Author: Paul Allen, CFP®, MQFP®

Taxes

Expanded Tax Credits for Energy Efficient Improvements in 2023

Post author By Paul Allen, CFP®, MQFP®
Post date December 11, 2023

Expanded Tax Credits for Energy Efficient Improvements in 2023

Tax credits for making energy efficient improvements to the taxpayer’s home have been around for a while, but they got a boost at the end of last year. The Inflation Reduction Act of 2022 increased both the dollar value of the tax credits and the types of expenses that qualify for the tax credits. There are two separate home energy efficiency improvement tax credits in effect for 2023. They are known as the Energy Efficient Home Improvement Credit and the Residential Clean Energy Credit. This article highlights the particulars of those two credits.

The Energy Efficient Home Improvement Credit

The Energy Efficient Home Improvement Credit is a 30% credit for certain qualified expenses for energy efficient home improvements. As is always the case with tax laws, the details matter. Taxpayers can receive up to a $1200 credit each year for energy efficient improvements to exterior doors, windows, skylights, insulation, as well as home energy audits on their residences. Within that category the following limits are in effect:

Maximum credit of $250 per door, maximum of 2 doors
Maximum credit of $600 for windows
Maximum credit of $150 for home energy audits

Taxpayers can also get up to $1200 of tax credit for insulation and air sealing materials, new central air conditioners, hot water heaters, furnaces, and hot water boilers that use propane, natural gas, or oil but there is a $600 per item limit.

The maximum amount of the tax credit for all the above in any tax year is $1200. Taxpayers can get an additional $2,000 of Energy Efficient Home Improvement Credit for the purchase of qualified heat pumps, biomass stoves, or biomass boilers. Meaning that it would be possible to claim up to $3,200 of Energy Efficient Home Improvement Credit in one year. The Energy Efficient Home Improvement Credits are not refundable, and unused portions of the tax credits cannot be carried forward to future tax years. The credits are only for improvements to an existing home. They are not available for new construction.

The Residential Clean Energy Credit

The Residential Clean Energy Credit is for other improvements to the taxpayer’s residence, including a secondary residence as long as the residence is located in the United States. The Residential Clean Energy Credit is a 30% credit on the amount spent on solar electric panels, solar water heaters, wind turbines, geothermal heat pumps, fuel cells, and battery storage of at least 3 kilowatts.

Unlike the Energy Efficient Home Improvement Credit, there is no limit on the value of the Residential Clean Energy Credit. It is 30% of whatever your qualified expenses are. This credit is also available for both existing homes and new construction. Like the Energy Efficient Home Improvement Credit, this credit is not refundable. It cannot exceed the amount of tax owed, but unused portions of the credit can be carried forward to future tax years until all the credits are used.

You may still qualify for the credit if you are using a portion of your residence as a business property by leasing part of it to a tenant or using it as a home office. If the percentage of the property being used for business is 20% or less, then the taxpayer may claim all the qualified expenses for the credit. If more than 20% of the residence is being used for business, then the qualified expenses must be divided between the business and residential portions of the property, and the credit calculated only on the qualified expenses applicable to the residential portion of the property. (Note that you could still deduct the expenses applicable to the business portion of the property on your business schedule or return.)

Additional Rules

Internal Revenue Service guidance indicates the credit cannot be taken until the installation of the qualifying property occurs. A taxpayer might pay for solar panels in December 2023 but not have the solar panels installed until February of 2024. The taxpayer would not be eligible for the credit until they filed their 2024 tax return.

Previous versions of these credits came with a lifetime limit. There is no lifetime limit for the newer versions, only some annual limits for the Energy Efficient Home Improvement Credit. Taxpayers could claim these credits every year if they have qualifying expenses in multiple tax years.

The credits are only valid for new energy efficient improvement property. You cannot purchase solar panels from your neighbor, have the panels moved from their roof to yours, and claim the credit. The energy efficient purchases must be new equipment.

Here is a useful example from the IRS fact sheet (https://www.irs.gov/pub/taxpros/fs-2022-40.pdf)

In one taxable year, a taxpayer purchases and installs the following: two exterior doors at a cost of $1,000 each, windows and skylights at a total cost of $2,200, and one central air conditioner at a cost of $5,000. All property installed meets the applicable energy efficiency and other requirements for qualifying for the Energy Efficient Home Improvement Credit.

First, 30% of each $1,000 door’s costs is $300, but the per door limit of $250 applies to reduce the maximum possible credit for each door to $250 each. Thus, the taxpayer’s expenditures for exterior doors potentially qualify the taxpayer to claim up to a $500 tax credit.

Next, 30% of the taxpayer’s total $2,200 of expenditures for windows and skylights is $660, but the $600 limit for all windows and skylights applies to limit the taxpayer’s credit for such expenditures to $600. Thus, the taxpayer’s expenditures for windows and skylights potentially qualify the taxpayer to claim up to $600.

Finally, 30% of the taxpayer’s $5,000 cost paid for the central air conditioner is $1,500, but the $600 per item limit for energy property applies to limit the taxpayer’s credit for such expenditures to $600.

