Taxes of flippin' a property
Rental Property Investor · Nolanville, TX · Member since 2008 · 130 posts · 88 votes
I'm more interested in holding out and renting out a property than I am flipping one, but if I did find one for a good enough deal and managed to get rid of it fairly quickly, what are the taxes like?
I suppose there's 2 situations here. If I'm living in the house and live there a year and a half and then sell it, am I going to get hit hard with taxes? Or is that only on any profit I make from it?
Same goes for an investment property... Do yall tend to get hit hard with taxes?
I'm not sure where this idea of "getting hit hard" with taxes comes from.
US tax rates are lower than they've ever been (too low looking at our record deficits) and the LOWEST of any "developed" nation.
Anyway, to your question. On anything that you "hold" less than one year it'll be SHORT TERM capital gains, which is just your "ordinary" (marginal) rate.
Hold it longer than one year and it's LONG TERM capital gains (15%) of your NET GAIN.
If it's you PRIMARY RESIDENCE (2 of the last 5 years) there is NO TAX on the first $250K ($500K-married filing jointly) of gain.
Any tax is always on any GAIN (net profit). And there's lots of ways to bring that gain down to a reasonable level.
The key is to try to get as much of your income as possible at lOW RATES. Most of ours is now LT capital gains, 15%.
all cash
So is this a federal tax rule, or is it state-to-state variation?
This is the federal rule. Most states have you take the AGI or Taxable Income line off the 1040 and put it on the state form. I guess I need to start learning the CO rules, we'll be living in Loveland starting in 2 weeks.
Oh, okay. Well I don't plan on investing in Colorado. Well not much I should say. I own there now because I'm stationed there. When I move I do plan on renting it out.
The intent that TWatson mentions is important. You have to be careful that you are not considered a "Dealer" by the IRS. If have Dealer staus acording tothe IRS even if you hold a property longer than one year you still pay ordinary income on it and all your gains are subject to self empoyment taxes (ie: Social security @15%~~). They can even include rentals into that equation. You also are not allowed to use 1031 tax defered exchanges.
Dealer status is a very bad thing. IRS considers intent. If you buy the property with the intent of selling it quickly at profit it will be considered dealer property. This is a complex issue and you should get advise of a competent CPA that understand real estate.
Dealer status asside any rehabs or "flips" will not get favorable capital gains treatment. Profits will also be subject to SS tax. You can use an S corp to help with the SS tax issue. Again see your CPA.
Ned Carey
Well breezy, being an absentee landlord brings on a whole different set of problems. You must have gotten a heck of a deal in the Springs if you've got one that'll cash flow!
all cash
What are the tax implications if you start an LLC and put the house in that and rehab it through the LLC? That is our plan.
The costs of renovating the property are added to the tax basis of the property for calculating the gains when the property is sold. This is true whether the property is held in an entity like an LLC or not.
You do not actually claim "expenses" of rehabbing, it affects the profits when you sell. That can be an important distinction. If it will take you two years to rehab and sell a house, you can't deduct what you spent on the renovation this year, even though you spent the money this year. Those costs go to reduce your taxable profit when you finally do sell 2 years down the road.
Good luck and good investing,
What about the people who are wholesalers and all they do is flip property and dont want any long term rentals?
Allcash, you say "I'm not sure where this idea of "getting hit hard" with taxes comes from." If you wholesale 1 house per week and make $400,000 per year wholesaling and are having to pay 40% income tax and 15% dealer tax and have to pay more than $200,000 tax, then that would be considered getting hit hard. So what am I not understanding?
I heard recently that it would be best for wholesalers to use a corporation. Is that the best legal entity? If so, how much does that save on taxes? Is there still a dealer issue?
Is there any other way to not be considered a dealer if most of what you are doing is wholesaling?
If you're flipping houses, whether you mean fix and flips or wholesaling, and you do one a week, you're going to be a "dealer". Realistically, you are a dealer just like a car dealer or a shoe store owner. The properties aren't investments, they're inventory.
If you have a job that makes $400K a year and you pay 40% in income tax and 15% in SET (there is no "dealer tax"), then, no I don't really consider that getting hit hard. That's the same tax any other small business owner would pay. Or that an employee would pay, though the employeer would pay half of the SET. Like any other small business owner, you pay tax only on the NET income, not the gross. But, if you're netting $400K a year, pay your taxes.
Not that long ago you would have paid a much higher rate on the income. Won't be too surprised if you and the rest of us don't pay a higher rate in the future.
A C-corp may be taxed at a lower rate than your personal tax rate. If you do this business in a C-corp, you will only pay SET on the part of the income that's paid to you as salary. Any dividends, though, will be taxed both at the corporate level and the personal level. You will have to run through the numbers with your CPA to optimize the distributions.
