Is a live-in 2-year flip really a thing?

Rehabbing & House Flipping
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Is a live-in 2-year flip really a thing?

Lam N.
Rental Property Investor · Troy · Member since 2017 · 175 posts · 271 votes

To understand where I'm coming from, read this other thread I started.

https://www.biggerpockets.com/forums/67/topics/445...

I did a google search for live-in 2-year flip, and the only things that show up are articles talking about buying a place, pay contractors to fix it up, put it on the market ASAP, and pray you at least break even.  There's really almost no one talking about live-in 2 year flip, which now that I've been thinking a lot more about makes more sense to me for those of us who don't have millions of dollars to invest in real estates.

Our strategy is this.  We would both have our full time jobs.  During the 2 years that we live in a house, we would slowly but surely fix it up with our own labor.  So, the only things that will cost us are material costs.  When 2 years are up, we put the updated house on the market.  Why 2 years?  To avoid capital gains tax.  I'm already paying 30% in taxes from my day job.  Any capital gains I get before the 2 years limit would surely also be 30%.

To me, this makes perfect sense.  We're not really risking anything.  There's no carrying cost involved.  Why?  Because we live there!  There's no risk of a flop.  Why?  Because if we can't get it for a profit, we can just stay there.  We would both still have our full time jobs to fall back to.  And 2 years is plenty of time to do almost everything ourselves.

What is wrong with this strategy?  How come pretty much no one on the internet is talking about this type of strategy?  How come everyone is busy talking about the way property brothers do it?

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Dave FosterBusiness Member
Qualified Intermediary for 1031 Exchanges · St. Petersburg, FL · Member since 2013 · 9k+ posts · 9k+ votes
9y

@Lam N., the reason you're not finding much info on it is because you're mixing contemporary slang.  A "flip" is commonly know as a property  you purchase to fix and immediately sell (flip).  It is viewed as a quick process.

What you're talking about is application of the primary residence exclusion of sec 121 IRS code.  You can read about it in publication 523 from the IRS.  Since you must have lived in the property for 2 out of the 5 years immediately prior to sale it is not seen as a quick "flip" kind of thing.  But its been around for a long long time.  First it was a one time exemption but with a huge adjustment in 1987 you can now use the 121 exemption every two years.  Yes it's tax free up to $500K of profit if you're married.  and yes it's the greatest thing going if  you don't mind moving once in a while.

@Joel Cummings, This is superior to the 1031 because it's tax free instead of tax deferred.  Also, you cannot do 1031s on your primary residence so this is the tax mitigation strategy for your primary.  1031s are the tax mitigation strategy for investment property.  You cannot use the primary residence exclusion for a piece of investment property.

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  • Joel Cummings
    Rental Property Investor · Spokane Valley WA · Member since 2009 · 59 posts · 21 votes
    9y
    There's nothing wrong with it. It's perfectly fine, it's just a little slow. And there can be pretty big shifts in the market either way after two years. It's a great way to add to your portfolio, just not a great primary strategy in my opinion. Things to think about: What is your end goal or how does this help you build wealth? Are your profits reinvested in the next owner occupied property or an investment property or both? How is this strategy superior to a 1031 other than there are no complicated rules to follow?
    2Reply
  • Luke Turner
    Lansing, MI · Member since 2016 · 31 posts · 3 votes
    9y
    This is pretty much exactly what I'm doing, but while I'm fixing it up, I'll be renting out the 3 other rooms to cover mortgage, insurance, and taxes. I'm not sure if I'll be there 2 years or 10, but I think it's a great strategy to start. You get to work at your own pace and learn as you go. And you can get special financing when you occupy. Win win to me. Good luck!
    1Reply
  • Brandon McLean
    Investor · Knightdale, NC · Member since 2014 · 122 posts · 74 votes
    9y
    I recommend it to people all the time. For me, with a wife and kids it's not totally "practical," but if I knew what I know now I would have been doing that every 2 years before I started a family. I do know some people with families that do this though. And you don't have to live there for 2 years consecutively. You have to use it "as your primary residence for at least 2 of the last 5 years." It's different than a 1031 exchange because it's something you can do with a USDA or FHA loan. 1031 is usually investor products and cash and stuff, but could be homeowner products too.
    1Reply
  • Dave FosterBusiness Member
    Qualified Intermediary for 1031 Exchanges · St. Petersburg, FL · Member since 2013 · 9k+ posts · 9k+ votes
    9y

    @Lam N., the reason you're not finding much info on it is because you're mixing contemporary slang.  A "flip" is commonly know as a property  you purchase to fix and immediately sell (flip).  It is viewed as a quick process.

