Many people who are just getting involved in real estate investing are spending large amounts of money on real estate education classes. The question is not are these classes worthwhile, but whether or not these expenditures are deductible.
Several factors must be considered before this question can be answered.
- Are the expenses “ordinary and necessary” under Internal Revenue Code Section 162?
- Is the business a “functioning” entity?
- Does the training qualify you for a new trade or business?
- IRS also has additional restrictions for deducting work related education.
Ordinary & Necessary
To be considered ordinary, an expense must be usual or customary in a particular trade or business. An expense is necessary if it is appropriate and helpful for the development of the business.
A business is not considered a functioning entity until it is performing the activities for which it was organized.
New Trade or Business
If the training qualifies you for a new trade or business, i.e., real estate investor, instead of maintaining or improving skills required in an ongoing business, then it is a non-deductible personal expense.
Additional IRS Restrictions
To quote the IRS, “In order to deduct work related education expenses, they must meet at least one of the following tests:
- The education is required by your employer or the law to keep your present salary, status, or job. The required education must serve a bona fide business purpose of your employer.
- The education maintains or improves skills needed in your present work.
However, even if the education meets one or both of the above tests, it is not qualifying work-related education if it:
- Is needed to meet the minimum educational requirements of your present trade or business, or
- Is part of a program of study that will qualify you for a new trade or business”
A 2009 tax court case (Woody v. Commissioner, TC Memo 2009-93), is a good illustration of these requirements. Despite taking courses, getting an EIN, obtaining a loan, getting credit cards in the business name, and actively marketing his business, the court determined that Mr. Woody was not “actively engaged” in the real estate investment business until he acquired and rented his first property. The more than $21,000 that he spent for classes was ruled a non-deductible personal expense. This case illustrates the importance of having a functioning business before incurring education expenditures, otherwise they may not be deductible.
This is only a brief overview. Everyone’s situation is different. As with most tax related issues, the deductibility of educational expenses is determined on a case by case basis.
Please consult a qualified tax professional before you set up your real estate business. If you feel that we can be of service to you, please contact our office to set up an appointment.
Email us at: [email protected] or Call us at: 302-239-3500.
- Doherty & Associates Team