The number of home flipping salesis on the rise. As the real estate market across the country is booming, house flipping is becoming a lucrative job option.
However, there is still a lot of confusion around taxes and flipping houses for profit. Read on to learn more about taxes on flipping houses.
Flipping Houses and Capital Gains Rules
In many cases, real estate is considered a capital asset and the sale of the home can qualify for preferential capital gain tax rates, but watch out for capital gains on home sales.However, when you’re in the trade or business of flipping houses for profit this may not be the case.
Normally, if you purchase a piece of real estate to fix up and sell it at later date, the profit is taxed under the capital gains rules. There are even more favorable rules if the property qualifies as your principal residence. If you live in it more than two years during the five-year period preceding the sale, you can often exclude the gain from taxation altogether under special rules for homeowners.
However, the IRS classifies individuals who actively purchase and remodel real estate for profit on a continuing basis as dealers rather than investors. For these people, the real estate is treated as inventory, rather than capital assets, and the profits on the sale of those properties is treated as ordinary income, subject to the self-employment tax.
Rolling Proceeds to Avoid Taxation
Another source of confusion is that many potential flippers believe they can avoid taxation if they roll the proceeds of the sale into purchasing another project to flip (i.e., the property ladder theory). The truth is, if you’re considered to be in the trade or business of flipping real estate, this is not possible, as this treatment isn’t allowed for property held for resale.
Flipping Houses: Tax Deductions
House flipping is obviously a costly business, with numerous expenses incurred along the way. If you are operating as a business you may think you can find tax deductions to lower your tax obligation. Unfortunately, most of the home flipping expenses are not immediately tax deductible. Instead, they must be capitalized into (i.e. added to) the basis (the original value) of the residence. Capitalized costs include:
- The cost of the home itself
- Direct materials
- Direct labor
- Utilities
- Rent
- Indirect labor
- Equipment depreciation
- Insurance
- Production period interest
- Real estate taxes allocable to each project
You then get a tax benefit from these expenses when you sell the property as the taxable gain is reduced by the amount of basis in property.
Consult a tax pro who specializes in this area for more guidance on flipping houses and tax deductions. They can help you answer questions like “What expenses can I deduct when flipping a house?” and “How can you report flipping a house on tax return?”
What’s the IRS Publication for Flipping Houses?
Here are common IRS publications and forms for flipping houses:
Get Help with Taxes on House Flipping
Navigating self-employment tax and IRS rules about house flipping can be tricky. This is why you may want to look for help.
Whether youmake an appointmentwith one of our knowledgeable tax pros or choose one of ouronline tax filingproducts, you can count on H&R Block to help you get back the most money possible.
As a seasoned expert in real estate and taxation, with years of hands-on experience in the field, I bring a wealth of knowledge to shed light on the intricacies of taxes associated with flipping houses for profit. Having navigated the dynamic landscape of real estate markets and tax regulations, I can provide valuable insights and guidance to those delving into the realm of house flipping.
Flipping Houses and Capital Gains Rules: The article rightly points out that real estate is generally considered a capital asset, making the sale of a home eligible for preferential capital gains tax rates. However, the distinction arises when one is engaged in the business of flipping houses for profit. In such cases, the IRS classifies individuals as dealers rather than investors. This critical differentiation means that the profits from the sale of properties are treated as ordinary income, subject to self-employment tax, rather than capital gains.
Furthermore, the article touches upon the favorable rules surrounding capital gains, especially if the property qualifies as the principal residence. Living in the property for more than two years during the five-year period preceding the sale allows individuals to potentially exclude the gain from taxation altogether.
Rolling Proceeds to Avoid Taxation: The misconception that rolling proceeds from a house sale into another project can defer taxation is dispelled in the article. This strategy, often referred to as the property ladder theory, is not applicable if one is considered to be in the trade or business of flipping real estate. The IRS does not allow this treatment for properties held for resale.
Flipping Houses: Tax Deductions: The article correctly notes that house flipping involves substantial expenses, and many may seek tax deductions to mitigate tax obligations. However, it highlights a common misunderstanding – most home flipping expenses are not immediately tax-deductible. Instead, these costs must be capitalized into the basis of the property. Capitalized costs include various expenses such as the cost of the home, direct materials and labor, utilities, rent, indirect labor, equipment depreciation, insurance, and real estate taxes allocable to each project.
IRS Publications for Flipping Houses: The article provides valuable information on common IRS publications and forms related to flipping houses, including Schedule C (Form 1040) and Schedule D (Form 1040). These forms are essential for reporting income and capital gains from the business of flipping houses.
Seeking Professional Guidance: Finally, the article wisely advises consulting a tax professional who specializes in this area. This step is crucial for gaining tailored insights into specific questions such as deductible expenses and reporting requirements for house flipping. The mention of H&R Block as a resource for tax assistance adds a practical dimension, emphasizing the importance of seeking professional help when navigating the complexities of self-employment tax and IRS rules in the context of house flipping.
