Watch Out Here Comes The Tax Man!!!
I have a question about what one calls oneself on the tax return.
I have been warned not to sell too many houses in one year or the IRS will call me a dealer.
What does a real estate investment professional call themselves when it comes to taxes.
And what is the limit as far as how many properties one can invest in annually.
thank you -
Does it matter if you flip it or hold it as a rental? Or is there a difference?
What job title generates most of your annual active income? If you are a computer programmer who invests in real estate part time, then call yourself a computer programmer. If real estate investing is your full time job then call yourself a real estate investor.
I don't know why you are worried about being "called" a dealer. There is no stigma attached to being a dealer in real estate. If your sole real estate business is flipping property, then each of your property sales is a dealer disposition -- even if you do only one or as many as 100 -- and I would still put "real estate investor" on the tax return.
The disadvantage of a dealer disposition is that your flip property is not eligible for 1031 exchanges and all of your profits are fully taxable in the year of sale. No problem for you anyway if you cash out completely each time you flip a property. The short term capital gains tax rate is the same as your ordinary income tax rate also, so you are not disadvantaged by reporting all your flip income as ordinary income.
As far as your federal income taxes are concerned, there are no limits on real estate investing. You are only limited by (any or all of the following) the amount of money you have to invest, your ability to finance each deal, and the amount of time you are able to devote to your business.
Not for sure on this, but I have heard that if your considered a dealer by IRS you can't depreciate any of your long term properties. So in the future you decide you want to own some rentals this may be a tax problem. Talk to your accountant or a tax or real estate attorney.
There is a real difference in what you do, not what you call yourself, as far as taxation goes. If you show that you generally hold your properties for rental income and then sell them at a gain, you will not pay self-employment tax on the sale, just capital gains tax. If you are flipping properties, the IRS can assume that you are doing this as a business and then you will also pay the self-employment tax (about 15%) on your profits, along with the income tax on the profits. There is no hard and fast rule as to how many properties you have to sell, but if you do have a few flips, consider owning them in an S Corp and pay yourself a reasonalble salary of $35,000. You will pay your SE tax on the $35,000, but then you can pay yourself dividends that are not subject to the SE tax. Regardless of this scenario, if you hold your investment properties for at least a year, all you pay is a maximum of 15% long-term capital gains tax. Understand?
Dave T,
Thanks for the clarification; I see what you’re saying. It really doesn’t matter one way or the other. What matters is that you are doing it. In fact if you get to the level where you are required to represent yourself as a dealer, then I guess you’re doing pretty well.
THe unfortunate thing is that if you are classified as a dealer then you have to pay taxes on all the gains (received or not right now) This means that if you buy at 50K and sell at 100K and take 50K down and carry the note for 20 years that you will have to come up with the taxes for the entire 50k even though you haven't received it yet and will over the next 20 years.
One way around this is to deal out of an S corp. your losses/ expenses as an investor can be subtracted from your earnings or your wife's earnings in another job. You can pay yourself a minimal wage (and I mean minimal) and take the rest in dividends and avoid the self employment tax on the majority of income claimed.
There are of course other entities that could be explored as well.
Good Luck!
[addsig]
joefromphilly
Okay so if you hold your properties under a LLC you can then pay yourself a salary, and then you only pay SE tax on that amount? However if you hold the properties for a minimum of a year the max amount is the 15%.
Sounds like the ideal situation is to hold for a year and then flip it.
the problem with an lLC is that you get to pay the 15.4% self employment tax on all money you remove other than your expenses.
Getting creative I would buy under an LLC holding company (for reasons of protection, putting property in land trust) with an S corp as one of the partners.
That way you can still take advantage of fewer taxes. you can't be forced to sell in a lawsuit etc.
If you want to pay yourself a salary, you need to set up an S Corp (or a C Corp, but an S is simpler), but not an LLC. You will become an employee of the corporation. Make sure to keep the salary reasonable (no $1 salay) and pay the SE tax on it.
Now, if you have enough income from your regular job to exceed the threshold of the FICA tax (part of the SE tax, along with the Medicare part), you will not pay the FICA part on your flipping profits. This income level is around $90,000 a year. You will pay the Medicare rate on all your ordinary income (including flipping profits) which is around 2.9% or so. I don't have the exact amount at my fingertips.
An LLC is great as a holding company and taking your profits through the S corp.
LLC's offer more security in the event of a lawsuit than either an S or C as a judge cannot force the general partner to discharge funds or sell assets.
I agree with Joe that I would prefer to take profits through a S or C corp. depending on my earnings for the year etc.