, talk to a tax professional domain, make sure that you’re following everything appropriately, don’t just blanket do this.
But the really big benefit is when you own your own company. As long as you document it correctly, and there’s actually a reasonable and justifiable reason that you would have for renting your primary residence, your company as long as it’s not a sole proprietorship can rent your primary residence from yourself, essentially, that’s a rental expense.
So, you get a deduction on your business income. The check would move to your bank account or your trust account, whatever. And as long as it’s under 14 days, you’re not declaring that, and that’s not income being recorded to you on your tax return, you really want to be buttoned up here and make sure there’s a justifiable business reason you want to take notes when you’re calling about what’s the rent supposed to be, fair market value.
So, usually when I’m talking through this for myself, or clients, it’s, “What would it be to rent out your home or get a hotel that’s reasonably of the same level of class of property? And based on that, come up with what you think is a defensible amount. Maybe it’s $500. Maybe it’s $200. Maybe it’s $1,000. And you say, ‘Okay, well, we met, the comptroller came over to my house, and we talked about bonuses, etc.,'” blah, blah, blah. You’ve rented your property for the day, expense to the business, no income. It moves it out of the business, essentially tax-free.
Meb: I mean, that applies, too, if you’re just on Airbnb, or whatever, right, just as long as you keep it under two weeks?
Duncan: Primary residence rented out under 14. Yeah. But the real benefit when you own the company, though, is you’re expensing it. And most people from what I understand hold their Airbnb out for longer than that, and generally treat it as a business of some sort. They’re actively participating at, there are benefits to be an active real estate professional. That can maybe be one thing we finish on or something that designation is one of the few that allows you to move from passive losses to ordinary income. So think W2.
So, the real estate professional status sounds like you got to be a realtor, but actually, you don’t, you just have to meet some pretty high thresholds to materially participate in real estate. So, generally, it’s 750-plus hours and at least 50% of your working time. You really can’t do it if you’re a passive investor in real estate. So, if you pay somebody else to invest it for you, you’re a limited partner, and you’re passive, you need to be a material participant.
So, you own a commercial building, or you own a rental property, you’re the property manager, you oversee it and handle it. As long as you hit those other thresholds greater than 50% and 750 hours, and check that box for real estate professional. It’s a big box to check for high income, even W-2, depending on your income levels.
And that’s another piece that goes into the real estate professional status. You can then take those passive losses that are just an accounting metric and wash it against ordinary income. So W-2 wages, ordinary dividends, ordinary income from investments, that sort of thing. It’s a big deal.
Meb: I feel like the challenge for most individuals in most businesses, the first lesson is you need to hire a pro like you. The moron like myself has been doing their own taxes for the past two decades…who was it…was Rumsfeld who would write a yearly letter to the IRS? He’s like, “Look, I did my best to do these taxes. I’m fairly certain they’re probably wrong. It’s so effing complicated.”
He’s, like, “I tried but it’s so complicated I don’t even know what to do here.” As you talk to people, and you’ve been doing this for a while, other than not hiring a pro and not thinking ahead of time, what are some of the biggest mistakes or omissions I guess, that you consistently see, day to day year over year that people make that have a pretty big impact?
Duncan: People don’t think of tax until tax time. No offense to you, Meb, but you have a complicated situation, I would guess that you maybe have missed some things by doing it yourself. You’re a smart guy, but your focus isn’t on tax.
Meb: Not only is there no question if I miss things, I get a letter every year from the IRS, sometimes twice a year, it’s where it’s, like, “You owe $1,200, or you owe $600.” And I’m, like, “I have no idea if this is correct or not, and the amount of time it’s going to take me to go through and sift through.”
There was a great tweet the other day that I thought was so right on. Because a lot of places in the world for, like, 90% of the people out there, you could get away with just mailing the person be, like, “Here’s how much we think you owe. You can either pay it or submit your taxes,” which is, to me, the way it should be.
Duncan: Most people go the path of least resistance. Most people just pay their tax bill.
Meb: Yeah. And there was a great tweet the other day, and this is from some account…I don’t know…Carlos, Josh, but it says, IRS, “Let’s play a guessing game.” It says, me, “Not again.” IRS, “I’m thinking of a number, me. Can you just tell me?” IRS, “It’s somewhere between zero and jail?”
Why does it have to be this scenario where you put the responsibility on people who…I mean, I’m a financial professional and I can’t do my own taxes. The crazy part about…go back to the QSBS is there’s a Obama-era legislation opportunity zones, Cory Booker.
Duncan: Originally Clinton, and then, yeah, Obama expanded it to 100%. So it was all the Democrats who did it.
Meb: And I’m politically agnostic. We see a lot of Democrats demonize him, like, “You morons, you were the ones that put this out.” Like, “What? Come on.”
Duncan: Both sides of the parties are just a mess when it comes to this stuff. So, I choose to align with you and be politically agnostic as well.
Meb: We got to let you get back to your Santa Rosa afternoon. I’ll give you this question as a choose your own adventure. What’s been your most memorable investment or tax experience, story over your careers, anything come to mind, good, bad, in between?
Duncan: Been a few instances where I’ve been able to look at returns that were pretty close to not being able to be amended before and find the small things off with them that equated to big checks. That’s a pretty cool feeling. You’re able to download the information, look for it. And it’s the easiest sell in the world.
Meb: And it’s also it has somewhat almost have like a lottery feeling where it’s often very large amounts. It’s like the old unclaimed assets we talk a lot about on the show, or we used to, where all of a sudden you have this money, why not claim it? It’s your choice, you can just leave it there if you want, but it’s within the rule of the law. It seems foolish not to.
All right, listeners, Duncan wants to save you guys a ton of money. How do they get in touch with you? Not me, by the way. How do they get in touch with you? Where do they find out more on what you’re doing, and if they could work together?
Duncan: Yeah, so as I mentioned at the beginning of the show, I do work with a very specific subset of people. So, generally small business owners, partnerships, S corps and smaller C corps, sole proprietors in some instances. And then generally folks with what I would describe as a complicated tax scenario, so a lot of investment property, or trusts, or those type of things. But you can reach me on a phone number if you’d like to give me a call 707-896-8760.
My Twitter’s also a great place to reach me and reach out with questions. I think, Meb, you said those are going to be in the show notes. And then also my website, specifically, Arrow Point Taxes is just a general repository of information and research some of the things we discussed today, including the employee retention credits, specifically. If you’re really looking for more information on that you can visit apterc.com. That’s Alpha, Papa, Tango, Echo, Romeo, Charlie.com, and there’s more information there. So, thanks.
Meb: Yeah, you guys. Let us know, too, feedback at themebfabershow.com. We’d love to hear the experience and how many comments Duncan decided to save you. My, man, we didn’t get into a bunch of stuff, rugby, fatherhood. We’ll do that in part two, maybe some months or quarters down the road. I look forward to seeing you in the real world. And thanks so much for joining us today.
Duncan: Excellent time, Meb. It was great.
Meb: Podcast listeners, we’ll post show notes to today’s conversation at mebfaber.com/podcast. If you love the show, if you hate it, shoot us feedback at feedback@themebfabershow.com. We love to read the reviews, please review us on iTunes and subscribe to the show anywhere good podcasts are found. Thanks for listening, friends, and good investing.
