Flipping Property And 1031 Exchange
Hello, I have a property that I plan on rehabbing and flipping with in 6 months. I'm buying it for 65K, putting about 30k into it and then selling it for approximately 140k. What is the best way to treat this situation. Should or Can I put it into a 1031 exchange to beat capital gains. If not, how would I get taxed on the gain. 18% Capital gains, and then 25% on ordinary income ?? Any advice would be appreciated to help this newbie out on his first deal. Thank you
According to several posts by Dave T in answer to the same or similar questions in this forum, all of your profit is ordinary income taxed at your ordinary income tax rate. Furthermore, self-employment income taxes are also assessed on your profit.
Flip property is not eligible to participate in a 1031 exchange.
Many of the other posts in this forum go into more detail.
check it out.
A CPA said if I'm a build and constantly own a builds they I the would not be eligble for short/long term gains.
However you own this propery, as yourself or in a entity of some sort, you should understand what the tax-man will want and how to minimize that.
If you are truly flipping - you will likely pay at ordinary income and woudl not be eligible for a 1031. If you can slwo your process down somewhat and rent the property for awhile (longer is better) you can probably exchange. Talk to an accommodator about it. Also, there are a number of posts on a topic on exchanging form an LLC that talk about how you intended to use a rpoerty and the holdign period. Check them out.
Holding Requirement for 1031 Exchange Relinquished and Replacement Properties
One of the most frequently asked questions is how long does a taxpayer need to HOLD his or her relinquished property before selling and doing a 1031 exchange and/or how long does he or she need to HOLD the replacement property after doing a 1031 exchange.
This is not an easy question to answer. The Department of the Treasury Regulations and numerous rulings make it very clear that the taxpayer must have the INTENT to HOLD his or her property for rental, investment or use in a trade or business. In fact, if the taxpayer’s relinquished property was purchased just before the 1031 exchange transaction the Internal Revenue Service has routinely taken the position that the taxpayer actually purchased the property for sale rather than HOLDING it for investment. The Internal Revenue Service has also taken the position that if the replacement property is sold immediately after the 1031 exchange transaction then it was not HELD long enough to qualify for 1031 exchange treatment. A number of court decisions have been handed down that have also taken the same position, although they have been somewhat more liberal than the Department of the Treasury and the Internal Revenue Service.
Taxpayers face a variety of Regulations and Rulings that clearly require the taxpayer to HOLD his or her property for qualified use (rental, investment or use in a trade or business), but the pronouncements do not definitively describe how long to HOLD the property or exactly how to demonstrate the taxpayer's INTENT to HOLD the property. Therein lies the problem. So, how long must a taxpayer HOLD a property to demonstrate INTENT?
The amount of time a taxpayer HOLDS the property is not the only determining factor, but it does play an extremely important role in demonstrating INTENT. The easiest way to demonstrate the taxpayer’s INTENT to HOLD a property is to do just that – HOLD the property. The longer the taxpayer HOLDS the property the stronger his or her case (argument) will be.
Tax advisors frequently recommend that taxpayers HOLD the subject property for at least one (1) year because the taxpayer will have little difficulty proving INTENT with a one (1) year HOLDING period. The taxpayer will mostly likely have two (2) income tax returns listing rental income, expenses and depreciation, which provide a solid case to prove the INTENT to HOLD a property.
It is also clear that if the taxpayer is considered a dealer he or she will not qualify for 1031 exchange treatment because he or she is technically HOLDING property for sale (inventory) and not for investment purposes. Similarly, if the taxpayer’s INTENT is to buy, fix up and then sell (flip) property he or she clearly does not have the INTENT to HOLD and will not qualify for 1031 exchange treatment.
The HOLDING issue becomes substantially more complicated when a taxpayer HOLDS legal title to his or her relinquished property, or is planning to HOLD legal title to his or her replacement property, in a partnership, corporation or multi-member limited liability company. The partnership, corporation or multi-member limited liability company can certainly sell relinquished property held in that entity’s name and then purchase like kind replacement property to be HELD in the same entity’s name and qualify for 1031 exchange treatment. The complexities arise when some of the underlying shareholders, partners or members wish to go separate ways. This is beyond the scope of this article, but should be mentioned because of the HOLDING issues and other complexities involved.
Having said all of that, only the taxpayer can determine how aggressive or conservative he or she wants to be. The longer a taxpayer HOLDS a property the more conservative he or she is being and the easier it will be to prove INTENT to HOLD a property. The shorter the HOLDING period the more aggressive the taxpayer is being and the more difficult it will be to demonstrate his or her INTENT to HOLD a property for rental, investment or use in a trade or business.
1031 exchange transactions are complicated real estate structures that involve significant tax and legal issues. Taxpayers should always consult with competent legal, tax and financial advisors prior to entering into and completing a 1031 tax deferred exchange transaction.
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Some of the replies assume you are a Dealer of real property in the eyes of the IRS.
I don't think that's necessarily the case. Dealer status is a "matter of fact", reflecting your underlying intent in purchasing the property.
How does the IRS know your intent?
By your actions.
I don't know your circumstances, but I'd consider all options and have my "intentions" reflect the most positive outcome tax wise
I actually had a situation a year ago that is on point for this issue. I bought a pre-foreclosure with intent of leasing back to the owner. They didn't pay so I wound up initiating eviction proceedings. I did not want to own the house, so I thought about a 1031. I contacted a 1031 qualified intermediary and asked if length of ownership was an issue in doing a 1031. He told me that it was not, that since I intended to rent the property it qualified for a 1031. He did say that holding time may be an issue if there is a rapid chain of exchanges decending from the same property.
Thank you for your responce. I think i'm going to simply rent out the house for a year and then do a 1031 exchange. I'm buying the house for 65k and it's worth about 100k. How does the process of getting the equity out work. How much would it cost me to take out 35k in equity?
This might be difficult. Most banks take the lessor of the purchase price or appraisal to base their LTV amounts.
I ran into this a while back. I paid 85K cash for a 4plex. Four months later I went to the bank to get financing on it. I knew comps were selling for 120K . I figured I could borrow 75% of 120K but I quickly learned that since less than one year went by, they would have to use the sale price to run their loan figures on.
This absolutly does not make sense to me, but I did call several banks and got the same answer. I mean if you think about it, I could sell it for 120K to John Doe and John Doe could go into the same bank and get a loan based on this 120K sale price. Where is the logic? I mean if it is worth 120K...then it is worth 120K. I am sure there must be lenders out there that don't have this silly requirement?
This might be difficult. Most banks take the lessor of the purchase price or appraisal to base their LTV amounts.
I ran into this a while back. I paid 85K cash for a 4plex. Four months later I went to the bank to get financing on it. I knew comps were selling for 120K . I figured I could borrow 75% of 120K but I quickly learned that since less than one year went by, they would have to use the sale price to run their loan figures on.
This absolutly does not make sense to me, but I did call several banks and got the same answer. I mean if you think about it, I could sell it for 120K to John Doe and John Doe could go into the same bank and get a loan based on this 120K sale price. Where is the logic? I mean if it is worth 120K...then it is worth 120K. I am sure there must be lenders out there that don't have this silly requirement?
Taxes are a concern. 1031 are not the only technique for dealing with. A good CPA should be able to help.