Adding these credit amounts yields a sum of $1,700 ($500 + $600 + $600), but the aggregate limit of $1,200 applies to limit the taxpayer’s total amount of Energy Efficient Home Improvement Credit to $1,200

Tax planning is an integral part of financial planning. If you only think about taxes when it is time to prepare your income tax return for the prior year, then you are being reactive and not proactive. MFAA advisors are knowledgeable about tax strategies and can help you build a plan to reduce your tax burden over your entire lifetime, not just for the current or prior year. Find the advisor that’s right for you by checking out their online profiles here.

Financial Planning

What is MQFP®, and Why Do We Need It?

Post author By Paul Allen, CFP®, MQFP®
Post date July 23, 2023

What is MQFP®, and Why Do We Need It?

Since late 2021, some colleagues and I have been developing a certification for financial professionals who focus on serving military and veteran families. It is called Military Qualified Financial Planner – MQFP®, and it is time we started telling the rest of the world about it.

What is a Financial Professional Certification?

Like any professional certification, it is a label to let other people know that you have met certain professional standards. Certified public accountants use “CPA” after their name to let people know they have met the highest standards in their field of accounting. AFC® and CFP® Professionals use their marks to let others know they have met high standards in financial counseling and planning. The letters MQFP® will likewise be used to let others know the financial professional using those marks has met certain high standards.

What are those MQFP® standards?

To hold the MQFP® marks, a financial professional must meet ALL the following requirements:

Compensation methods must meet the National Association of Personal Financial Advisors (NAPFA) definition of “fee-only”.
Must provide a fiduciary level of client care to all clients and must sign a fiduciary oath.
Must have at least one of the following credentials: AFC®, ChFC®, CFP®, CFA®, CPA, or be licensed to practice law by a state bar association.
Must pass the MQFP® Exam and remain in good standing as an MQFP.
Must have current or prior service in the armed forces of the United States, their Reserve or Guard components, or be the spouse (or prior spouse) of a current or prior service member.
Must focus your effort as a financial professional on serving military and veteran families.

Financial professionals who bear the MQFP® marks will be letting the world know they have met and maintain those standards.

Why the Trademark, and Who Owns It?

Military Qualified Financial Planner MQFP® is a certification trademark registered with the US Patent and Trademark Office. The trademark is owned by The Military Financial Readiness Objective (TMFRO), a 501.c.3 charity registered with the Internal Revenue Service and incorporated in the Commonwealth of Virginia. By law, only TMFRO can make money from the use of the MQFP® marks. By law, TMFRO must use that money to further the financial readiness of military and veteran families.

The team developing the MQFP® marks did not seek a trademark so that we could make money from this project. Nor do we seek to prevent other organizations from working to improve the financial wellness of military and veteran families. We acquired a trademark so that no one can prevent our work in this space. We have secured our rights, and now we intend to exercise them.

Do We Really Need Another Financial Certification?

I hear you. I have my fair share of ‘credential fatigue’. There are so many now that it diminishes their meaning. I am going to tell you why I think we need the MQFP® credential. You may agree with me or not. To explain my reasoning, I am going to tell you a short version of a much longer story.

Turn back the clock to October of 2018. Sean Gillespie and I had just formed our financial planning firm a few months earlier. We were sitting around the office hoping the phone would ring because we really needed some more clients. The phone didn’t ring, but the door opened. That’s unusual because it’s not the kind of business you walk into without an appointment. I walked out to our waiting room to see what was happening. That is where I first met a man I am going to call “Jimmy”.

Jimmy was 75 years old. He had served in Marine Reconnaissance in Vietnam. He was carrying a folder nearly 3 inches thick with paperwork. He had a problem with the IRS. “I don’t know why they keep hassling me,” he said over and over again. He had sent them all this paperwork (gestures to folder) and they just keep hassling me.

Back in my office I discovered the folder contained his medical records, and his medical records contained a diagnosis for dementia. He had, in fact, sent his medical records to the IRS.

Fast forward: we took care of Jimmy, and his wife Jane. They actually got money back from the IRS. We continue to prepare their tax returns every year. I have not seen Jimmy since he had a stroke in 2020. He is partially paralyzed and does not get out of the house much. As his primary caregiver, I don’t think Jane gets out of the house much, either. She comes to the office twice a year to drop off and pick up. Always dressed like it’s Easter Sunday. Simply splendid. You can see why a young marine would have fallen for her 50 years ago. Why did women ever stop wearing hats?

I am telling you this story because the first thing Jimmy ever asked me is one of the most wonderful things I’ve ever heard. In 2018, I came into the waiting room to see Jimmy standing there with his folder and he said, “You guys are veterans, aren’t you? I saw it on your website.”

Think about it.

Jimmy had a financial problem, a tax problem. Jimmy was confused. He felt like he was being attacked, they keep hassling me. He didn’t know how to solve his problem. So, what did he do? He didn’t ask if we had training on tax issues. He didn’t ask if we had experience fixing these sorts of problems. He asked if we were veterans. He wanted to find somebody who would have his back.

And we did. And we do.

