This may sound too good to be true, but there are ways in tax planning that you can use to receive tax free income. With everything in the law, documentation is always the key and there is no way around property documenting transactions to be able to substantiate the transaction during an IRS audit.
Here are two ways you can generate tax-free income:
1. Turning Your Personal Home into a Rental Property
Are you looking to make some cash by turning your home into a rental property? Before you simply convert your home into a rental property, consider one extra step that could add some tax money to your pockets.
The one-extra-step strategy is to create an S corporation and then sell your home to the S corporation, which would then operate as the landlord for the property. With this strategy:
1. You avoid taxes by using the home-sale profit exclusion of up to $250,000 ($500,000 for joint returns).
2. You create an increase in your rental property’s depreciable basis that generates an increase in depreciation deductions.
In the end, with the higher depreciation, your rental income can be reduced by depreciation and other expenses. Since your home will now become an investment properly, analyzing the investment (such as positive cash flow, and how long you will keep investing) is also important.
2. Tax-Free Income from Rental of Your Home to a Corporation
IRC Section 280A allows you to rent your entire home tax-free for 14 days or less during the year: no tax on the income, and no deductions for the home. You can rent to a third party or to your S or C Corporation. For example, say the fair rent on your home is $1,500 a day and you rent the home to your corporation for 14 days during the year. Here’s how you benefit:
1. The S corporation deducts the $21,000 ($1,500 x 14) and passes the benefits of that deduction to you. If you are in the 40 percent tax bracket, your cash benefit is $8,400 ($21,000 x 40 percent).
2. You also receive the $21,000 in rental income tax-free, for a total cash benefit of $29,400 ($21,000 + $8,400).
You have to admit, this sounds almost too good to be true. But it is true. This result is embedded in the law, and it’s available to you if you operate your business as an S corporation. (The C Corporation produces slightly different cash results.). Think about ways that you can use your home for 14-days during the year that would qualify for a daily rental.