A C-corp does have a lot of tax deductions that other entities and you can't take. So, some things, like medical insurance premiums and medical expenses can be paid by the corporation and taken as a deduction. Those, and other, expenses are therefore paid with pre-tax dollars.
I'll second what other say and tell you to get a CPA. If you're making $400K a year and don't have a good CPA, you're almost certainly paying too much tax.
jeff88 wrote;
At the risk of sounding like a wisea** I have to say that what you are not understanding is US taxes.
We don't have a 40% bracket, although you're not the only one that thinks so! Top bracket is 35% and our brackets are MARGINAL. If you make $400K, and again you're taxed on NET TAXABLE INCOME, so you'd be doing pretty darn well at that rate, here's what you pay:
About $101K on the first $350K or so if single, married filing jointly is about $96K, and then you pay 35% on the MARGINAL INCOME above $350K, so (doing the numbers in my head) another $17.5K. So $118.5K on $400K is about 29% AVERAGE.
The 15.3% is NOT a "tax on dealers", it's both sides (employee and employer) of Social Security and Medicare EVERYONE who is self-employed, like me for most of my working life, pays this. IIRC it's on about the first $75K now, not on the full $400K.
Self-employed folks in the US (actually anyone) gets to write off all LEGITIMATE EXPENSES of of GENERATING THAT INCOME. That means, among the obvious things like labor and material on fixing, and marketing, commisions and legals on sales, that you can write off;
Mileage driven when generating that income. The mileage allowance is lower than the cost of OPERATING a vehicle, so real "business people" don't automatically get a Benz or Beemer to drive around looking at property.
Meals and entertainment-you only get to write off 1/2 on these but you shouldn't be eating at "Chez Expensive" when working on flips anyway.
I'm sure that "some" people might accidently buy something for their residence and have the receipt fall into the folder for one of their flips. I would never do this, nor would YOU, but it's probably happened.
BTW, check out the tax rates in most modern countries. I lived in Germany for awhile in the '70s. In addition to the tax and social security rates, both of which were higher than the US, I was paying about $1.75/gallon for gas, and their "national sales tax" (value added tax-the standard in the EU) was about 11%. I think the VAT is about 15 or 16 now.
So the reason I say "you're not getting hit hard" is because I do know what I'm talking about on taxes.
all cash
So the reason I say "you're not getting hit hard" is because I do know what I'm talking about on taxes.
all cash
You know I always think it is funny when someone complains about the taxes when they make a great deal in real estate. If that same person got a raise and doubled his income at work he wouldn't even think about the taxes - he would just be excited that he was makeing more money.
That's the way it's set up, isn't it? The average working stiff never has his hands on the money he's earned. Kind of like boiling the water with the frog already in it. The lack of attention the "guy with the job" is paying to his finances is not something to admire or to which anyone should aspire.
Federal Income Tax
State Income Tax
Property Tax
School Tax
Trash Tax
Earned Income Tax
Payroll Tax
Sales Tax
Transfer Tax
Federal Gas Tax
State Gas Tax
Having to sit down and write a check for any/all of them SHOULD be an eye opener and get you steamed. That's why they're set up in a way most people don't have to.
Federal Income Tax
State Income Tax
Property Tax
School Tax
Trash Tax
Earned Income Tax
Payroll Tax
Sales Tax
Transfer Tax
Federal Gas Tax
State Gas Tax
You forgot capital gains tax. :cry:
Actually there are a LOT of taxes not mentioned. People think they are in the 25 or 36% tax bracket when in reality they pay much more in taxes. AND everything you buy is more expensive because of the tax burden of the product producer. The compound effect of taxes is a phenomenal drain on the economy.
Actually there are a LOT of taxes not mentioned.
I've been pretty active in the stock market for the past couple years. You can be SURE I didn't forget Capital Gains Tax :D I was mainly going for listing the ones that were "hidden" (taken from pay / included in other payments) to make the point.
It really is unbelievable if you think about it. I guess that's why most people are more than happy not to.
My CPA died in the middle of a 2 year acquistion and rehab. The accountant I went back to didn't really agree on some of the 2006 expenses the former CPA were going to address in 2007. Things like closing costs, utlity expenses, mortgage interest probably needed to be taken in the year they were spent so there was major kinks to be worked out in 2007. Maybe in the "all" category.
The rehab wasn't put into service until 2007 but I don't think there is wide agreement on how these expenses go to basis, etc. This was a 1031 exchange and you have a 180 day period in which to finish repairs up during the exchange period. I was equalizing my sold property with my acquired property plus improvements for FMV. All those periods have to be carefully accounted for. Get a good CPA and they will earn their money I assure you.
How about assigning contracts? Are they still considered flipping? I would imagine so but I thought I would just clarify.
Assignment fees would be ordinary income. Subject to both ordinary income tax rates, state taxes and self employment tax.