There are hundreds of thousands of Jimmys and Janes out there. Military and veteran families with financial problems. They are confused. They do not know how to solve the problem themselves, and they just want to find someone who will have their back. Where are the financial professionals who will have their backs?

I saw more than 100 of them at MilMoneyCon in Nashville last April. They are out there, and their numbers are growing.

How are Jimmy and Jane going to find those financial professionals? The ones who know what it means to serve?

We have built a label – a professional certification. We are going to make it available to a select group of financial professionals serving military and veteran families. We are going to pin it on them and then tell the world what it means:

Fee-only
Fiduciary
Trained as a financial professional
Educated in military and veteran specific financial issues
A member of the military tribe
Continuing to serve that military tribe

We are going to make it easier for military and veteran families to find the right financial professionals for them.

I do not disparage knowledge, or knowledge-only credentials. Knowledge is an essential component of every financial professional’s skillset. As a financial professional, I am constantly seeking more knowledge. Financial plans and recommendations are built from knowledge. But the foundation supporting those plans and recommendations is trust. Without trust the plans and recommendations never get built. I think the time has come for a professional financial certification that military and veteran families can trust. Military Qualified Financial Planner MQFP® has been developed by trusted members of the military tribe, for the military tribe. I believe it is needed.

Thank you for reading and if you want to know more about MQFP®, check out this link: https://mqfp.org/

Is My Military Retired Pay Tax Free if I have a VA Disability Rating? – NO!

Post author By Paul Allen, CFP®, MQFP®
Post date July 21, 2022

Is My Military Retired Pay Tax Free if I have a VA Disability Rating? – NO!

Every year I have a handful of clients ask me if their military retired pay (a.k.a. pension) is tax free because they have a disability rating from the Department of Veterans Affairs (VA). When I ask why they believe their military pension is not subject to taxation they forward me “the email.” It is semi-official looking and seems to be from someone who ought to know what they are talking about. The email cites an IRS publication and sometimes (depending on which version you get) a court case.

It’s all twaddle. Your military retired pay is taxable income.

Like everything involving tax rules there are exceptions to the general rule. That is doubtless where the confusion originates. “The email” makes it seem like many more veterans qualify for the exception than do. The simple test to apply is this – do you have a written determination from the VA or your branch of the service specifying that your disability is combat-related. If that answer is ‘no” then you are paying taxes on your military retired pay. (If the answer is “yes”, you might still have to pay taxes on it, but you have no hope of being tax free without that official determination.)

Until recently I had to provide a long explanation to recipients of “the email,” some of whom ardently believe their retired pay was not taxable because they had a VA disability rating. I would have to explain that the court case did not apply, that IRS publications are not legally authoritative, and that the passages cited are being taken out of context. The explanation got much shorter recently, as one veteran took her case to the US Tax Court. The judge ruled against her, and his explanation sheds some light on the tax status of military retired pay.

You can read the full Tax Court Memo here.

T.C. Memo 2022-42; Tracy R. Valentine v. Commissioner filed April 28, 2022

Valentine is an Army veteran who was honorably discharged in 2002 after 22 years of active duty service. She had a disability rating of 60% that was increased to 90% effective May 1, 2016. For the first 4 months of 2016 she received VA disability payments of $1100 per month. For the remaining 8 months of 2016 she received $1700 per month in VA disability payments. The IRS does not dispute that these payments from the VA are tax free (excluded from income).

Valentine also received $23,801 from her Army-based retirement plan in 2016. She received a form 1099R from DFAS, reporting the entire amount as taxable. When Valentine filed her 2016 tax return she reported the taxable income from her military pension as $3,158, excluding the remaining $20,643 as not taxable income. The IRS disputed her claim that part of her military pension should be excluded from income and issued a Notice of Deficiency (NOD). Valentine exercised her right to challenge the NOD and petitioned the Tax Court for relief.

At Tax Court Valentine testified that IRC Section 104(a) and 104(b) entitle her to use the VA disability rating to exclude both the VA disability payments and a portion of her military pension from taxable income. Valentine represented herself at Tax Court and did not cite specific sub-paragraphs of the IRC to support her claim.

In his ruling Judge Gustafson provided some analysis of the tax code. There are two separate provisions in the tax code that could render a veteran’s military retired pay excludible from income. Under section 104(b)(2)(C) a veteran may exclude a portion of the distributions from income if they qualify as “amounts…received by reason of a combat-related injury”. Valentine did not provide any testimony or evidence at trial to indicate her disability rating was combat-related. Therefore section 104(b)(2)(C) does not apply.

The other provision is contained in section 104(b)(2)(D). A veteran may exclude a portion of the distributions from income equal to an amount they “would be entitled to receive as disability compensation”. There is legislative history supporting the court’s interpretation of this to mean that it does not apply if one is already receiving disability compensation from the VA. As Valentine was already receiving disability compensation from the VA, section 104(b)(2)(D) does not apply.

The Bottom Line

Bottom line: The US Tax Court ruled all the retirement distributions Valentine received are “properly includible in her gross income”. Military retired pay cannot be excluded from income solely because one has a VA disability rating. Valentine was also subject to penalties and interest on the tax owed for not reporting the income on her 2016 tax return.

