I’ve read that if I don’t hold a rehab long enough before selling, that the profit will be considered income rather than a capital gain and will be taxed at my marginal rate plus SE tax. Example: 28% + 15% = 43%.
My question: Assuming the 43% is for Federal Taxes, what about State Taxes on the profit? Will I owe those also?
Thanks.
Most state taxes now are a factor of your federal…in most cases, yes, you will owe state taxes…
Keith
Sounds like there would be a significant bite taken out of the profit on a quick flip. Perhaps renting it out for a year before selling would be the thing to do. I’m sure I’d have the expense of “sprucing it up” after the tennants moved out, though.
What about a 1031 exchange? Is there a holding period before one can be utilized?
The IRS is spectacularly vague…at leat 1 year is the accepted norm…
Keith
When I asked my accountant about a 1031 he refered me to my lawyer whom he knows as well. My lawyer said in kind of a demeaning voice that I should just anty up and pay the taxes because they would have to be paid eventually it is just a way to temporarily avoid them. He stated in a very condesending voice that 1031’s are for the extremely wealthy.
I was a little offended as I felt belittled, although he did add that he has never used a 1031. Drop the attourney or is there a fair amount of truth to what he says?
Wendy
Defer taxes when you can, shoot lawyers when you see them!
Q: What’s brown and black and looks good on lawyer?
A: A Doberman
Bad advice IMO…theoretically, you can keep “trading up” and defer the taxes indefinately…right to the grave. Maybe he’s a good lawyer in some other area, but maybe he should stick to the law and leave the “ciphering” to the CPAs/Enrolled Agents…?
Why should 1031s only be for the “extremely wealthy”? The tax code is for everyone…
Keith
Keith,
I felt a little like it was a slap in the face. No, I’m not extremely wealthy but A.) I don’t need that pointed out to me and B.) I’m not broke and I feel my husband and I do quite well. C.) I still don’t need that pointed out to me!!
I like the doberman thing!
You just gave me more info than my acountant and lawyer both. I was unaware that I could keep trading up indefinetly and I suppose I could borrow my equity back so I could enjoy the cash and still have the interest and depreciation write off’s?
I bought a book today, hopefully it will answer all of my questions.
Sounds like I need to just tell my accountant want I am going to do instead of asking his advice. But first I need more knowledge on the subject. I just thought that was his job.
Wendy
P.S. Thanks Keith
Ah, knowledge. I’m in the agonizing stage of aquiring knowledge right now. This forum is overloading my circuits!
Actually, Carleton Sheets covers this pretty well in his course…at least the basics of it. If you have SFH you can 1031 up to multi-famililies and then 1031 to Triple Net Lease commercial properties and cut the management way down and still enjoy the strong income stream.
You can always borrow against the equity provided your credit is worthy and you can find the lender to do it!
Keith
With a 1031 exchange…
Does the property you’re trading to have to cost or be valued more than the property that you sold?
With the new property, are there any stipulations on the debt? Does it have to have the same debt load, can it be less, etc.?
Thanks.
I believe that you must trade up in value.
I don’t believe there is any debt stipulation as far as the debtor is concened however as far as the irs is concerned I believe the $ must all be dumped into the new venture. After you dump it in you can refinance it and take it out.
The very key word here is I believe…I am not for sure. I would check with my accountant however that didn’t get me far last time.lol
Anyone else…
Wendy
You do not need to trade up but anything that you receive that is not “like kind” to what you currently own (e.g., income property for income property) like a car, cash, etc. is referred to as “boot” and is taxable…most folks do continually trade up as they climb the ‘property ladder’…
The IRS is normally unconcerned about your debt load.
Keith
Actually under a 1031 exchange, there is a term “debt relief” that comes into to play becuase its viewed as a gain.
If you buy a property of lesser value and/or take a smaller mortgage you might have a partial 1031 exchange whereby you end up with a taxable amt. Most 1031 exchange books will have a worksheet to help you calculate whether you have a full or partial 1031 exchange.
There was a nice loophole several years back where you could do 1031’s and then on your last one, rent the property out for a year, then move back into it. Then after two years it becomes a primary residence and you could sell and get 500k tax free if you’re married. Now you can’t do that, but there’s still a slight loophole, there has to be some kind of external event not under your control like a loss of job, divorce, etc that causes you to move back into the property. That was one way to avoid paying taxes completely.
In the taxes game, sure you have to pay, but the later you pay them the better. Ideally, you do 1031’s forever and when you die, you pass it onto your heirs and with a stepped up basis on death, they don’t owe any taxes if you’re under the estate tax threshold.
Of course the death part makes it hard to enjoy the fruits of your labor.
Yes, you can still do that but they change the law where you have hold for 5 yrs. It was enacted in Oct 2004 and it is outlined in an IRS revenue procedure (I can’t rember the number) however, he some further info.
http://www.landam.com/NR/rdonlyres/CF6515DF-8290-459B-8DA4-9A4B8EF571E5/0/FFiveYrHold.pdf
OK, question here… if you continually trade up, won’t you still owe capital gains taxes upon sale of the property?
Understand that 1031 only DEFERS the gain; not reduce or eliminate it. For Federal taxes, you can continue to trade the same pool of equity multiple times and not incur a current year tax liability.
For state taxes purposes, if you move between states, then the sale of the replacement property (i.e. the 2nd tier transaction) may trigger the taxation of the 1st property’s profit. This is difficult for states to detect when this 2nd sale takes place since it out of state so you should consult a tax professional for further advice if you get into that situation.
aak5454 - You mentioned some “1031 exchange books”. What are the books you recommend to read?
Brian
I would like that info too please.
Thanks,
Wendy
I have a couple of different books.
Perhaps the best is obtained at
They are a real estate agent training provider, but they sell their books to anyone (I’m not an agent) and they are very cheap.
Their books are excellent and an absolute steal at the price offered (I own a number their titles)
I like their book as it is very dry and concise with bullet point list. It also had examples and worksheet tables They also get into some very complex situations which may be useful to some people. It probably not a book that you need to read cover to cover, but only the sections that apply to the situation.
I am sure there are other good books as well. I think the key to selection of a book on 1031 is it should have lots of examples and also going into sufficent detail about unusual situations. For example, I had one exchange where I split the equity into 6 replacement properties. There are some rather specific and different rules about identification that are not covered in sufficent detail in short articles or general real estate books.
Also, having a good professional accomodator is important. The key is educate yourself so you can ask the right questions and give sufficent information to your accomodator to insure a proper exchange.
Good luck