Best way to handle taxes on Flip house

Tax, SDIRAs & Cost Segregation
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Best way to handle taxes on Flip house

Jerry Gandolph
Real Estate Investor · NY · Member since 2011 · 5 posts · 0 votes

Hello,

Im closing on a property today that I intend to flip for a profit. I bought the house via forclosure for $115k, will put about $20k into it and will list it for $225k. Im curious what is the best way to approach the capital gains tax and how does it work? What percentage is capital gains in NY?

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Steven Hamilton IIPro Member
Accountant, Enrolled Agent · Grayslake, IL · Member since 2011 · 5k+ posts · 2k+ votes
13y

Jerry Gandolph,

That property will not be treated as capital gains. It will be taxed as ordinary income at your rate and may even increase your tax bracket.

It will be taxed at the state level from anywhere from 4.00% to 8.82%. It will be taxed at the federal rates just as your wages from employment are. You will also be subject to any Social Security and Medicare on those earnings.

I highly recommend you browse some of the threads on this.

Peter Lee,

You cannot 1031 a property that you are flipping as it is inventory in the business and not considered an investment.
Also, To answer your question, you could end up with a tax bill depending upon how long you reside in the property as your basis will be carried over from the 1031 minus depreciation etc, you will also have depreciation recapture.

-Steven

[email protected]224-381-2660
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  • Peter Lee
    Real Estate Investor · Member since 2011 · 56 posts · 9 votes
    13y

    I'll throw it out there and say you can 1031 Exchange on it aka
    tax deferred exchange. You can roll over the profits and then proceeding with an acquisition of another property within a specific time frame. Both selling and buying of the properties must meet certain qualifications.

    What happens if you roll it over into an investment property, but a few years down the road, you decide to live there as your primary resident.

    0Reply
  • Steven Hamilton IIPro Member
    Accountant, Enrolled Agent · Grayslake, IL · Member since 2011 · 5k+ posts · 2k+ votes
    13y

    Jerry Gandolph,

    That property will not be treated as capital gains. It will be taxed as ordinary income at your rate and may even increase your tax bracket.

    It will be taxed at the state level from anywhere from 4.00% to 8.82%. It will be taxed at the federal rates just as your wages from employment are. You will also be subject to any Social Security and Medicare on those earnings.

    I highly recommend you browse some of the threads on this.

    Peter Lee,

    You cannot 1031 a property that you are flipping as it is inventory in the business and not considered an investment.
    Also, To answer your question, you could end up with a tax bill depending upon how long you reside in the property as your basis will be carried over from the 1031 minus depreciation etc, you will also have depreciation recapture.

    -Steven

    [email protected]224-381-2660
    5Reply
  • Jerry Gandolph
    OP
    Real Estate Investor · NY · Member since 2011 · 5 posts · 0 votes
    13y

    Thanks for the info fellas I appreciate it.

    Going forward what is the best way to do this and not pay so much taxes? Get an LLC?

    What phrases should I search to find out more info on this? Sorry guys Im new to this...

    0Reply
  • Brian Gibbons
    Investor · Sherman Oaks, CA · Member since 2008 · 6k+ posts · 3k+ votes
    13y

    The only tax advice I can honestly offer is
    1. If you buy and hold for less than 365 days, you pay alot of tax on the profit.
    2. If you buy and hold for more than 365 days, you pay alot LESS of tax on the profit.

    See a CPA that owns rental property themselves. Ask for a referral from your REIA.

    Brian

    0Reply
  • J ScottPro Member
    Moderator
    Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
    13y
    Originally posted by Brian Gibbons:
    The only tax advice I can honestly offer is
    1. If you buy and hold for less than 365 days, you pay alot of tax on the profit.
    2. If you buy and hold for more than 365 days, you pay alot LESS of tax on the profit.

    That's only part of it...

    If you purchase a property with the intent to flip and hold it for more than 365 days (never using it as a rental), it's still subject to taxes as ordinary business income, not capital gains (i.e., you pay the same as if you sold it in less than a year).

    While the 365 days is a minimum for capital gains, IRS cares more about intent than time frames, so a 2 year flip is still a flip and still subject to ordinary income tax.

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    3Reply
  • Steven Hamilton IIPro Member
    Accountant, Enrolled Agent · Grayslake, IL · Member since 2011 · 5k+ posts · 2k+ votes
    13y

    Brian Gibbons,

    Please do not give out incorrect information. Jerry Gandolph said he is flipping the property, that is an active business motive. That means it is taxed at ordinary rates as business income and subject to Social Security and Medicare. We also do not know his tax bracket so we cannot determine what entity is best for him. For many of my clients the best bet is the S or C-Corporation. This allows the entity to incur the expenses and the income. Jerry could then receive a small reasonable salary for the work he actually does. He could contribute to a Solo 401k or an SEPIRA. The rest of the income he could take as dividends from a C-corp or as a distribution from an S-Corp. He may also consider in the future partnering with his IRA.

