All Forum Posts by: Zachary Bohn

@Desmond Fitch When you originall sell the property you will have essentially 3 different categories that make up the sale. 

1. Return of Capital
2. Unrecaptured 1250 Gain, and
3. Long term capital gain

As you collect the principal payments the amounts will be split into those three categories based on your gross profit percentage. The amounts not treated as return of capital will be treated as unrecaputred 1250 gain (taxed at ordinary rates with max of 25%) until all depreciation has been recaptured. So if you sell a property for $100k (all with a sellet financed note) and your  basis was $60k (80k purchase - 20k depreciaiton) you would have a 40% profit percentage. Let's say the term is 10 years (assuming even principal payments each year for simplicity) your income would look like

Year 1-5 = $6,000 Return of Capital (60% of 10k), $ 4,000 would be unrecaptured 1250 gain ($10k-6k return of capital)

Year 6-10 = $6,000 Return of Capital (60% of 10k), $4,000 would be long term capital gain. 

You will only be taxed on the unrecaputed 1250 gain (ordinary rates capped at 25%) and long term capital gain (top rate of 23.8% if certain criteria exist). Interest will be taxed at ordinary rates no matter what. So if you were to pay a higher price but less interest this could be beneficial to the seller but may make it harder to refinance.

@Charlie Moore I don't know anyone local to you, but will tell you that with flips you will owe SE tax on the profits as well as regular income tax so be prepared for that. 

@Jefferey Chheuy if you will be doing equal work and putting in equal cash then setting up an LLC is pretty simple. There is no difference tax wise setting up a multi member LLC, you just have an additional return to file for the partnership.

@Ryan Webster I’m a CPA in Dayton, OH

@Jefferey Chheuy this depends on the plan of how the LLC will operate. Will one of you be doing more of the work? Will a property manager handle everything? Are you paying cash for the house?

In general if you are getting a loan on the property and want it in the LLC you may run into issues with the due on sale clause. Not always but it is a possibility. If the two of you will be doing an equal amount of work and contributing an equal amount of cash, setting up an LLC with both of you as members is relatively simple and probably not necessary for an attorney to be involved. 

@Ryan Webster generally it isn't advised to hold appreciating assets in a corporation, including an S-Corp. The rules for distributions from an S-Corp can cause problems down the road when holding appreciating property. This could impact the reasonable compensation too since you will possibly have higher income in the S-Corp. 

Holding the property in single-member LLC outside of the S-corp would be a better situation.

@Joseph Hammel in general you can'd deuct a major deduction it will need to be depreciated. Was the property a rental before the remodel? If it wasn't inservice prior to 2019 then you can't take the depreciation until 2019. 

@Mike H. The other thing is that since you can buy multiple properties as replacement property, you can always have a partial 1031 and only pay the tax on the cash you end up receiving. You just have to have the mindset that you will still only buy properties that meet your criteria or pay the taxes

@Daniel Dietz Interest is considered portfolio income and wouldn't offset the losses. Generally a passive investment would be things like owning part of a business you aren't participating in, which you get a K-1 from. Don't forget that anything over the $25k in a year will get carried forward to the following years up until you sell. 

@Mike H. unfortunately no that isn't how it works. When passive losses are freed up they just become an ordinary deduction, you can't choose where it offsets directly. But that means you'll get an ordinary deduction instead of lowering income that could be taxed at beneficial rates. The rate for unrecaptured 1250 gain is a max of 25%, but depending on other income can still be taxed at lower rates.