My Wife And I Need The Best Help This Board Can Offer!
I just found these forums and after browsing less than a minute, I realize I will be spending alot of time here in the future. I can tell by the knowledge of the posters that this is a great place!
Now my questions... My wife and I badly need some tax help. We are new investors with a few deals under our belts this year. We are now looking at the tax man and don't know where to turn. We are not incorporated based on advice from an attorney when we first started. He said we would be paying double tax by doing that an overcomplicating everything so we went with that advice. All deals mentioned are in mine and my wife's name, Me and "etux" her.
OK, where to begin. Over the course of this year, we have purchased 10 unimproved residential lots in my home town for varying amounts from various out of town owners. We have subsequently sold these lots on the internet and other places. My first question deals with my biggest problem. I don't want to get too wordy, but want to fill in all pertinent details. Here's a rundown of that problem.
We started by buying a single 1/2 acre lot for app. $2400 cash from an out of town owner. We then contacted the owner of the unimproved lot next to that one and purchased it as well for $3750 cash. Then we bought the unimproved lot next to THAT one for $2700 cash. So we have a total of $8850 in these three lots,(counting our deed fees, etc..). OK so far so good. Now, I contacted the landowner who has a nice home on the OTHER side of these lots and we then offered to sell him all three lots we had just purchased for one price. We haggled a bit and finally agreed on $15,300 total. Based on my calculations, this gives us a capital gain of $6450. We closed on this deal on 7/15 of this year and got full cash payment on that date. During this period of time before the property closed and we we wating on the money, I was looking at both a 9.5 acre and an adjoining 7.0 acre parcel that are less than 1/2 a mile away from these lots I sold. They adjoined each other and were owned by the same man. This is also raw unimproved land. We made an offer to this out of town owner and he and his wife accepted our offer of $15,000 for the 16.5 acres. On 7/17, we closed on that property. That was two days from when we got the money from our sale of three lots for $15,300.
Now, based on what I have told you about this deal and from what I have read on this forum, this appears to be a good candidate for a 1031 exchange. Are we too late already? I took the whole amount of my sale and reinvested it in "like property" within two days of our sale. Since this seems to meet the criteria and I have obviously not filed this years taxes, am I eligible for a 1031 exchange on this deal? It would help GREATLY if I could offset this capital gain. We are on such a shoestring budget that paying capital gains on $6400 will hurt. If we could make this a 1031 deal I would jump for joy.
Our other seven unimproved lots that we bought and sold throughout the year are from scattered resorts around our area. We made an average of $1500 per lot, but invested all of this money,(initial investment and profit), in a down payment on a distressed home that we are in the process of rehabbing to live in in the future. I don't think there is any way to defer the gains on these properties, right?
And the most important question. Can we legally avoid paying a self employment tax on the deals we did? What are the parameters that define a self employed investor? We only do this on a VERY part time basis. My wife and I are both gainfully employed, me by a government agency and my wife with a nationwide grocery chain. We each work full time at our respective jobs and have for years. My income is app. $23,000 per year and my wife's is $22,000 or so a year.
Where do I stand and what should we legally do to lessen my taxes on all problems.
Thanks SO much for any advice.
Sevensteps
You are correct to reach out for help but if I were you, I'd hire a CPA with RE experience to navigate the treacherous tax waters.
Most will give you a free initial consultation.
There are some extremely bright, experienced pros here, but everyone's personal and professional situations differ greatly and no one, except a tax pro, can tell you for certain what's best for you.
A 1031 sounds right for you but don't take it from me.
I''ve done them and like them, but that's my gig.
Always keep in mind that big money means big attention from the tax man and if you get audited, the last thing you want to say is "I got my advice on the internet."
BTW, CPA's are will represent you in an audit, should they arise, and explain your numbers to 'the man'.
