Don't do what former President Donald Trump did in his federal tax returns. That's if you want to avoid an IRS audit, several financial advisors told Investor's Business Daily amid the release of the Trump tax returns by the House Ways and Means Committee.
The Trump tax returns are generating debate about whether the former president's returns received the scrutiny required by the IRS under law.
But just as important to millions of ordinary taxpayers, the Trump tax returns spotlight crucial dos and don'ts for taxpayers not named Trump. "The Trump tax returns bring to mind tax-preparation strategy questions for the rest of American taxpayers," said Tom Wheelwright, CEO of WealthAbility.
Trump Tax Returns: Lessons For You
Financial advisors who spoke with IBD homed in on a small number of points in the Trump returns. Mainly, they have to do with such steps as claiming deductions — especially business losses — and making loans to his children.
The committee also looked at tax returns for several partnerships and S Corporations related to Trump and to a Trump revocable grantor trust. The Committee received a report on the returns and related documents from its Joint Committee on Taxation.
This report focuses exclusively on takeaway advice for taxpayers, not on politics or validity of the Trump returns themselves.
Highlights Of Trump Tax Returns
Here are some highlights of the Trump tax returns. Four of them concern the years Trump occupied the White House:
- 2017: Trump and his wife Melania reported adjusted gross income (AGI) of negative $12.9 million. They paid $750 in net income tax.
- 2018: The Trumps reported AGI of $24.3 million. They paid a net tax of $999,466.
- 2019: The Trumps reported AGI of $4.4 million. They paid $133,445 in net income taxes.
- 2020: The Trumps reported an AGI of negative $4.8 million. They paid no net income tax.
The Committee also released Trump tax returns for years prior to his election:
- 2015: AGI of negative $31.8 million, net income tax paid of nearly $641,931.
- 2016: AGI of negative $32.4 million, net income tax of $750.
Self-Employment Tax
So, what are some steps that advisors say taxpayers in general should beware of in preparing their own tax returns?
Minimize self-employment tax. "He's paying a lot of self-employment tax," said Wheelwright, who was a contributor to Robert Kiyosaki's "Rich Dad Success Stories" book. "He's paying hundreds of thousands of dollars there. With proper planning, he could have avoided that."
- Advice: "Generally, it is easy to avoid self-employment tax by using an S Corporation instead of a partnership," Wheelwright said. "It looks like a mistake to file Schedule Cs, which cause self-employment tax. Instead, he should incorporate as an S Corp and pay himself a small salary. Schedule Cs also have a high audit risk. The IRS likes to audit them. If you have an S Corp, you have a full set of financial statements with an income statement and a balance sheet. A Schedule C only has an income statement, just showing income and deductions, no assets and liabilities. So the IRS wonders if there's something else going on. An S Corp shows the IRS everything it wants to see."
Don't Try To Deduct Hobby Expenses
Don't claim hobby expenses. Additionally, don't try to claim expenses for a hobby on your tax return as if they are for a business, says Ray Prospero, partner-advisor at AdvicePeriod. Hobby expenses are not business expenses.
- Advice: The House Ways and Means summary seems to indicate that the IRS paid particular attention to Trump's Schedule C expenses, Prospero says. "Schedule C is reserved for business income or losses from sole proprietorships," he said. "Based on the report, Trump hardly listed any income and regularly listed expenses only on his Schedule C forms. Furthermore, the report suggested that some of the expenses listed could be derived from President Trump's 'personal activities and hobbies,' rather than legitimate businesses activities. As a general rule of thumb, when including Schedule C information on a tax return, one should make sure that there is a valid sole proprietorship business, and any expenses listed should clearly be distinguishable as such and separate from any personal activities or hobbies."
Make Loans Legit
Document loans to your children. That's if you want to claim loan interest paid to you as deductions on a tax return. Otherwise, their proper treatment might be as gifts that could trigger tax for you.
Trump loaned money to his children Donald, Eric and Ivanka. The loans from 2015 through 2020 totaled $97,000. In its report, the Joint Committee on Taxation questioned whether these related-party loans, as they're called, were actually gifts that should be taxable to Trump. They would be taxable if they were gifts and if Trump gifts totaled more than the combined lifetime estate- and gift-tax exemption. For 2022 the exemption rose to $12.06 million. Before that, it had been at least $5 million since 2010.
To be treated as loans rather than as gifts, loans must charge the recipients at least as much interest as specified in IRS tables. The rates have been low. That's a reflection of the low rates that prevailed until the recent rise in rates. Properly used, bona fide gifts shift wealth from a parent to a child with minimal or no tax.
- Advice: Take all of the steps you would take in making a regular business loan to a stranger, says IRA expert Ed Slott, who hosts a retirement savings show on the Public Broadcasting System (PBS). Put everything in writing. Include an amortization schedule that details payment amounts and dates for principal and interest. Download one and include it in your contract with your children. "Charge interest rates that reflect real, prevailing rates or use the IRS tables," Slott said. "And put into the contract language that says you will foreclose if you are not paid back on time. You can say something like, 'If you don't repay on time, it will come out of your inheritance.' Have an attorney prepare at least the foreclosure provisions. If you don't want to do those things, just accept the fact that you are making a gift and don't try to deduct it."
How To Use A Conservation Easement
Time your conservation easements. For Trump, questions have risen about whether he used overstated value of a conservation easement to offset taxable income.
- Advice: Taxpayers should of course use only proper appraisals in making conservation easements. But the broad easements issue does raise a tax-preparation strategy point that can apply to taxpayers in general in preparing tax returns, advisors say. Make conservation easements in years when your taxable income is high, says Matt Masterson, a partner, wealth advisor and director of financial planning at CI RegentAtlantic Private Wealth. That way, the charitable deduction for making the easement — by which you agree to forgo developing the property — offsets as much income as possible, he says. Further, you can control which year that occurs. Make the easement in a year when you also do a Roth IRA conversion, for example, which creates taxable income. "You would coordinate with a Roth conversion by having both the easement and the conversion occur in the same tax year," Masterson said. "You would have a large charitable deduction from the easement to offset income from the Roth conversion."
Privacy issues: Should the individual returns of any taxpayer be made public as former president Trump's have? "We've always assumed returns were between you and the IRS," said CPA Slott. "Why are these different? Why make these public now? They're (the House Ways and Means Committee) opening a door that makes people uneasy. Regardless of your politics, there's something wrong about it, at least to me."
Why here and now? "Congress is given oversight of the IRS, and that oversight relates to people, including the president," said Garrett Watson, a senior policy analyst at the Tax Foundation. "They do have the statutory power to make returns public. The reason they're doing it here is because of their role in overseeing the audit programs of the IRS. The question is whether the IRS was lax in its audit of the president's returns. If it was, is that fair to other taxpayers?"
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