    What you're talking about is application of the primary residence exclusion of sec 121 IRS code.  You can read about it in publication 523 from the IRS.  Since you must have lived in the property for 2 out of the 5 years immediately prior to sale it is not seen as a quick "flip" kind of thing.  But its been around for a long long time.  First it was a one time exemption but with a huge adjustment in 1987 you can now use the 121 exemption every two years.  Yes it's tax free up to $500K of profit if you're married.  and yes it's the greatest thing going if  you don't mind moving once in a while.

    @Joel Cummings, This is superior to the 1031 because it's tax free instead of tax deferred.  Also, you cannot do 1031s on your primary residence so this is the tax mitigation strategy for your primary.  1031s are the tax mitigation strategy for investment property.  You cannot use the primary residence exclusion for a piece of investment property.

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  • Jack B.
    Rental Property Investor · Seattle, WA · Member since 2014 · 1k+ posts · 1k+ votes
    9y

    I started this way by accident. Bought a house paid in cash to be more secure. Moved after 2.5 years and rented it out. Started doing the same thing at each house I lived at. Now I'm selling each of those houses and buying two new houses with the proceeds from each via 1031 exchange, which requires that I rent it out initially.

    1Reply
  • Taylor Brugna
    CPA · New York, NY · Member since 2016 · 203 posts · 132 votes
    9y
    Jack B. Are you sure you don't qualify for the sec 121 exclusion? I saw 2.5 years and just thought to double check..how long have you rented the property out for?
    0Reply
  • Joel Cummings
    Rental Property Investor · Spokane Valley WA · Member since 2009 · 59 posts · 21 votes
    9y

    @Dave Foster You misunderstood my point. I was not asking what the difference is between a tax deferred 1031 and the primary residence exemption or suggesting you can do a 1031 on your primary residence. I'm perfectly aware, though I'm sure someone appreciated your explanation. My point is, is there an inherent advantage in executing the OP's strategy, which requires you to live in the property for 2 years and then sell, versus buying and holding an investment property for two years and then selling through a 1031? Yes, the 1031 is tax deferred instead of tax exempt, but the result is still the same; you are able to apply the full gain to the next purchase. In my opinion, the 1031 is the superior vehicle because there is no required timetable from original purchase to sale, and you don't have to live in the property. There is that gray line of intent to purchase and resell for the 1031, so there would need to be some evidence of intent to hold from the original purchase. Maybe as an intermediary you could shed some light on that? As far as I understand, you cannot use a 1031 for a property you intend to buy and then resell immediately. 

    The only thing I could think of that would make the "live in flip" more desirable as a strategy is the fact that owner occupied financing is easier to obtain, which for some could be a great benefit. 

    0Reply
  • Cody L.
    Rental Property Investor · San Diego, CA · Member since 2013 · 3k+ posts · 4k+ votes
    9y
    The only thing wrong with it is scale. How many houses can you live in at a time (to consider lack of holding costs to be true). 1 flip every two years to pay capital gains vs income tax sounds bad. I'd rather buy, fix, lease, refi (fat all your money back or more. Not counted as "income") and move to the next. I have the attention span of a gnat. I want to be doing 20 deals in 2 years. Or buying 100s of units. The thought of doing 1 flip every 2 year sounds terrible Sorry to be so negative. But don't go that rout just to pay capital gains vs income tax
    0Reply
  • Dave FosterBusiness Member
    Qualified Intermediary for 1031 Exchanges · St. Petersburg, FL · Member since 2013 · 9k+ posts · 9k+ votes
    9y

    @Joel Cummings, Good thoughts - you're absolutely right about the financing.  And I did get what you meant.  Tax free is still always better than tax deferred.  It leaves you with all the options and freedom and none of the dependance and uncertainty of hoping the tax code stays the same.  And there is also the element that you will either be paying rent or paying yourself.  so if you're truly looking at it as a business model you need to factor in the cost savings or "rent you're paying to yourself" - usually while fixing up an otherwise unrentable house (it's amazing what we'll put up with when we're remodeling our own places isn't it).

    If you ever watch real poker players not the tv actor types they never keep all their chips on the table.  At times chips go into their pocket.  So they're pulling out as they go.  That's what the 121 tax free opportunity is - to periodically get money off the table tax free - risk gone.

