Many people have heard of flipping houses for quick cash. It’s popular on television, and there are plenty of articles full of research for the aspiring flipper. If done right, it can work and there is profit to be had. However, the beginning flipper needs to be aware of the taxes they’ll have to be involved in when they finally make those houses sell. Uncle Sam and the IRS will want their cut, and that cut may be bigger than you imagine.
For example, the beginning house flipper may not be aware that if you keep a house for less than a year and then flip it for a profit, that profit is going to be taxed as ordinary income. Those short-term gains can be taxed by up to 35%. Ouch!
On top of that, if you’re the type of person that ends up flipping houses consistently, you will also need to be prepared for additional taxes on top of that. By flipping consistently, you run the risk of having the IRS look at your transactions and label you as a business. If this happens than they get a bigger portion of your profits. Not only do you have to pay the ordinary tax, but now you’re subject to self-employment taxes. That’s an additional 15.3% of your profit that the government will take.
However, don’t let the taxman keep your dreams of making money stop you from doing this just yet. If you have the patience and the opportunity to do it, there are plenty of legal ways to lower or get rid of much of the taxes that you will make on your profits.
The first one is to keep the property for a year. By keeping the property for more than a year, you’re only subject to paying long-term capital gains. Now instead of paying up to 35% like you would have if you immediately sold the house and had to file it as a short-term gain, you will only pay up to 15%. That’s a substantial amount of profit that you now get to keep just by being patient.
Also if you’re patient, you can just wait until you get a flipping opportunity that didn’t work out so well. When you realize that you will be suffering losses on another long term asset, you could then sell and have the gains placed against the losses from the other asset. This will lower the amount of taxes that you will have to pay since the overall gains will be seen as much lower.
Do you want to avoid taxes altogether? Then consider your flip your temporary home. If you live in that house for two out of the last five years then up to $250,000 of your profit is now excluded from taxation. If you’re married filing jointly this amount doubles.
Of course, you may not have the time to wait for that period of time or even wait for just one year. No matter what you choose to do, be sure to keep excellent records because you will need them when you go to file your taxes. Flipping is still a hot way to make money in the real estate world. Just make sure that when you try to figure out how much profit you really made from the venture, you pay your share of the real estate treasure to Uncle Sam.