I have had clients contact DFAS, explain they have a VA disability rating, and request the tax withholding on their military retired pay stop. When DFAS stops the withholding the veterans assume DFAS agrees that the pay is not taxable. That is not true. It simply means that DFAS will stop tax withholding on your military retired pay if you request it. When the 1099R is issued it will state that all the retired pay is taxable. Since the IRS also receives a copy of your 1099R, they will expect you to declare it on your individual income tax return and pay taxes on it. If you don’t, they will issue you a Notice of Deficiency and charge you penalties and interest for failing to report it.

I am a veteran with a VA disability rating. I want my military retired pay to be tax free. I am also a tax professional. If my military retired pay was tax free I’d know about it. If our military retired pay was tax-free I would be writing about it. My colleagues would be writing about it. The VA, VFW, DAV, and the American Legion would all be writing about it. The IRS would have pages of FAQs about it. You wouldn’t find out about it through an old forwarded email that tells a story too good to be true.

If you still have questions, the Military Financial Advisor’s Association has both tax professionals and financial planners with tax planning expertise that can help with your unique situation.

Tags Benefits, Retirement, taxes, VA

Taxes

2021 Tax Updates

Post author By Paul Allen, CFP®, MQFP®
Post date January 4, 2022

Understanding 2021 Tax Updates

(before you file your taxes)

This meme pops up in my social media feed from time to time:

It’s clever and a bit funny, but the sad truth is that it would be pointless to teach the specifics of taxes in school. Unlike parallelogram rules, tax rules change every year. Things we learned in high school that might be helpful during tax season would likely be superseded before we finished our first semester in college. In this age of activism and immediate results, our Congress just can’t help themselves. They must legislate! This year was no different. There are numerous changes to the tax laws for 2021. Some you likely know about, others you might not. Here I will cover the handful likely to impact a significant portion of military and veteran families.

Child Tax Credit

Congress made several changes to this popular tax credit. They expanded it, changed the age range, made some of it payable in advance, and made it fully refundable without restrictions. Here are the details

The maximum credit was expanded from $2,000 to $3,000 ($3,600 for children under 6.) There is an AGI limitation on this expanded amount. The expanded amount begins to phase out above AGI of $150,000 for married couples filing jointly, $112,500 for taxpayers filing as head of household, and $75,000 for all other filers. (The unexpanded (regular amount – $2,000 begins to phase out at $400,000 AGI for married couples filing jointly.)
Qualifying children under the age of 18 are eligible for the credit. (In prior years it was qualifying children under the age of 17.)
Part of the 2021 Child Tax Credit was eligible to be paid as an advance. The default was for the IRS to pay 1/12th of the estimated 2021 credit each month to taxpayers from July to December of 2021. You may have received checks or direct deposits to your bank account. Or you may have elected out of some (or all) of the advanced payments. Either way, you will need to rectify the amount of Child Tax Credit for which you are eligible with the amount of Advanced Child Tax Credit already received to determine how much more Child Tax Credit you will receive at the time you file your 2021 federal tax return. The IRS should send you a letter 6419 telling you how much Advanced Child Tax Credit you have received. Verify this letter against your records to ensure they match. Then keep the letter for tax prep time!
The 2021 Child Tax Credit is fully refundable for all taxpayers. In prior years the refundable portion was limited and subject to earned income restrictions. This year it is fully refundable.

The enhancements to the Child Tax Credit were made as part of emergency / pandemic legislation, and are therefore temporary. These enhancements all expire at the end of 2021. Many lawmakers have expressed an interest in extending these enhancements into 2022, but as of this posting, this has not yet happened.

Child and Dependent Care Credit (Child Care Credit)

In past years this credit has likely drawn more sighs and eye-rolls than any other. The government has long admitted child care (or care for a disabled dependent) was necessary for taxpayers to work. Then they offered a ridiculously small credit in comparison to the actual costs actually of such care. Only $3,000 of expenses from one, or $6,000 for multiple dependents were qualifying expenses. A mere fraction of the real-world costs. Then, anyone who earned enough to actually pay those expenses could only claim 20% of the qualifying expenses as the credit. Essentially you got $600 for one child, $1,200 for 2 or more children. In 2021 this credit got significantly beefier. Eligible expenses grew to $8,000 for one dependent, $16,000 for two or more. The income ranges on the percentages grew even more dramatically for most families, with a new top rate of 50%. If you have 2 or more dependents, your child care credit might have grown from $1,200 to $8,000 in 2021! Additionally, in 2021 this credit is refundable for the first time. These Child and Dependent Care Credit enhancements were a big win for working families. They are also only temporary but may be extended or made permanent by subsequent legislation.

Student Loan Debt Cancellation

Money that is borrowed, but not repaid, is treated as income, and subject to income taxes under our tax laws. There are a few exceptions to that general rule, and starting in 2021 you can add student loan debt to that list. If you have student loan debt forgiven, charged off, or otherwise canceled in 2021, it may be excluded from income on your 2021 tax return. This applies to nearly all legitimate student loan debt, whether it was government-backed or private. This law applies to student loan debts canceled between 2021 and 2025.