    Both parts of the code are not mutually exclusive.  Exactly to @Cody L.s point - Personally I think that 121 and 1031 and a flip here and there are the perfect combination.  If you use them in tandem you are always generating tax free income satisfying your adrenaline need and deferring tax on the remainder.  It's exactly like getting some tax free cash flow and building the equity tax deferred.

    Of course the end game is always to not pay tax at all and 121 is a great way to skip ahead to that part of the game every two years.  In addition it is possible to convert 1031 properties into your primary residence as well so that after the appropriate holding/living periods somewhere between 40% and 90% of the gain becomes tax free on those as well.

    You're correct there is no statutory holding period and only the standard of intent.  If your intent when you purchase a property is primarily to resell (flip) then a 1031 is not applicable.  You'll pay ordinary income, probably self employment, and ACA surcharge tax - could be 40%.

    If your intent is to hold it for productive use then you can 1031 and the tax is deferred into the next property.

    If your intent is to live in it and you satisfy the residency requirements of 2 years residence out of the 5 year period prior to sale then you get the 250/500K tax free option.

    Each one has their uses.  

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  • John Weidner
    Chicago, IL · Member since 2014 · 710 posts · 200 votes
    9y

    probably don't hear about your strategy because serious investors treat this as a business and have separate residences

    What you are selling in this strategy is a used house with some Remodeling.  You are not able to market the property as a fresh rehab as it's not.  You've lived in it and cooked, showered etc. in the property  There is no newness that people seek right now.   But if it's your only option I think it's better than doing nothing 

    1Reply
  • Craig Jackson
    Investor · Franklinton, LA · Member since 2017 · 43 posts · 35 votes
    9y

    Look up house hacking, I think this fits what you are speaking about. My wife and I did the same thing. We secured a 203k loan made some initial improvements to meet the required guidelines. We made additional improvements over a 3 year period, using a mixture of skilled labor and sweat equity, and netted appx. $80k. We purchased as a foreclosure during the down market and sold appx 2 years ago.

    1Reply
  • Sean Walton
    Wholetailer & Architect · San Francisco, CA · Member since 2015 · 544 posts · 298 votes
    9y
    Check out podcast 129 with Mindy Jensen this is one of her strategies. It is a great way to build equity and avoid taxes but slow as others have mentioned. An architect developer in San Diego named Jonathan Segal did something similar in addition to his main development business. Started with a modest property fixed it up and included a home office. Every few years sold and took on a bigger project. Eventually ended up with a multi-million dollar house in La Jolla. Good answer to Brandon Turner's Rich Dad question how can I afford this?
    1Reply
  • Mindy JensenPro Member
    BiggerPockets Money Podcast Host · Longmont, CO · Member since 2014 · 7k+ posts · 10k+ votes
    9y

    @Lam N. , this is exactly how I invest in real estate. To other's points, no it's not really scalable. You can only sell one house every 2 years. But I also have zero interest in running 20 flips at a time, and I have the most horrible luck with contractors. 

    My husband and I do almost everything ourselves - including plumbing, electric and finish work. There are things I don't do. I like granite counters and don't install them myself. I like a roof on the top of the house and rain gutters but don't do that myself, either. And I won't ever touch drywall again.

    But this is a completely viable option.

    I made my money in Geneva, Hoffman Estates, Carol Stream, Oak Park, Chicago and Madison, WI before heading west.

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    4Reply
  • Victor SoBusiness Member
    Real Estate Agent · Chicago, IL · Member since 2017 · 324 posts · 192 votes
    9y
    Mindy Jensen I was actually trying to look for more information regarding this method. I just bought a condo for me and my fiancée. We are getting married at the end of the year so this will be our first home. My dad is a GC and will help us fix up the property over time and in 2 years we will decide whether or not we want to rent it out or sell.
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  • Mindy JensenPro Member
    BiggerPockets Money Podcast Host · Longmont, CO · Member since 2014 · 7k+ posts · 10k+ votes
    9y

    @Victor So , my first property was a condo. They can be great rentals - I know several people who do well with them. I have not had good luck and don't invest in them anymore. I was hit with a special assessment for every one of the 5 years I owned two separate condos. 

    Is the property FHA-approved? That speaks volumes to the viability of the complex. How did you finance the purchase, or did you pay cash? Is the building warrantable? An unwarrantable condo will severely limit your buyers pool.

    Does the complex allow for rentals? If they do, is there a waiting list? Many condos that allow rentals are all rented out, and there is a list. Get on the list as soon as possible.

    If you have the opportunity, get yourself on the board. 

    I'm not trying to dissuade you from the condo, but instead trying to make sure you know everything about it. 