Check www.taxtuneup.com. Not so much for the products, but for Ed Lyon, the guy behind them. He has clients (including us) all over the country. He is an Advisor, not a CPA. He works directly with our CPA. If you aren't comfortable with this, try your local REIA or affiliated group for a firm that caters to our market. Good luck.
No you missed the 1031.
Quote:Over the course of this year, we purchased 10 unimproved residential lots in my home town for varying amounts from various out of town owners. We subsequently sold these lots on the internet and other places.
We offered to sell three lots we had just purchased and finally agreed on $15,300 total. Based on my calculations, this gives us a capital gain of $6450. We closed on this deal on 7/15 of this year and got full cash payment on that date. We made an offer of $15,000 for 16.5 acres. On 7/17, we closed on that property. That was two days from when we got the money from our sale of three lots for $15,300.
This appears to be a good candidate for a 1031 exchange. Are we too late already? Yes, you are too late. For various reasons this transaction does not meet the requirements to participate in a 1031like-kind exchange. A 1031 exchange needs to be handled by a qualified intermediary who receives the proceeds of the sale and applies it to the purchase of the replacement property. Because you received the sale proceeds yourself, you have "constructive" receipt of the proceeds, and are not eligible to participate in a 1031 exchange for this reason alone. The sale of your lots is a taxable event.
Quote:We are on such a shoestring budget that paying capital gains on $6400 will hurt. I have more bad news for you. It appears from the facts and circumstances of your deals (as you have told us), that you are engaged in an active real estate business. As such, your lots are treated as inventory (or, stock-in-trade) and your profits are taxed as ordinary income. Capital gains tax treatment does not apply.
Quote:Our other seven unimproved lots that we bought and sold throughout the year, we made an average of $1500 per lot. I don't think there is any way to defer the gains on these properties, right?Your assessment is correct. All ten of your lots are dealer realty. Report your income and expenses on Schedule C, and your net income on Schedule SE. Yes, self-employment taxes are in play too.
Quote:And the most important question. Can we legally avoid paying a self employment tax on the deals we did? What are the parameters that define a self employed investor?Your question goes to the heart of the investment itself. Is the investment a passive investment, one held for the production of income (such as a rental property) or for future appreciation? If so, then you are not engaged in an active real estate activity, and self-employment taxes do not apply.
On the other hand, when you are simply reselling the property you acquire for the quick profits, then you are engaged in an active real estate activity. Since your participation is as a principal and not an an employee, you are also considered to be self-employed. Your net income from your active real estate activities is subject to self-employment taxes in addition to ordinary income taxes.
Quote:What should we legally do to lessen my taxes on all problems.The first thing you should do is establish a relationship with a tax professional who can guide you through these murky waters. Since you have already "dug this hole" and spent the money, there is not much you can do about the tax consequences now.
For the future, holding your property for long term appreciation makes your real estate activity a passive activity and makes your property eligible to participate in a properly structured 1031 exchange.
As a long term strategy, discuss with your tax professional how you can use a business entity to reduce your net taxable profits by diverting your active real estate profits into things like executive life insurance premiums, retirement plan accounts, auto leases for company car, paid medical benefits, even a reasonable salary, etc.
The 1031 LKE requires proactive planning, and (to my knowledge) can't be devised after the fact.
Consider the taxes you pay to be your tuition for future tax planning.
As a suggestion, I recommend that you make a mutually beneficial, charitable, and substantial tax deductible contribution to a terrific 501c3 Corporation. If you are interested, I'll PM you the details.
DaveT's response is right on target so I feel no need to repeat what he said. Basically you are screwed for all of the potential tax planning you can do. But don't let this work youself up. You made a profit still! That in itself is great because you got started!
My tax strategist told me that it is my job to make money but his job to help me keep the money I made. I think that is great advise and you should definatly start interviewing accountants (and in my opinion specialize in tax strategies).
A key way to get rid of self employment tax is to incorperate into an S-Corporation. This entity will hold your property. You will then set up another company that will act as a property manager in that you can hire work done, etc. (Your first company cannot have transactions other than buy-sell or the IRS will tell you that you should pay profit to an employee).
