Having worked with real estate investors in Central Virginia for some time now, one thing that I am starting to realize is that many of them do not realize the tax consequences of what they are doing, especially with regard to those that are flipping houses.
Many people watch the shows on TV, go to a seminar, or watch late night TV and decide to start flipping houses.
One of the most highly taxed (and highly scrutinized) areas of a tax return is the self employed business, mainly because of excessive deductions taken in this area in the past, but also because not only is self-employment income subject to income tax, but it is also subject to self-employment tax.
Self-employment tax is basically social security (SS) and medicare (MC) taxes on your earnings. You see, when you work for someone else, SS and MC are taken out of your paycheck at a total rate of 7.65% of your earnings. Your employer matched that amount and sends in 15.3% of your earnings to the government for social security and medicare on your behalf. Big Note: When you are self employed, you pay all 15%!
This brings us to the subject at hand...flipping houses. The IRS would like to consider this income as self-employment income. This obviously would be to their benefit, as the flipper would pay income tax and self employment tax on that income.
Most house flippers are told (in their courses that they buy on late night TV, by friends, or even accountants!) that this income is capital gains income, and there should be no self employment tax assessed.
Problem is...(for the flipper anyway), that the flipper will have a hard time disputing it is not self employment income, unless this is a "once in a blue moon" transaction. If they are doing three or four houses a year, they do not have much of an argument to dispute the IRS claim that they are self-employed, especially if they have no other job. This means $0.15 less out of their pocket for every $1.00 they made! The IRS will argue that they are just like anyone else that is self-employed out there selling a product.
House flippers need to beware. The larger the house flipping trend grows due to popularity and publicity, the more the IRS will crack down on it.
If you are looking to buy or sell real estate in Central Virginia, call Dale Campbell, CPA, Cloverleaf Realty, 804-516-3280.
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