Assorted Others

Two rules that were in effect for last year, but are hanging around for this year are worth reviewing. The first is the Recovery Rebate Credit. This is the credit you receive if you did not receive your Economic Impact Payment (“stimulus check”), or did not receive the correct amount of Economic Impact Payment. All taxpayers need to know the amount of Economic Impact Payments received in 2021 (round 3 of the stimulus, issued in late March/early April) because this amount is used to calculate your Recovery Rebate Credit. If you don’t remember, the IRS will send you letter 1444 to remind you, or you can log into the IRS website (after you prove your identity) and check it yourself. Spouses filing jointly will both need to check their tax accounts to get the entire amount the IRS sent. The other is the expanded charitable deduction. In 2020 taxpayers could deduct $300 of charitable contributions (cash only, not donated items) in addition to the standard deduction. This is in effect again for 2021, but with a couple of modifications. First (and best!) is that married couples filing jointly can now deduct up to $600 of charitable contributions in addition to the standard deduction. In 2020 they were limited to just $300 per return. Secondly, the deduction is a deduction this year and not an adjustment. In 2020 the deduction was an adjustment to income, which would reduce adjusted gross income (AGI). (Often called an above-the-line deduction.) In 2021 the expanded charitable deduction comes after AGI is calculated. Since it no longer reduces AGI, this deduction no longer helps make you eligible for other AGI-based tax credits and benefits. In trying to do the right thing for America, Congress often injects a tremendous amount of complexity into the tax code. This year was no different. They heaped tax breaks on us, but they also heaped a mountain of paperwork on the administration of those tax breaks. Military and veteran families enjoy targeted tax benefits, but they should also make sure they are taking advantage of the tax benefits available to all Americans. If you are unsure of your eligibility for a tax benefit, or how to take advantage of it, please consult with a tax professional familiar with military and veteran tax issues.

Tags 2021 Taxes

Financial Planning Goals Investing Savings

I Learned Everything I Needed to Know about Investing in Kindergarten

Post author By Paul Allen, CFP®, MQFP®
Post date June 20, 2021

Investing Lessons from Childhood

I had one of those “Aha!” moments recently. You know – the ones where you figure something out after a really long time. The thing I figured out was that if I had believed the parables and fables I had been taught when I was a child, I might have achieved success earlier as an adult. I was thinking about investing at the time, so in my Aha! moment I was making the connection to investing.

The two children’s stories I was thinking about were The Tortoise and The Hare, and The Little Engine That Could. They are both very simple stories that you probably know. They both also contain very valuable lessons about investing if you are ready to believe them.

In The Tortoise and The Hare, the hare is very fast and challenges the slower tortoise to a race. The tortoise accepts. On race day the hare takes such a commanding lead he decides to take a nap. The diligent tortoise is able to overtake him and win the race.

In The Little Engine That Could, there is a train of toys that needs to get to the girls and boys on the other side of the mountain. There are a freight locomotive and a passenger train locomotive available. Both are large and strong enough for the task, but they are too proud and self-important to carry a meer train of toys over the mountain. Instead, a small switcher train, not built to haul cargo over mountains, steps up and agrees to try. With faith, persistence, and the infamous, “I think I can, I think I can,” cadence, the Little Engine gets that train of toys over the mountain.

Understand the Lesson

The moral of each story is obvious; be persistent, diligent, faithful, and believe in yourself. If you do, you can accomplish great things. I understood these lessons as a child. I understood them, but I did not feel them. I didn’t want to be the tortoise, winning the race with my slow and steady pace. I wanted to be a less foolish hare. I wanted to have tons of natural ability and some common sense, too. I wanted to win the race and then go back and cheer the tortoise on to keep trying as hard as he could!

I didn’t want to be the little engine that could, grinding away to achieve relatively modest goals. I wanted to be a less proud freight locomotive. I wanted to be big and strong, effortlessly moving the heavy loads without breaking a sweat. Working hard was for people who lacked natural ability. They had to try harder. That was OK for them, but it wasn’t who I wanted to be.

Fast forward about two decades. I was on active duty in the military and someone showed me a compound interest table. I was intrigued. I busted out my calculator and ran some numbers. With a very reasonable 8% rate of return and a little discipline every month, I could dollar cost average my way to a million-dollar portfolio before I was 50. Given where I was at the time, that seemed like all the money in the world.

Unfortunately, it also seemed like all the time in the world. I didn’t want to get rich slowly. That was fine for other people, but I was the less foolish hare. I was the less proud locomotive. If I could beat the market returns – and how hard can that be? – then I could get richer faster. Who wouldn’t want that?

My wife was less enthusiastic. She was willing to let me try my hand at investing with some of our money, but not all of it. I didn’t argue. I was confident in a few years she would be persuaded by my talent. It was only a matter of time before she would be begging me to personally manage the entire portfolio.