    I didn't do any of this when I bought either of my condos, by the way...

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    1Reply
  • Ibn Abney
    Rental Property Investor · Chicago, IL · Member since 2016 · 318 posts · 307 votes
    9y

    @Lam N. Great mindset and same strategy, along with buying investments units. The live in flip allows me to buy properties at 5% down, in areas I probably couldn't afford at 25% down (multi-units).

    Eventually refinance (BRRR) at the new market value... instead of selling it. I may sell one day, but not now.

    Check out a local Chicago group name "Nomads". That is all they focus on, I found them on meet-up.com

    Good Luck!

    0Reply
  • Victor SoBusiness Member
    Real Estate Agent · Chicago, IL · Member since 2017 · 324 posts · 192 votes
    9y

    @Mindy Jensen Thanks for the advice! 

    So, I bought it with a conventional loan and it is FHA approved. When we bought it, there were special assessment fees associated with it which the seller agreed to pay for (phew..). I'm hoping there aren't many more of those in the years to follow. The complex does allow for rentals after 2 years and there is no wait list. This was a huge relief for us since the other condos we were looking at did have pretty long wait lists.

    The only thing is.. the HOA fees are pretty high, which is standard in the Edgewater area of Chicago along the lake where we bought the condo in. Hopefully, if we do rent it out, the rent will cover the PITI plus HOA fees and more. It's right next to Loyola University so there shouldn't be much difficulty in getting the United rented.

    And I will definitely try to get on the board! 

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  • Lam N.
    OP
    Rental Property Investor · Troy · Member since 2017 · 175 posts · 271 votes
    9y
    Originally posted by @John Weidner:

    probably don't hear about your strategy because serious investors treat this as a business and have separate residences

    What you are selling in this strategy is a used house with some Remodeling.  You are not able to market the property as a fresh rehab as it's not.  You've lived in it and cooked, showered etc. in the property  There is no newness that people seek right now.   But if it's your only option I think it's better than doing nothing 

     Most people I talk to don't trust flippers. Flippers have a reputation of cutting corners and doing things like sweep under the rug. Do a Google search to find all kinds of problems inspectors find with flipped properties. 

    On the other hand, 2 year live in means we did everything for ourselves. There's no cutting corners. 

    Added by edit.

    To add to what I was saying, last time we bought the house I linked to in my OP, we looked at a few flipped houses.  We found plenty of hidden problems with those houses.  This was why we decided to buy an old, rusty house and fixed it up ourselves.

    No one I have talked to really trust flipped properties.  Here is an article about this.

    http://www.startribune.com/buying-a-flipped-house-here-are-the-problems-you-ll-find/139799593/

    0Reply
  • John Weidner
    Chicago, IL · Member since 2014 · 710 posts · 200 votes
    9y

    @Lam N.

    And an amateur whose never rehabbed a house is more credible than someone running a business.  Keep moving Pal.  

    0Reply
  • Natalie Schanne
    Real Estate Agent · Princeton, NJ · Member since 2016 · 1k+ posts · 1k+ votes
    9y
    Lam N. - I like your idea and think it's so smart. I'm trying to do something similar with my husband right now - a two year fix and sell. (Though I may get stuck, he hates the idea of moving all the time.) Consider that it depends how good you are at construction too. Are you extremely detail oriented? My elderly friend's 20 years of 'homeowner special' renovations have left a slew of code violations like no P trap under the sink because it didn't fit with the existing drain and the bathroom vanity the wife picked. The floor is new material but not level. Doing it yourself can get really frustrating because it was your mistake that botched that mosaic tile. Will you have the desire to tell yourself or your spouse to suck it up, tear it out and do it over? How much of a perfectionist are you? Do you think YouTube will help you get perfect drip free painting roller work done? Also, is your personal taste equal to what the market is demanding? (Grey/Beige paints, certain color cabinets, tile, counters?) Before I was married, I bought a 'too big' 5 br 3 ba foreclosure house, rented spare bedrooms ($2000+/mo) and paid a GC to do the initial big rehab (30k). When roommate tenants turned over, I learned new skills like painting to save myself the $600/room I was quoted by professionals. In the process, I learned I was not well suited for laying carpet or replacing heavy appliances. I felt so satisfied when I fixed both my front load washer and my dryer with $20 of parts instead of a $200+ service call each time just by youtubing error codes. Also consider what your opportunity cost is. Are you likely to make more money by doing more of your specialty profession? My friend is a union elevator mechanic making $100+/hour. He refuses sessions of overtime at $150-200/hr so he can fix his own fence. . . .
    0Reply
  • Lam N.
    OP
    Rental Property Investor · Troy · Member since 2017 · 175 posts · 271 votes
    9y
    Originally posted by @John Weidner:

    @Lam N.

