If you're in the 28% marginal tax bracket, you'll likely pay 28% in taxes, plus potentially another 15.3% in FICA (self-employment) taxes...
Could you expand possibly on the potential 15.3 FICA taxes that I might have to pay? Does it make a difference whether or not this is not my primary source of income?
You are essentially an employee of the business you're operating. As such, you owe self-employment taxes on your income (social security, medicare), no different than if you were being paid via W2 from an employer. In addition, since you're technically the employer, you also owe the employer side of those taxes (what an employer would be paying if you worked a W2 job).
If you run the income through an S-Corp, you may be able to exempt yourself from part of those FICA taxes, but I'd recommend consulting a good tax professional and let him evaluate your specific situation. Likewise, when you start doing more volume, there may be some benefits of a C-Corp as well. But again, talk to a tax professional.
You are essentially an employee of the business you're operating. As such, you owe self-employment taxes on your income (social security, medicare), no different than if you were being paid via W2 from an employer. In addition, since you're technically the employer, you also owe the employer side of those taxes (what an employer would be paying if you worked a W2 job).
If you run the income through an S-Corp, you may be able to exempt yourself from part of those FICA taxes, but I'd recommend consulting a good tax professional and let him evaluate your specific situation. Likewise, when you start doing more volume, there may be some benefits of a C-Corp as well. But again, talk to a tax professional.
Hypothetical way of looking at this... If I made $30,000 pre-tax net income and I paid myself out of that profit 10% ($3,000)... would I only pay SET on the $3,000? Would the IRS see the remaining $27,000 as net-working capital needed to run my business?
No. There isn't an exemption, however, if you hold a regular jobs and only flip one or two homes you can make a case that you're an investor versus a dealer. If the IRS considers you a dealer, and there aren't any hard rules on it, you will also be subject to the additional SET 15.3%.
An investor is considered someone that buys for the intention of holding the property. The investor selling less than 1 year claims the profits at ordinary income depending on their tax bracket up to 35%. Plus the addition of 3.8 investor income surtax.
If a dealer, you pay ordinary income up to 35% plus 15.3% SET and no investor income surtax.
IRS can hit a flipper with SET even if only doing 1 flip per year.
To minimize as much tax as possible, keep really good records and speak with a CPA to make sure you are using the right business structure.
@Christopher Phillips. I am sure you are an awesome real estate agent, but you may want to reconsider giving out tax advice.
@Jered Collins - J Scott's got this one correct. First and foremost, speak with a tax professional and Self Employment Tax does apply to your scenario.
However, being in the 28% tax bracket you may already have met your Social Security maximum through your employer. If that's the case, then you will not have to pay the 12.4% portion of the Self Employment tax that is attributed to Social Security and you may only be paying 2.9% of Self Employment tax, which is the medicare portion.
Additionally, there is no Working Capital deduction or exemption. You're taxed on the full amount of profits regardless of whether you withdraw them from the company.
The dealer vs investor argument is non-existent. This is a bit of urban legendry that came out from somewhere and I kinda wish it would go back to the swamp from whence it came.
The IRS looks at and, in the event of an audit, will try to prove out INTENT of the deal. If you went into a deal, talked about a deal, acted throughout the lifespan of the deal as though it were a flip, then it's a flip and it's subject to self employment tax.
If you went in with the intention of holding the property to rent it out, then it is taxed as capital gains rates when you sell.
Sounds like you got your hands on a great deal. Good luck with it!
That said, if you set up a C-Corp, you can avoid personal income tax on whatever you don't pay yourself, but you'll pay corporate tax. And then personal income tax if you ever want to take that money out.