I have written an article that discusses this more too:
http://www.thecreativeinvestor.com/modules.php?name=News&file=article&sid=452
Good luck and congrats. This is a good problem to have!
Oh mercy...I am REALLY in for it then..From the best of my calculations, We will have app. $16,500 in pure gains from short term property sales. I can probably manage a slight loss on a rental property that I refurbed and am in the process of selling.
Based on my $16,500 gain, what does everyone think my amount of tax will be owed on that amount? What is the rate for Self employment tax? How much of what I sold falls under that rate? What about the rest? Are they under a different rate? Several of these properties, I did not buy with the intent of selling quickly. Two of those three lots I initially mentioned were bought by us with the intention of creating more rental properties on them. When I was offered a profit by the neighbor, I sold them. The others were bought and sold with the intention of making a quick profit.
If anyone can give me a REALLY ROUGH estimate of my tax due on $16,500, at least that will give me a headstart in getting tht amount together for the dreaded filing.
At any rate, thanks MUCH for the advice. Any more would be appreciated in this matter.
Sevensteps
Sevensteps, please, stop the madness.
Get a tax pro to help you; any advice given here will be nullified once the advisor looks at ALL of your records.
As mentioned above, you should itemize with his/her help and take advantage of the deductions.
Do you have a home office? Do you use your phone for work? etc.
You want a rough estimate? OK- $4800.
But it means NOTHING once you start factoring in the cost of running your sole proprietorship.
I know you don't want to spend the money right now, but as everyone has said, you truly need to get a good accountant.
As a former tax accountant, let me add to go to one right away, don't wait until the middle of tax season when they will be too busy to really help you. Just because they prepare your taxes in January doesn't mean you have to file them then. You can still wait until April 15th.
Also, be sure to find one that understands real estate, as it looks like you are well on your way to becoming a big time investor. Most preparers working for the discount firms do not have the experience or expertise to handle RE investors.
Good Luck !
[addsig]
Quote:If anyone can give me a REALLY ROUGH estimate of my tax due on $16,500, at least that will give me a headstart in getting tht amount together for the dreaded filing.Sevensteps,
If you are in the 25% tax bracket, then in the worst case you would need about $6700 to pay your tax bill. However, as you have already been told, only a professional tax preparer who has a view to your entire financial position can really give you a ballpark answer.
If you only learn one lesson from this experience, let it be that tax planning starts on January 1 not on December 15th.
When you talk with your tax professional, ask about the IRS installment payment plan. They will charge you some interest but it will allow you to spread out your payments over time.
With your combined $45,000 in income plus $15,000 from the sale of properties, it looks like you made about $60,000 which is about what I make. Believe, it or not, I am in the 15% tax bracket - married, 1 kid. If you are in that bracket fed taxes will cost about $5000 - so johnqreplies was right on. Of course, this is a very rough estimate. Part of your income may be in a higher bracket - expecially if you don't have kids or itemized deductions. However, you may have state income tax on top of this.
I used to be self-employed and had to pay tax quarterly. The deadline for 4th quarter tax remittance is Jan. 15 and you may have to pay a penalty if you wait until April 15th to remit. There's also a chance that you meet the safe-harbor requirements based on your day-job's witholding taxes being equivalent to what you paid the previous year - so you may not owe the penalty. Please don't wait until April to find out. I can't tell you here w/o reviewing the tax pubs and seeing all your info. Unless you want to read all the pubs on www.irs.gov, then you really need to get yourself an accountant very soon.
Ok, one question I just thought of? Do you have to buy a propertiy in the name of S corp to offset losses or can it be in your name and then you quit claim it? Or maybe you don't have to quit claim because an S is a Flow through corporation? Your thought?
scr2001,
I think you better start a new thread and ask your question again with a little more detail next time. What do you really want to know.