By Taylor Holop, Director of Corporate Operations - New Home Star
Many sales agents practice real estate as an independent contractor; a long-standing custom within the real estate industry. Agents work hard to pass their real estate exam, successfully earn their license to sell property, and are typically eager to immediately start generating sales. Now qualified to earn and receive sales commissions, it's easy for agents to overlook or simply be unaware of the business options and opportunities available for maximizing earning potential, limiting personal liability exposure and protecting themselves and loved ones.
The prudent salesperson views themselves as a business owner and takes steps to mitigate risk while also implementing strategies to maximize commissions, control expenses and optimize taxable income. Whether you are in the early stages of owning your own real estate business or reviewing your existing strategy, consider the following topics as suggested best practices when evaluating your business' unique circumstances.
Form a Business Entity
By default, an independent contractor receiving gross income as 1099 commissions is treated as a sole proprietor business, whether a legal entity has been formed or not. Setting up a legal entity (e.g. Limited Liability Corporation) can provide liability and personal asset protection against debts, losses and court rulings against your business.
How? It's probably not as hard as most people think.
- Choose an available business name in compliance with your state's LLC rules.
- File any formal paperwork (e.g. articles of organization) and pay the state's filing fee.
- Register your business entity with the Secretary of State.
- Prepare an Entity Classification Election form and file with IRS.
- Obtain a federal identification (EIN number) for banking and tax filings.
- Tip: Talk with your local CPA or attorney and consider forming an LLC structured as an S-Corporation (S Corp).
Why? Electing for an S Corp may provide the ability to maximize business deductions, reduce self-employment tax and protect personal assets.
Reduce Your Self-Employment Tax:
- As the business owner, you may take a fair & reasonable wage from the company (i.e. W2 salary).
- Any remaining net income (profit) is a corporate distributive share.
- As a result of the W2 wage expense, net income is decreased.
- Self-Employment tax (e.g. Payroll, SS Medicare) is only applied to owner's W2 wage and not on corporate distributions.
Liability Protection/Mitigate Legal Risk
- A business entity limits legal liability and protects your assets by limiting potential liability to that of the LLC only. Without an LLC, risk could extend beyond the business to personal assets.
- Tip: Open a separate bank account dedicated to business purposes. As a general rule, you should not commingle personal and business funds.
Optimize Your Tax Deductions and Write-offs
Managing your own business offers sales agents flexibility and options when it comes to reducing your total tax burden.
- Take business deductions to reduce your total tax burden. Common business deductions include the following: travel, business meals, business mileage on personal car, licenses, phone, continuing professional education, insurance premiums, MLS and other professional fees. A complete list of deductible business expenses can be found on the IRS's website here.
- Take personal itemized deductions on your personal tax return.
- Maintain an accurate recordkeeping system and keep scrupulous records.
- Tip: Keep a file with all of your receipts and consider using a mobile app to assist in your organization. Many New Home Star agents enjoy using the MileIQ mobile app to automatically track their mileage and claim their full deduction or reimbursement with ease.
Secure Errors and Omissions Professional Liability Insurance
Real estate transactions can be complex, and society is becoming increasingly litigious. These factors have prompted the need for sales agents to obtain errors and omissions in order to protect themselves and their business from the threat of professional liability.
Liability pitfalls for the real estate professional exist in the form of misrepresentation, breach of confidentiality, inadvertently offering bad advice, and legal and comparative market research report errors. When choosing the right policy, be sure to consider and inquire about the policy limits, deductibles, actual coverage and endorsements. There are often additional benefits of E&O insurance to ask about when deciding on a policy. These include:
- Standard endorsements or policy riders that cover Fair Housing Act, lockbox, and pollution/mold.
- Legal defense costs outside of policy limits and Subpoena Assistance Coverage.
- Coverage for agent-owned property and open house (commonly referred to as contingent liability).
- Sellers Protection Plan (SPP): Your seller could receive E&O coverage for claims that are typically not covered by a homeowners or other insurance policy, and offer peace of mind in the form of seller protection for 180 days past escrow or MLS Listing protection both before and after the sale.
- Discrimination Coverage: Ask your provider if they cover both actual damages and your legal defense costs. If so, inquire as to whether they are up to policy limits.
- First Dollar Defense: An E&O policy steps in to begin paying for your defense costs immediately and prior to a deductible needing to be paid. In this case, your deductible is not due until damages are awarded.
Obtain Health Insurance and Consider Individual Retirement Plans.
Insurance Benefits. There are many robust and benefit-rich health insurance plan offerings available on state health marketplace exchanges and in the private market that are Affordable Care Act (ACA) compliant. A local health insurance broker can assist with narrowing down the options that will best fit your family's protection needs while minimizing the exposure to health insurance costs. They are there to help and the service is typically free. Important upcoming Health Insurance Marketplace dates for 2016 enrollment are found below:
- December 15, 2015: Last day to enroll or change plans for new coverage to start January 1, 2016.
- January 1, 2016: 2016 coverage starts for those who enroll or change plans by December 15, 2015.
- January 15, 2016: Last day to enroll in or change plans for new coverage to start February 1, 2016.
- Tip: Stay up to date with important news and updates regarding the Affordable Care Act by visiting the ACA's official site at HealthCare.gov.
Individual Retirement Plans. Another one of the many advantages of being an independent contractor is the ability to control your own retirement plan. Your plan contributions will most likely be tax-deductible now and provide future financial security. Connect with your CPA or financial advisor to talk over retirement vehicle options such as a simplified employee pension (SEP or SEP-IRA) or a Solo 401(k).
Taylor Holop is New Home Star's Director of Corporate Operations and oversees the company's corporate support office in Chicago. Holop holds a Juris Doctor and Business Administration degree and successfully completed New Home Star's Leadership Development Program. He resides in Elmhurst, IL and enjoys hunting and spending time with his wife and newborn daughter.
Note: All data and information provided by this article is for general informational purposes only, provided on an as-is basis. The information on this site should not be used as a substitute for competent legal or financial advice from a licensed professional attorney or financial expert in your state.