Picking Stocks Didn’t Work Out

I tried picking my own stocks for a while, but the markets are rigged against the individual investor, everybody knows that. (I fervently believed this for a while.) Then I decided to find the gurus who were beating the markets consistently and do what they were doing. Why reinvent the wheel? Just find the smartest wheelwright and ride on his wagon. They weren’t hard to find, self-proclaimed experts have been littering the internet with their drivel since the internet was born. I followed a few systems that worked right up until they didn’t. When they were working I was a genius, and I told everyone who would listen. When they weren’t I could always find an excuse, which I usually kept to myself.

About ten years into my grand plan I noticed something. That portion of our portfolio that I wasn’t actively managing was growing nicely. That part I was actively managing was lagging badly. That was a bitter pill to swallow, but facts are facts. I was about to go on deployment (back when we didn’t have the internet on deployments), so I dumped the active portion of the portfolio in with the passive portion. That was about 2 decades ago, and I’ve never really looked back.

Bringing it All Back Together

I didn’t make the connection between investing and the children’s stories until recently. There are some additional lessons in there I may have missed. The hare didn’t know he was foolish. The freight locomotive didn’t know he was too proud. We are not always skilled at assessing our strengths and weaknesses. What we want and what we need are not always aligned. Quick riches are a nice dream, but they are not a substitute for a financial plan that involves sensibly investing with patience, diligence, and faith in the plan.

I still have those compound interest tables from 30 years ago. They remain quite accurate today. They didn’t require any updating. That was all on me. I needed updating. Happily, I continue to grow and learn. I no longer want to be the fastest or the biggest or the strongest. I want to be the one with faith and persistence. I want to be the hardest worker. I want to have the discipline required to achieve any goal, be it modest or grand. I feel that now. I feel it and I understand.

Investing Real Estate Savings Taxes

Top 7 FAQs for Military Real Estate Investing

Post author By Paul Allen, CFP®, MQFP®
Post date November 27, 2020

Understanding Real Estate Investing for Military

There are numerous ways to engage in real estate investing. There’s flipping, commercial offices, wholesaling, investing in notes, and the most popular among military families – residential rentals. Becoming a landlord may be the most popular form of real estate investing for military families by default. With steady incomes and incentives to buy houses heaped on service members, many become homeowners. When you own a house and receive military orders to another city your choices are limited. You either sell it, or you turn it into a rental property. Whether by plan or by fate, becoming a landlord is a solution often chosen.

Real estate investing also has a natural appeal to many military folks. Military families are do-it-yourself, ‘bootstrap’ people. There’s an air of self-determination around real estate investing. A sense that you are more in control of your destiny with real estate than you are with traditional investments.

Initiative and hard work seem like they can be turned into profit with a property on Main Street in a way that can not be realized with securities on Wall Street. Financial professionals describe it as inefficiencies in the real estate market that can be profitably exploited. I believe it is true, although more difficult to master than it seems.

The major obstacle to getting started in real estate investing is typically the initial cost. You can get started in TSP for 1% of your paycheck. With an app like Acorns you can open a brokerage account with your spare change.

To get into real estate investing takes capital, often tens of thousands of dollars of capital. It’s a big commitment.

Big financial commitments generate questions. Access to VA loans and other programs lowers the barriers to entry into real estate investing, but most military families have at least one member with enough sense to know you don’t spew cash at an idea like becoming a landlord without looking a little before you leap. I am asked about it frequently.

Following is a list of the seven most common questions I am asked by people who are contemplating investing in residential real estate rentals. Each of them probably merits its own article, but I’ll try to give you some useful short answers here.

Is real estate a good investment?

Let me break this news to you gently; it’s not about the real estate, it’s about you. Money can be made in real estate investing, but the path to it isn’t for everyone. In addition to technical know-how, a successful investor must have the ability to avoid frustration and derailment when people disappoint you. Because in residential rental real estate you have to deal with people, and people disappoint.

Sooner or later you will discover some tenants are vandals, some property managers are lazy idiots, and some contractors are thieves. If you believe the hype I see all over the internet about how easy it is to make money in real estate, you should not invest in real estate.

The successful landlords I know are hustling every day for their profits. The rest are trying to get back to even.

What are the tax benefits of real estate investing?

With respect to being a landlord, OWNING rental properties can have many tax benefits. SELLING rental properties usually has significant (and painful) tax consequences. Landlords are business owners. They own and operate residential real estate for the purposes of collecting rents.

The biggest expenditure in such a business is the cost of the property being let to the tenant(s). As a business owner, you can recover the cost of the buildings on your property by deducting them from your taxes over the lifetime of the building. This cost recovery process is known as ‘depreciation’, and its effects can make a tremendous impact to your bottom line while you own the building. However, if you sell the property you will likely owe the IRS for all the depreciation previously claimed on the building.

In addition to depreciation you can deduct all the ordinary and necessary operating expenses of a business. There are numerous ways to take advantage of this situation, but none of them will turn a bad investment into a good investment.

If you are thinking about getting into real estate investing do so because you want to make money from the investments and then take advantage of the tax benefits to maximize your profits. DO NOT get into real estate investing with the primary motive of reducing your taxes.

