Flipping and Capital Gains tax?

[hakrjak]

So far the extent of my flips have been properties that I've already owned and rented for years, so my capital gains have been long term (15%).

On my next deal, I'm looking at a short term flip where my profit is projected at $25k, so I think I'm correct in assuming that this money will be taxed at my normal income tax rate, which might be between 20-30%.

I'm debating if it's smart to sit on the property for a year as a rental before turning it over, or just going for the quick flip -- paying a little more in tax, but keeping my money moving through the economy and growing.

Anybody want to chime in?

- Hakrjak

 

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[andviv]

Well, if your strategy is to hold and pray it is fine (how sure you are you will make money after a year?).

There are two lessons learned the only way it really sticks... the hard way.

I bought a property, the intention was to flip it quickly... then I realized the amount of taxes I'd have to pay so I decided to keep it long term to get the lower tax bracket... then, by the time I got to the lower tax bracket I had nothing to pay taxes on, as the market had turned. I was so focused on minimizing my tax bill that I forgot about the bottom line. That's what I call penny wise dollar fool... and yep, I made that mistake. I wish I didn't have to pay $90K to learn that lesson, but hey, it is always present in my mind these days.

So, the two lessons were:
1. Paying taxes probably mean that you made money, and making money is good (or paying taxes AND losing money means that you are a candidate to appear in Diane's blog, where you can find true horror stories with bad tax planning and strategies).
2. The bottom line is what really matters.

I guess lesson three would be that you should stick to your original plan and strategy unless something major comes up. You original idea is to do a quick flip so the property meets certain criteria... why are you changing it? Also, and here Diane's input is critical, this flip could put you in the AMT so your long term capital gain would not work, if you don't do it right.

 

[tbsells]

You're right about the taxes. I guess it depends on your overall plan. I'm thinking its cold in Colorado now and I wouldn't want an empty house for to long. If I could sell it for a good profit quick, I'd probably do it. If not, I'd rent it. I had four houses on the market in September. I took them all off the market and rented them. I like my chances better next year and I'm not paying PITI + utilities X 4 out of my pocket.

 

[biophase]

I agree with Andviv. I learned the hard way too and so did many people here in Phoenix. I could have flipped for $120k in gains and pay $50k in taxes or... hold for a year and pay $24k in taxes. I thought, that's 26k I'm throwing away. A year later, I threw away more than $26k. :eusa_clap:

Take the money and run.

Another story if you're not convinced... a friend of mine could have flipped for +$100k in a month but wanted to wait a year due to taxes. 2 years later, he can flip for -$50k. Now he's really saving money on taxes.

 

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[tbsells]

I agree with Andviv. I learned the hard way too and so did many people here in Phoenix. I could have flipped for $120k in gains and pay $50k in taxes or... hold for a year and pay $24k in taxes. I thought, that's 26k I'm throwing away. A year later, I threw away more than $26k. :eusa_clap:

Take the money and run.

Another story if you're not convinced... a friend of mine could have flipped for +$100k in a month but wanted to wait a year due to taxes. 2 years later, he can flip for -$50k. Now he's really saving money on taxes.

WOW! Thats shocking! I completely understand why you would say take the money and run. Its alot different in Ohio. The real estate market is kind of bad, but not like that. There is alot of inventory and things are taking longer to sell. Prices are retreating a little bit. I think statistically sales are down about 11% and prices down about 2% compared with last year. Its not great compared to how it was, but you can't expect a record year every year. The 11% drop in sales is alot more noticeable than the 2% drop in prices from my point of view. Sales levels are comparable to 2000 and 2001 which were pretty good at the time. Its just that we all got spoiled the past couple years. Ohio never had the real rapid appreciation like other places did, so hopefully the landing will be softer. I answered the question based on my experience that I don't like vacant houses in the winter. I did not consider a rapid drop in value over the next 6-12 months. I don't think it is likely here, but who knows? I guess the real question Hakrjak needs to answer is what is likely to happen to the value of his asset in the next 6-12 months. If I thought my houses might drop dramatically in value obviously I would try to sell them before it happened.

 

[slim_jim]

A 1031 might be an option also.

 

[ChrisS417]

I agree with slimjim...

But do you have to own the property for at least a year do a 1031 exchange?

If not it would seem like now would be a great opportunity to reposition yourself for a longer term hold.

Correct me if I'm wrong, but on a 1031 they give you 3 months to designate 3 properties correct?

If so, that would seem like plenty of time to break it down to three candidates.



I'm pretty new to REI, as in never done any of my own, but it just seems like now is the best time to dig in.

 

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[Diane Kennedy]

I'm just jumping in on 1031 rules.

There is no clear-cut time that you need to own the property that you 1031 out of. The definition is that it needs to be an investment property for another investment property. My CPA firm generally takes the position that the definition of investment property (in other parts of the Code) is holding a property for one year. But, things happen and plans change, even if the intent was to have an investment property. So, if the property you exchange out of is held for less than one year, we take the position that as long as the property you exchange INTO is held for one year or more, you have a valid 1031 exchange.

You have 45 days to identify the properties that you will exchange into. You must complete the exchange within 180 days.

 

[jimculler]

Can you set up an S Corp and flip your homes all year long under it? We had a CPA who was letting us do our flips under the S corp and get a K1 at the end of the year with either income or loss to reported as ordinary income on my 1040.