    And an amateur whose never rehabbed a house is more credible than someone running a business.  Keep moving Pal.  

     Oh, don't get me wrong.  I'm sure you make plenty of money.  And I'm sure you're a pro.  I'm also sure you will surely go to house flipper's heaven.

    I'm just sharing my experience of talking with people as well as our personal experiences of looking at flipped houses.  We saw 3 flipped houses and all 3 we found hidden problems with them.  When I talked to other people about their experiences with flipped houses, I've found that people generally don't trust flipped properties. 

    But again, god bless you for being the king flipper of Chicago.  I'm just saying I'm not going to give up my dream job that pays 6 figures to become a full time house flipper.  But my spouse and I do like to work on houses.  So, the best we can do is the 2-year live-in flip.

    Added by edit.

    And that article I linked to was spot-on regarding kitchen cabinet doors.  All 3 flipped houses we went to see had cabinets doors that made no sense.  They opened into each other.  It was very obvious to us the whole thing was done in a hurry for a quick sale. 

    Now, had those houses been actually lived in, those cabinets would have been designed to make sense.  We know this because when we gutted and redesigned our kitchen in the house that I talked about in my other thread (see link in OP), we spent a great deal of time planning out the cabinets for them to make sense. 

    Edit again.

    I forgot to mention.  Before I became a bridge engineer, I was an inspector.  I know what to look for.

    1Reply
  • Jack B.
    Rental Property Investor · Seattle, WA · Member since 2014 · 1k+ posts · 1k+ votes
    9y
    Originally posted by @Taylor Brugna:

    Jack B. Are you sure you don't qualify for the sec 121 exclusion? I saw 2.5 years and just thought to double check..how long have you rented the property out for?

     Yes, I held for 6 years, only 2.5 as primary. I had to 1031. Actually all of my houses are like this now. Plus most of my properties are so expensive now that as a single guy I would end up having more than 250K gains to pay capital gains on.

    1Reply
  • Jeff Burdick
    Investor · Chicago, IL · Member since 2016 · 515 posts · 247 votes
    9y
    Originally posted by @Victor So:

    @Mindy Jensen Thanks for the advice! 

    So, I bought it with a conventional loan and it is FHA approved. When we bought it, there were special assessment fees associated with it which the seller agreed to pay for (phew..). I'm hoping there aren't many more of those in the years to follow. The complex does allow for rentals after 2 years and there is no wait list. This was a huge relief for us since the other condos we were looking at did have pretty long wait lists.

    The only thing is.. the HOA fees are pretty high, which is standard in the Edgewater area of Chicago along the lake where we bought the condo in. Hopefully, if we do rent it out, the rent will cover the PITI plus HOA fees and more. It's right next to Loyola University so there shouldn't be much difficulty in getting the United rented.

    And I will definitely try to get on the board! 

     I live in Edgewater not far from you.  Small world.  

    0Reply
  • Chris Mercer
    Rental Property Investor · Denver, CO · Member since 2015 · 13 posts · 1 vote
    8y

    Hey folks!  A little late to this conversation, but it is tax time and I completed a 2 year live-in flip last year.  Back when I bought the property (2015), I mapped out my 2 year exit and it all went off without a hitch.  Nice little bit of profit, too  =)

    One thing I did not do, however, was properly claim my expenses entering the property:  agent commissions, closing costs, etc. in 2015.  The majority of my rehab took place in 2016, with a mix of my own and contractor work.  I also made another rookie mistake there and did not claim those expenses during my 2016 taxable period.

    Here I am looking at 2017 and recording everything and realized my misses in 2015 & 2016.  Is it possible to amend the taxes for those years?  Is it possible to roll them up into 2017?  I have a CPA do my taxes.  She is way smarter than I am and likely has these answers, but I wanted to ping the BP community, too.

    Thanks in advance!

    Chris

    0Reply
  • Jack B.
    Rental Property Investor · Seattle, WA · Member since 2014 · 1k+ posts · 1k+ votes
    8y
    Originally posted by @Taylor Brugna:

    Jack B. Are you sure you don't qualify for the sec 121 exclusion? I saw 2.5 years and just thought to double check..how long have you rented the property out for?

     I had rented it out for more than 3 years, I think it was 3.5 years.

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