Why don’t financial advisors give real estate investing advice?

First – a few of us do. But, I get it. We are so difficult to find as to be indistinguishable from non-existent. Take heart, our numbers are growing! The primary reason there are so few of us is related to how the financial planning field evolved.

Financial planning, so the story goes, was the love child of a few insurance salesmen and stock brokers trying to do the right thing. All the first generation planners came from one of those two fields. You sold insurance and did financial planning or your sold stocks and did financial planning. Nobody sold real estate and did financial planning. The second generation of financial planners were nearly all “investment managers”. They took a piece of the action (a percentage) of all the assets they could gather and manage. Still no real estate.

The third wave is coming. In this wave we take a more holistic approach to financial planning. Some are even calling it ‘life planning’. Some advisors have observed that in life many people invest in real estate, so we are starting to include it in the plans we build with our clients. We are mostly self-taught, though. For example, the inclusion of real assets in a portfolio is not covered in the CFP (R) curriculum. (I am working to get that changed, btw.)

Should I form an LLC for my rental property?

Many people believe you must have your houses in an LLC to qualify for certain tax benefits. This is not true. There are no tax benefits to placing your rental properties in an LLC.

Zero.

None.

Your rental property business is a business whether it is within an LLC or not. Your ability to deduct business expenses is not impacted by forming an LLC.

There may be legal considerations for forming an LLC in terms of limiting your liability. That is a question for a lawyer. I am licensed to give tax advice. I am not licensed to give legal advice.

When is the best time to sell my rental property?

In terms of tax strategy – never. As I wrote above, OWNING rental properties can have significant tax benefits. SELLING rental properties frequently turns those significant benefits into significant burdens.

In many cases the most efficient tax strategy for rental properties is probate. When you die owning depreciated property your heirs inherit it with a cost basis reset to current market value. The tax burden is transferred to the government and is no longer a problem for you or your family.

If you absolutely must get rid of the property, then the second-best time to sell is likely today. The tax burden on the property is most likely going to grow over time, so getting rid of it now is like ripping off the band-aid. Just get it over with.

That said, every case is different. You should have a tax professional knowledgeable in real estate issues evaluate your situation before you act.

How does the ten-year extension for military people work?

Home sellers can exclude a significant amount of capital gain (frequently all the capital gain) from the sale of their primary residence as long as they meet certain guidelines. The short version of how to qualify for that exclusion is called the ‘2-in-5’ rule. You must live in the house for 2 of the 5 years immediately prior to the sale. There are additional rules, but those are the basics. That means you could move out of your house and turn it into a rental property for up to 3 years, then sell it, and still qualify for the exclusion from capital gains. (Because in the 5 years immediately preceding the sale you lived in the house for at least 2 of them.)

Military families receive up to an additional 10 years to this ‘2-in-5’ rule if they were moved more than 50 miles from the residence on military orders. This means military families could live in a house for 2 years, take a PCS move to another state, turn the house into a rental property and sell it up to 13 years later AND still qualify for the capital gains exclusion. It’s a pretty nifty benefit!

A related question I frequently get is ‘how long do we have if the military member retires while living at the other duty station?’. The answer is that once the service member retires the extended period stops. Military families receive UP TO 10 years. When you retire your extension stops and you essentially have 3 years from the retirement date to sell the property before you will have to pay capital gains on the sale.

My depreciation is wrong on my prior tax returns, how do I fix it?

The short answer is to hire a professional to do it for you.

The medium answer is that you can only fix a depreciation issue by amending returns if it was wrong on only one filed return. Once it’s been wrong on two filed tax returns you must submit an application to the IRS to change your method of accounting. This is done on form 3115, and it is a very complicated form. On the last page of the instruction book for form 3115 it estimates that it takes more than 36 hours to learn and prepare form 3115.

Save your time, hire a professional. If you prepared your own tax return and you didn’t get the depreciation right, then it is unlikely you will get form 3115 right.

The outcome of filing the form 3115 depends on how your depreciation was wrong. If you had been under depreciating the property, then you would get an adjustment allowing you to take a one-time additional beneficial depreciation adjustment on your tax return. (You get to claim an additional expense that year.)

If you had been over depreciating the property then you also get to take a depreciation adjustment to your tax return, but you won’t like it as much. The amount of over depreciation gets declared as additional income that year and you must pay tax on it. There are some strategy elements regarding the timing of these adjustments, so you should consult a tax professional knowledgeable in real estate investing before you act.

The Bottom Line

Real estate investing can be financially and emotionally satisfying when done well. At Redeployment Wealth Strategies we have some military families who are profiting nicely with their real estate investments. Unfortunately, we have a larger number of clients who got on that real estate investing highway before they thoroughly researched their situation, and now they’re looking for the off-ramp.

We urge you to carefully consider whether real estate investing is right for you before you make that large capital commitment to participate. Learning the hard way can be very expensive.

As financial advisors, members of the MFAA help people just like you navigate the questions, challenges, and planning opportunities related to investing in real estate. We would love to be of help and have a free consultation.

Find an advisor here!