    If it had been a rental then yes he could 1031 or have it subject to capital gain rates; however, it is not.
    Capital gain rates do NOT apply to flipping properties.

    -Steven

    [email protected]224-381-2660
    2Reply
  • Robert AdamsBusiness Member
    Real Estate Broker · Henderson, NV · Member since 2009 · 1k+ posts · 373 votes
    13y

    This is a discussion you should have with your local CPA or estate planner. Discuss this with someone that knows the ins and outs of your financial plan.

    [email protected]702-349-9175
    The Adams Team at Rothwell Gornt Companies4.970 Reviews
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    0Reply
  • David Krulac
    Mechanicsburg, PA · Member since 2013 · 3k+ posts · 2k+ votes
    13y

    The high tax rates is one negative to doing flips. In the highest tax bracket, now 39.6%, and add on the 3.8% health care tax, and add on the state income tax, as high as 13% in CA and add on the social security tax, you could be paying what 68% of your profit in taxes on a flip at the high end. WOW!

    Buy and Hold would qualify for 15% long term capital gains except for the 1 perceters who would be at 20%, that's half or less of a tax rate, and is a big difference.

    A hybred technique would be to buy and hold long enough for long term capital gains. Rent the property and after the first tenant leaves then sell the property, after at least a year and sharply reduce your tax load. And some times that first tenant ends up staying a a long time or a very long time. I've had first tenants stay 13 years, then the property needs fixxing up anyway to re-rent, but instead I'll fix up and sell. One tenant 13 years, not a day of vacancy, and lower tax rates, there's only one thing better than that....

    Buy, hold never sell, get the stepped up basis, and don't pay any taxes, or even add the itermediate step fo a Section 1031.

    1Reply
  • Bill Walston
    Real Estate Investor · Northeast TN, TN · Member since 2008 · 516 posts · 361 votes
    13y
    Originally posted by David Krulac:
    The high tax rates is one negative to doing flips. In the highest tax bracket, now 39.6%, and add on the 3.8% health care tax, and add on the state income tax, as high as 13% in CA and add on the social security tax, you could be paying what 68% of your profit in taxes on a flip at the high end. WOW!
    .......

    Nice analysis David. One observation however... the 3.8% surtax on net investment income doesn't apply to "flips."

    0Reply
  • Scott E.
    Contractor · Scottsdale, AZ · Member since 2010 · 2k+ posts · 3k+ votes
    12y
    Originally posted by @David Krulac:
    The high tax rates is one negative to doing flips. In the highest tax bracket, now 39.6%, and add on the 3.8% health care tax, and add on the state income tax, as high as 13% in CA and add on the social security tax, you could be paying what 68% of your profit in taxes on a flip at the high end. WOW!

    Buy and Hold would qualify for 15% long term capital gains except for the 1 perceters who would be at 20%, that's half or less of a tax rate, and is a big difference.

    A hybred technique would be to buy and hold long enough for long term capital gains. Rent the property and after the first tenant leaves then sell the property, after at least a year and sharply reduce your tax load. And some times that first tenant ends up staying a a long time or a very long time. I've had first tenants stay 13 years, then the property needs fixxing up anyway to re-rent, but instead I'll fix up and sell. One tenant 13 years, not a day of vacancy, and lower tax rates, there's only one thing better than that....

    Buy, hold never sell, get the stepped up basis, and don't pay any taxes, or even add the itermediate step fo a Section 1031.


    I know this is an old thread but I just stumbled across this post, and it was very demotivating! 68% of your profits go away in a flip? How could anybody justify the amount of work it takes to find, aquire, renovate, and market a property for such small gains? There has to be a way to lessen this burden.

    I just created an entity with my partner and our intentions were to keep 60% of the net profits within the LLC for future deals, and split the remaining 40% to our personal returns.

    Please let me know if i'm understanding this - That remaining 40% that comes to our own 1040's are not eligible for any deductions and are subject to 39.6% taxes + state, ssi, and medicare?

    Ouch.

    0Reply
  • Wayne Brooks
    Real Estate Professional · West Palm Beach, FL · Member since 2012 · 23k+ posts · 13k+ votes
    12y

    ALL profits go to your personal tax return, whether you "take" them or not. "Keeping the profits on the LLC" is not possible. See a CPA.

    0Reply
  • Scott E.
    Contractor · Scottsdale, AZ · Member since 2010 · 2k+ posts · 3k+ votes
    12y

    @Wayne Brooks -

    Thank you for your response. I really do need to spend some time with a CPA on this one. My list of questions is now endless.

    0Reply
  • Steven Hamilton IIPro Member
    Accountant, Enrolled Agent · Grayslake, IL · Member since 2011 · 5k+ posts · 2k+ votes
    12y
    Originally posted by @Scott E.:
    @Wayne Brooks -
    Thank you for your response. I really do need to spend some time with a CPA on this one. My list of questions is now endless.

    Don't hesitate to ask any questions here. There are several tax experts such as myself here.

    [email protected]224-381-2660
    0Reply
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