Financial Planning Investing Savings Taxes

Do Military Families Really Need a Financial Planner?

Post author By Paul Allen, CFP®, MQFP®
Post date October 2, 2020

Do Military Families Really Need a Financial Planner?

I am frequently asked some form of this question, and my short answer is, “Yes, military families need a financial planner.” You may think I believe military families need a financial planner because I am a financial planner. And while I would never turn away a new prospective client, my reasoning might be even sneakier than you think!

Every military family needs someone to do the things a financial planner does. These include, but aren’t limited to:

Develop specific and measurable financial goals consistent with their values
Develop saving, spending, investing, and tax strategies to efficiently meet those goals.
Develop risk mitigation strategies for the unexpected: 1) Insurance against loss of income; 2) Insurance against catastrophic loss; 3) Contingencies to reach plan goals even if the planner isn’t there to see it
Accountability to execute the steps of the plan
Establish efficient asset transfer when the plan has ended
Periodic review and update the plan as life happens

It is not always necessary to outsource those duties to a professional financial planner. The person performing those tasks can be a family member. There is an endless supply of free information about financial planning on the internet. Much of it is good enough to help individuals do a creditable job managing their family’s financial plan. If you do it yourself, the price is right, there are no issues of trust, and (you don’t need to tell me) financial planning can be fun!

Therefore, my sneaky response that every military family needs a financial planner is just me having a bit of word fun.

You need a financial planner. You just don’t need to hire one if you’re willing to do the work yourself. However, even if you’re willing to be your own financial planner, you might still want to hire one. Here are a few reasons why.

You Prefer to Pay for the Service

I know how to change the oil in my truck. I can change the oil in my truck for less than it costs me to pay someone else to do it. When I was a young sailor, I used to get under my vehicles every 5,000 miles and change the oil and the filter. I’m 55 now, and I’m not crawling under that truck ever again. There are hundreds of things I’d rather do.

Likewise, you can be your own financial planner. You can read and study on personal finances to stay abreast of the trends, opportunities, and ever-changing tax laws. You can burn a Saturday or two each year reviewing your overall financial situation and making some tweaks to your plan to keep it on track. Or, you can hire someone else to do it and go and do hundreds of things you’d rather do.

Professional Financial Advisors have Greater Objectivity about Your Money

There used to be a fellow on public radio named Garrison Keillor. He told humorous stories about his hometown where “all the women are strong, all the men are good looking, and all the children are above average.” The joke is that only the people from that town believe in their superiority – and they believe it because their emotional attachment to their town causes them to lose their objectivity.

The same is true for people and their money. Money evokes strong emotions in people. (Not having money evokes even stronger emotions!) I’ve too often seen successful, well-adjusted people make emotionally-fueled decisions when the markets are gyrating like they were when the pandemic first hit. It can be helpful to have a professional advisor take a more objective view of your finances when the ride gets bumpy.

There’s Something to Be Said for Experience

Have you ever been the licensed passenger with a teen and a new permit? That’s some white-knuckle fun! They kinda know what they are doing, but they don’t know what they don’t know. They haven’t seen things like the car beside them changing lanes without signaling, or an emergency vehicle trying to make a left in front of them, or a gaggle of bicyclists blowing through stop signs. You have seen things like this; hence, the white knuckles!

If you are your own financial planner, then you are a bit like that teenager. You may have studied diligently and learned many things, but you don’t know what you don’t know. You may have studied for many hours, but you’ve only ever seen one financial plan – yours! Professional financial planners have seen hundreds of financial plans. They’ve seen rental homes, student loans, SBP, and tax law changes. They’ve dealt with the things you’re dealing with, and that experience can be useful.

Financial Advisors can Provide Continuity

“Jim” was adept at personal finance. After his military career, he worked in management for a Fortune 500 company. He amassed a portfolio of stock and real estate worth more than $2 million. My very first client was his widow. I was volunteering at a free financial clinic. She was literally the first person I ever tried to advise. She came to the financial clinic because she wanted to learn how to handle money. Jim had always taken care of it when they were married, and she had no clue what to do. When I first met her she was inhabiting only the upstairs of her house because the downstairs zone heater was broken and she didn’t know how to get the money to have it repaired. She was working in the lunchroom of the public school to have money to pay for her daughter’s tuition. She had $2 million, but she was living like a pauper because she was scared to death to access the assets for fear she would screw up something.

I envisioned Jim looking down from Heaven with his face in his palm. There was no way this is what he intended. If they had worked with a financial advisor while Jim was still alive, they could have had a plan to deal with him unexpectedly passing. A plan that kept the heat on and the tuition money flowing without his widow slinging hash in the school lunchroom. A plan that provided simple peace of mind.

Military families do need a financial planner, and the first step in that plan is who will orchestrate it. An individual family member can take on the responsibility of making sure all the required elements of the financial plan are accomplished, but a military family may want to hire a professional financial planner. If they do, we hope they first consider a member of the Military Financial Advisors Association. We believe the education, experience, and fiduciary standards we require of our members are exactly what military families deserve.

Contact one of our advisors to learn more with a free consultation